Federal Solar Tax Credit
The Federal Solar Tax Credit or The Federal Investment Tax Credit (ITC), was passed under the George Bush administration via the Energy Policy Act of 2005. The ITC was created to facilitate the adoption of clean energy. It started as a 30% credit (which ended on 1/1/2020 when the tax credit stepped down to 26%, for more info click here: The Effects of the ITC Step Down on Solar Installation) capped at $2,000 for residential projects, but that provision was removed in 2008.
What is the Solar Tax Credit?
The Solar ITC is a 26% tax incentive on your gross solar system cost.
The only requirements are that you:
- You own the system by going solar via cash or a solar loan (lease or PPA financing cannot claim the tax credit)
- You have income tax liability, which is what this incentive reduces
Note, if your 26% tax credit is $6,000 total, and you only have $5,000 in personal income taxes one year, you can rollover the remaining $1,000 credit to your next year’s taxes. The federal government has already extended the incentive expiration date three times before. The most recent extension in 2020 added a 26% extension until 2022 and “step down” schedule that gradually phases out the credit over a few years. As of January 2021, we are now in the first slab of the tax credit step down with a 4% reduction from 30% to 26%.
Solar Tax Credit Step Down Schedule
2019 was the last year to claim the full 30% credit. As of 1/1/2021, the credit has dropped down to 26%.
Here’s the full solar Investment Tax Credit step down schedule:
*From 2024 onward, the residential portion of the Solar Tax Credit will be eliminated entirely. A 10% tax credit will remain for commercial, industrial, and utility scale projects only.
What will happen when the Solar Tax Credit steps down?
This is speculative, but we foresee a couple possible outcomes to the tax credit stepping down:
- States take charge
- As more and more states like California launch 100% Renewable Portfolio Standard (RPS) targets, one can expect additional solar incentives to become available for homeowners residing in those areas to help the state achieve its RPS goals.
- Congress adjusts the step down
- There is a possibility that congress may delay or adjust the tax credit step down. The tax credit was initially passed under a Republican administration and extended under both Republican and Democratic administrations. There is potential bipartisan support for an extension.
- With the most recent extension, the very fact that legislators built in a step down makes us find it less likely to be extended at the current 26% level.
- Residential tax benefits are also going away entirely in 2024.
How big of a difference is a 26% tax credit versus a 30% tax credit?
Since the Investment Tax Credit is applied to your solar array’s gross system cost, the amount you receive is dependent on the amount of solar you’re purchasing: bigger system, bigger credit.
Here’s a quick example of the difference in credits in 2019 and 2021 for a 9 kW solar array at an average cost of $27,000.
- Installed and claimed in 2019 taxes at the full 30% level, your credit would be $8,100.
- Installed and claimed in 2021 taxes at the 26% level, your credit would be $7,020.
That’s a savings difference of $1,080 compared to the previous year.
While ~$1,000 may not seem like a huge difference to some, this doesn’t include the amount that you’ll save on the rest of your project if applicable. For a new roof and home batteries, for example, the cost of both can be claimed on the tax credit, adding another $300-$1,000+ to the value lost in the stepdown. If you’ve already decided to go solar and are just waiting for the right moment, you should move forward this year to maximize your savings before the ITC steps down again in 2023.
How is the Federal Solar Tax Credit Calculated?
The gross system cost can include any improvements needed to facilitate the solar installation. This includes any electrical work needed for the installation such as a panel box upgrade, and also includes roof work under the solar array. Please speak to your tax advisor for specific advice for your given circumstances.
The credit is a dollar for dollar income tax reduction. This means that the credit reduces the amount of tax that you owe. Many clients mistakenly believe that getting a tax return would make them ineligible for the ITC, but this is not the case. As long as you’ve been paying taxes in some form throughout the year, if you get a tax return and claim your ITC in the same year, your ITC is simply added to the amount of your tax return (with an annual cap of the total amount of tax liability you’ve paid into throughout the fiscal year).
How Do Solar Loans Affect the Solar Tax Credit?
There are two types of solar loan in relation to the tax credit. Type 1 has one monthly payment amount. These loans assume that you will submit your tax credit to the lender to buy down your principal and secure that monthly payment. If you do not put your tax credit back into your loan, this will initiate another loan, in the amount of your tax credit, at the same APR.
The second type of solar loan is one in which there is a different payment amount for year one than for the subsequent years. In this type of loan, your payments are based on the entire loan amount. When you receive your federal tax credit, you’ll have the option to use it to re-amortize your loan to secure lower monthly payments. You can also keep the federal tax credit, and your payments will remain the same. Solar.com can help figure out which solar financing option is best for you.
How To Claim Your Tax Credit?
