Earlier this year, we discussed the Inflation Reduction Act (IRA)’s tax credit transferability provision and its possible implications for the clean energy market. In the past, renewable energy developers were required to partner with financiers to receive the full value of credits like the investment tax credit (ITC). This process was complex and created a number of hurdles which slowed renewable energy deployment. Transferability simplifies the financing process, allowing project owners to monetize their tax credits, raising early-stage project-level capital without the complexity of a conventional equity partnership. This simplified structure is not only beneficial to developers, but also attractive to investors as they can now provide loans against guaranteed tax credit monetization.
We have seen promising market growth since our last writing on this topic. The Congressional Joint Committee on Taxation (JCT) originally valued the IRA’s tax credits at $270 billion over ten years. That estimation grew to $570 billion in April, and as of June soared to $633 billion. The message: people are very interested in the simplified transactions allowed by tax credit transferability. Developers and investors alike expect transferability to play a significant market role in the coming years. In an American Council on Renewable Energy (ACORE) survey, both groups ranked it high on the list of expected financing sources between 2023 and 2026; over 80 percent of surveyed investors indicated that they plan to use transferability or direct pay, and 61 percent plan to use both for upcoming projects.
Where can we expect to see the greatest changes, and who will benefit the most from the new structures? In just one year, the tax equity market has massively expanded. While other markets flounder amid inflation and heightened debt costs, the IRA’s new credits and their transferability are driving consistent project development. Hydrogen, carbon capture, and standalone storage markets have already experienced increased interest. Additionally, a new industry has emerged: a collection of specialized brokers and software platforms to connect tax credit buyers and sellers and guide bidding procedures.
Corporations and banks will likely make up a large segment of tax credit purchasing, particularly as they expand environmental, social, and governance (ESG) targets and strategies. Investors and developers also speculate that insurance companies, equity firms, and oil and gas companies will capitalize on transferability. Lastly, experts speculate that we will see immense renewable energy growth from large non-profits who were unable to utilize tax-based incentives prior to the IRA.
Despite the possibilities on the horizon, transferability’s newness brings unavoidable wrinkles. With a wealth of available credits, there may not be enough buyers to start. At present, most agreements may still center classic tax equity as new players transfer into the market. Other provisions further limit the market, for example not allowing individuals to purchase credit and prohibiting tax-exempt entities from claiming credits when partnering together.
One of the largest uncertainties is the shift in audit risks and complications of recapture. The IRS can reclaim tax credits from failed, sold, or ineligible projects; at present, if an invalid credit is sold, the buyer is responsible rather than the original credit holder. However, solutions exist: recapture insurance is an established resource, and insurers are interested in the opportunities provided by the transfer market. Establishing concrete buyer protections is essential to successful deployment of tax credit transferability.
Leyline anticipates exciting clean energy growth driven by the opportunities in the IRA and we are poised to partner with developers and provide capital allowed under this new financing arrangement.
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