How Does The Federal Solar Tax Credit Work?
Dollar for dollar, the federal solar tax credit is the greatest economic incentive for homeowners to invest in solar panels and/or battery storage. With a little extra paperwork during tax season, you can effectively recover 30% of the total cost of your solar system, with no maximum limit.
So, you can claim a $6,000 credit on a $20,000 solar system or a $15,000 credit on a $50,000 system, as long as you meet the eligibilty critera.
In this article we’ll take a closer look at how the solar tax credit works and how to claim it come tax season.
Brief history of the solar tax credit
The federal solar investment tax credit — often known as the 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 capped at $2,000 for residential projects, but that cap was removed in 2008.
The ITC has been reduced and extended several times since 2008. In 2022, with the tax credit at 26%, the signing of the Inflation Reduction Act lifted it back to 30% where it will remain through 2032.
How does the solar tax credit work?
The solar tax credit is a non-refundable credit worth 30% of the gross system cost of your solar project. That means that if the gross system cost is $20,000, your tax credit would be $6,000 ($20,000 x 30%= $6,000).
It’s important to note that the solar tax credit is not a check the automatically comes in the mail when you install a solar system. It is a credit that can lower your federal income tax liability to increase your refund or decrease how much you owe.
So, if you installed a $20,000 solar system and it’s deemed operational by a city inspector in 2023, then you can claim a $6,000 tax credit on your 2023 federal income tax return that you file in 2024. If your tax liability is greater than $6,000, you’ll be able to claim the entire credit in one year. If your tax liability is lower than $6,000, you can roll the remaining credit into future tax years.
Always consult a licensed tax professional with questions about your tax liability and claiming tax credits.
What does the solar tax credit cover?
According to Energy.gov, the gross system cost includes:
- Solar panels, inverters, and balance-of-system equipment (racks and conduit)
- Installation labor
- Permitting fees, inspection costs and other soft costs
- Sales tax
- Energy storage devices (aka batteries) whether they are attached to the system or not (as of Jan. 1, 2023)
The solar tax credit does not cover roofing expenses, unless the roof itself is considered solar equipment. It also doesn’t cover electrical panel or wiring upgrades. However, there are seperate incentives for these upgrades worth up to $4,000.
Can the solar tax credit be combined with other solar incentives?
Yes, the solar tax credit can be combined with solar incentives from your state, local government, or utility provider. For example, New York State also offers a 25% tax credit which can be used in addition to the 30% federal solar tax credit.
Typically, local incentives should be claimed first to reduce the overall cost of the system, and the federal tax credit is claimed later on the lesser amount. So, if you applied a $500 state rebate to your $20,000 system, you would claim a $5,850 credit on your taxes ($19,500 x .30 = $5,850).
How Do Solar Loans Affect Solar Tax Credit?
There are two types of loans solar loans designed with the solar tax credit in mind: Combo loans and re-amortizing loans.
As the name suggests, a combo loan is basically two loans. A bridge loan for value of the tax credit and a primary loan for the remaining balance on the system. The borrower typically has 18 months to claim their solar tax credit and use it to pay off their bridge loan. If they don’t pay off the bridge loan in time, it’s added into the primary balance and increases the monthly payments.
So, if you took out a combo loan for a $20,000 solar system you would have a $14,000 primary loan and a $6,000 bridge loan. The advantage is that you only make payments on the $14,000 loan instead of the entire $20,000 system — as long as you pay off your bridge loan in time. This makes for low monthly payments and greater bill savings right off the bat.
|Age of loan||Borrow A monthly payments||Borrower B monthly payments|
|Bridge loan due||Bridge loan paid off||Bridge loan not paid off|
A re-amortizing loan works more like a home loan. The loan balance is based on the total cost of the system and allows borrowers to make a lump payment and re-structure their loan after receiving their solar tax credit. This is especially useful for solar owners that may not be able to recover their full tax credit in one year, as there is no time restraint on re-amortizing the loan.
Here’s how that would look for a $20,000 system with a borrow that needs two years to claim the full solar tax credit.
|Age of loan||monthly payment|
|Re-amortization||$6,000 lump payment|
Of course, the lump payment doesn’t have to come from the solar tax credit. But it’s common to use the solar tax credit to reduce the payments on a solar loan and increase monthly bill savings.
How To Claim Your Tax Credit?
To claim the ITC you will need to file under IRS From 5695 for that tax year that your system was deemed operational (approved by a city inspector). If you can’t claim the entire credit in one year, it can be rolled over into future tax years.
This guide breaks down the step-by-step process of filing your tax credit, but we are not tax specialists. Consult a licensed tax professional for advice regarding the solar tax credit!
The bottom line
As the greatest and most widely-available solar incentive, it’s important to know how the federal solar tax credit works.
With a little extra paperwork during tax season, claiming the solar tax credit can reduce the overall cost of your solar and/or battery storage system by 30%. This increases your overall energy cost savings and reduces the payback period of going solar.
Frequently asked questions
Is the ITC transferable?
The solar investment tax credit (ITC) cannot be transfered or sold, according to IRS guidance issued on June 14, 2023. While other clean energy tax credits may be sold or transfered to eligible taxpayers, the solar tax credit must stay with the entity that earned it.
Can I carry forward unused solar tax credit?
Yes, if the value of the solar tax credit is greater than your tax liability, then you can carry the remaining credit forward for as long as the tax credit exists. For example, if your solar tax credit is worth $7,500 and your tax liability is only $5,000, you can claim $5,000 in the first year and carry the remaining $2,500 into future years for as long as the Residential Clean Energy Credit exists (which is currently scheduled until 2034).
How does the solar tax credit work if I don’t owe taxes?
As a non-refundable credit, the solar tax credit can only be used to lower your tax liability. If you don’t have any tax liability, the credit can be carried forward into future tax years and used to reduce any tax liability you may have in the future. If you are retired or do not expected to have taxable income in the near future, consult a licensed tax advisor to create a gameplan for claiming the solar tax credit.