To claim the ITC you will need to file under IRS Form 5695. You’ll receive your tax credit the following year when you file your taxes for the year in which you installed your panels. If you don’t qualify for the entire tax credit in the first year you can roll over the amount for up to 5 years.
Now that you have your very own solar system, the solar Investment Tax Credit (ITC) is yours for the claiming. How exactly do you go about it?
We’ll walk you through the exact, step-by-step process of filing for the federal solar tax credit.
Of course, we recommend talking to a tax professional to make sure you’re not missing anything. But if you’re a do-it-yourselfer who knows your way around a tax form (or if you’re just curious), this guide walks you through basic filing.
What Do I Need to File?
You will need two IRS tax forms (plus their instructions) to file for your solar panel tax credit.
You’ll also need a copy of your solar installation agreement.
Form 1040 is the standard federal income tax form. But this year, you get to fill in a few extra boxes to reduce your tax burden.
Federal Solar Tax Credit Filing – Step-by-Step
Fill in Form 1040 as you normally would. When you get to line 53, it’s time to switch to Form 5695.
Step 1: Find out how much your solar credit is worth.
- Enter the full amount you paid to have your solar system installed, in line 1. This includes costs associated with the materials and installation of your new solar system. As an example, we’ll say $27,000.
- For this example, we’ll assume you only had solar installed on your home. Enter “0” for lines 2, 3 and 4.
- Line 5 – Add up lines 1 through 4. Example: 27,000 + 0 + 0 + 0 = 27,000
- Line 6 – Multiply the amount in line 5 by 26% (.26) (.30 if you’re filing for a system that got installed in 2019) Example: 27,000 x .26 = 7,020
- Line 7 – Check “No.” Again, for this example, we’re assuming you didn’t have any other systems installed, just rooftop solar.
- Lines 8, 9, 10 and 11 – Don’t apply to you in this example for the same reason. You can fill each with 0 and skip down to line 12.
Step 2: Roll over any remaining credit from last year’s taxes.
- Line 12 – If you filed for a solar tax credit last year and have a remainder you can roll over, enter it here. If this is your first year applying for the ITC, skip to Line 13.
- Line 13 – Add up lines 6, 11 and 12 Example: 7,020 + 0 + 0 (if it’s your first year filing) = 7,020
Step 3: Find out if you have any limitations to your tax credit.
- Line 14 – For this line, you’ll need to switch to the worksheet at the top of page 4 in the 5695 instructions.
- Worksheet Line 1 – Enter the total taxes you owe (you found this out earlier and entered it into line 47 on your 1040 form).
- Worksheet Lines 2 through 9 – If you’re claiming other tax credits, enter them here. For simplicity, we’ll assume you’re not doing so. Example: 0
- Worksheet Line 10 – Add up lines 2 through 9. Example: 0
- Worksheet Line 11 – Subtract line 10 from line 1 to find the amount of the credit you can claim this year. Example: 7,020 – 0 = 7,020
Once you have this number, enter it into Line 11 of the worksheet.
Step 4: Find out how much of the remainder (if any) you can roll over into your tax return next year.
Almost done! Switch back to your Form 5695.
- Line 14 – Enter the number from line 11 of the worksheet. Example: 7,020
- Line 15 – Enter the lesser number of line 13 or 14 (it depends on what your total tax bill is vs. your total tax credits). Example: 7,020
- Line 16 – Find the difference between lines 15 and 13 to see if there’s any credit to carry forward for next year. In our example, it zeros out. Example: 7,020 – 7,020 = 0
Step 5: Apply the amount found in Form 5695 to your tax bill on Form 1040.
- Last step! Write the amount from Form 5695 line 15 into line 53 of Form 1040. Example: 7,020
You did it!
How do I make sure I’m eligible to claim the Solar Tax Credit?
To be on the safe side, your solar project should be fully installed and paid for in 2022 to be absolutely certain that you can claim the tax credit in 2022’s taxes.
Also note that we don’t consider any of this article tax advice, and we are not tax professionals in any way. Always speak to your tax professional to get professional advice.
This may not seem like a concern in early January 2021, but the urgency increases exponentially towards the end of 2022. In 2019 we actually experienced unexpected delays due to the extremely high volume of customers trying to guarantee their full 30% tax credits, so these two years we recommend starting as early as possible to make sure you don’t lose out.
Even though the actual installation of a solar system usually does not take more than a single day, many homeowners do not realize that a solar project may take weeks to complete after contract signing. This is due to factors such as permitting, financing approval, utility approval, and so on.
Therefore, to be 100% sure that you can claim the 26% ITC, the sooner you move forward with your project, the better.
Towards the end of 2022 as word begins to spread about the incentive stepping down, solar installers will definitely get busier and busier, meaning your installation may be scheduled farther out than normal. Click here to sign up and start comparing solar bids.