The climate law is helping bring solar to more apartment buildings

Earlier this month, renewable energy developer Black Bear Energy and clean-energy finance company Evergrow unveiled a set of solar projects structured to make the most of the climate law’s tax credit bonanza.

It’s a relatively small solar investment — 556 kilowatts of projects across several multifamily properties in California and Washington, D.C., owned by real estate investment trust Equity Residential.

But as a first-of-its-kind application of the Inflation Reduction Act’s new tax-credit transferability rules, it’s a pretty big deal, says Evergrow CEO James Richards. His company managed the sale of the tax credits for the solar projects owned by Equity Residential to companies that wanted to reduce their tax burdens.

It’s particularly useful as a case study for real estate investment trusts — REITs — which collectively control about $4 trillion in U.S. real estate assets but pay little to no federal income tax. (That’s because REITs pass on at least 90 percent of the revenues from the properties they own as dividends to their shareholders. Those shareholders are the ones who pay taxes, not REITs.)

“We’ve been working with Black Bear for the last year and a half to figure out how we could monetize their tax credits for their clients, and the real estate community more broadly,” Richards told Canary Media.

Now that these first deals are completed, the next ones will be able to come together more quickly and at less cost, said Victoria Stulgis, senior vice president of client operations at Black Bear Energy. Her company specializes in developing clean energy projects for commercial property owners, and is a subsidiary of Legence, a real estate efficiency and sustainability contractor that’s owned by private-equity giant Blackstone.

Black Bear Energy has more than a gigawatt of on-site solar projects in its pipeline, and Legence’s clients own or manage more than 5 billion square feet of real estate — a massive field of opportunities for clean energy.

“There will be new solar projects built that would never have even been considered, let alone approved at investment committees, without the revenue from the sale of the tax credits,” Stulgis said.

That could help unleash growth in the commercial solar market, which has traditionally lagged well behind both utility-scale solar and residential rooftop solar, Richards said.

“Commercial real estate owners want to decarbonize their buildings because they’re paying high electricity bills, and because their customers want them to go green,” he said. ​“But historically it was hard for real estate owners to pay for solar and other upgrades.”

Now, thanks to the IRA, that’s changing.

Tax-credit transferability — a sea change in clean energy financing 

Tax credits, the primary federal incentive for clean energy investments, can cover about a third or more of the cost of eligible projects. They are key to making the economics of clean energy projects work for developers.

But tax credits are only valuable to companies that pay taxes — and any credits they earn in excess of their tax liabilities for the year aren’t worth anything to them. This creates a challenge for clean energy developers that have the capacity to build more projects than their tax liability can absorb.

Until recently, clean energy financiers have worked around this by structuring specialized tax equity partnerships and leases with banks and investment firms that have huge tax burdens. The complexity and cost of these transactions has limited tax-equity financing to roughly $20 billion per year, with only the largest projects and most sophisticated developers and banks able to participate.

The tax-credit transferability rules created by the Inflation Reduction Act changed all that by allowing project developers to sell the associated tax credits to corporations, investment firms, and other buyers looking to shave down their tax bills. That’s a much simpler method of monetizing these federal incentives — and clean energy and tax-equity financing experts expect it to dramatically increase their use.

In the past year, an estimated $10 billion in tax-credit transfer transactions have been executed, according to data released this week by Crux Climate, one of a number of companies specializing in the new market. By the end of 2024, those transactions could reach between $20 billion and $25 billion, Crux forecasts.

That’s a lot of money, but it’s a fraction of the potential, said Crux CEO Alfred Johnson. ​“There are a couple factors that influence buyers’ perception of credits, and therefore willingness to pay, which influences the price,” he told Canary Media. That’s ​“their perception of risk and … the relative complexity of the deal.”

Richards agreed that using this transferability mechanism isn’t as simple as it might sound, particularly for smaller-scale solar projects like those Evergrow has transacted for Black Bear Energy.

“The concept of selling credits should be easy — you just sell them,” he said. ​“But people are finding it much harder to do that.” 

Making tax-credit transferability work for multifamily solar projects

One challenge is size.

“Energy projects have historically been really big — think utility-scale solar in the desert. Those are hundreds of millions of dollars in tax credits, and the big banks do those,” Richards said. ​“But when you get to the edge of the grid, behind the meter, we’re talking hundreds of thousands of dollars, not hundreds of millions.”

To date, most tax-credit transferability deals have targeted larger-scale projects, like the $580 million in wind energy tax credits from a $1.5 billion wind farm that Bank of America unveiled last year. Other big transfer deals have focused on the clean-energy manufacturing tax credits created by the Inflation Reduction Act, like the $700 million in credits sold by First Solar early this year.

Another problem people are confronting, Richards said, ​“is that there’s a lot of complexity.”

Tax-credit transfers may not be as thorny as tax-equity deals, but they’re not simple. Each deal has to go through a gauntlet of due diligence to give would-be buyers of credits the confidence that the end result of a transaction — a big reduction on their future tax bills — will go through as planned.

“Right now, the seller is expected to do a lot of that work,” Richards said. ​“They have to go find a buyer, but they also have to go hire an accounting firm to do an analysis, hire an engineering firm to do the technical specifications, and perhaps hire an insurance firm” — to protect against the risk that the IRS may challenge the validity of the credits in future years.

“That might be easy enough if you’re a utility-scale developer who’s done this hundreds of times. But even a large REIT won’t have the people and the expertise” to carry it out, he said.

Giving real estate owners the tools to afford to go green 

Katherine Elliot, assistant vice president of sustainability and green investments at Equity Residential, agreed that the old way of doing tax-credit financing has been a barrier.

Equity Residential manages about $30 billion in multifamily properties and has set a goal of reducing its carbon footprint by 30 percent below 2018 levels by 2030. To carry out that reduction, it has invested in making its properties more energy efficient and has also installed about 8.7 megawatts of solar on 61 of its properties.

“We want to make a commitment to doing solar wherever it’s physically and financially viable,” Elliot said. Equity Residential started by doing its own solar projects and then hired Black Bear Energy in 2018 to expand that work.

Transferability has at least added tax credits to the menu of options for REITs like Equity Residential. But doing a tax-transfer deal is not something that most REITs can easily take on by themselves. Evergrow, Crux, and other companies that take on the roles of brokers and managers for those transactions have stepped in ​“to get a competitive price and have some transparency into the process,” she said.

Being able to tap the value of tax credits won’t make solar possible everywhere, Elliot cautioned. ​“It’s not going to make a project with very poor financial yields look great. But it can certainly help advance more projects on the margins.”

There’s a lot of untapped solar potential on those margins, Stulgis said. A 2022 report from investment bank Morgan Stanley identified 328 gigawatts of solar potential on commercial buildings’ rooftops and parking lots, representing a $492 billion market in the commercial real estate sector. Of that total potential, the report identified a $28 billion market for a ​“select group of REITs, of which we estimate 90% will be ​‘in the money’ by 2025.”

Using some back-of-the-envelope calculations, Stulgis estimated that bringing in the additional revenue from the sale of tax credits to these kinds of commercial buildings’ rooftop solar projects could improve the 20-year internal rate of return — a measure of the long-term profitability of an investment — by roughly 3 percent on average.

Tax-credit transferability will not ​“overnight result in landlords owning every solar project hosted on their roof,” Stulgis said. Many landlords don’t see investing in solar as their core business, she noted, and often they lack the incentive to do so altogether since electricity costs are typically borne by tenants.

“But there are definitely use cases where it makes more sense for the landlord, instead of a third party, to own the solar,” she said. ​“We are really excited about the growth that will be unlocked by the tax credit transfer for those types of projects.”