What happens if your tax liability is too small to claim the Investment Tax Credit for solar?

investment tax credit

The Investment Tax Credit (ITC) is a generous incentive from the federal government. It was put in place to encourage uptake of solar energy and other renewable energy systems in 2006. It has been tremendously successful in this goal: the number of solar installations in the US has increased 1,600% since the ITC was introduced.

Many EnergySage customers quickly understand the potential benefits of the ITC, but have questions when it comes to the particulars of how it operates. Frequently, we field questions about whether or not they can claim the ITC at all, and when and how it can be applied to their tax bills.

This article looks at the rules ITC eligibility, and addresses some concerns that you may have about how and when the credit can be applied.

Please note: EnergySage has written on the topic of the ITC in good faith, with the aim of guiding you to make a well-informed decision about going solar. However, the US tax code is complicated, and what we have written should not take the place of advice from a qualified tax professional. Consult your tax advisor before deciding what is best for you.

About the Investment Tax Credit for solar: How it works

The key thing to remember about the ITC is this: In order to benefit from it, you must first have sufficient tax liability. That is, you must owe at least as much money in taxes as the amount of your credit.

You will be eligible to receive the credit if you have a solar electricity system or a solar hot water system in service (i.e. fully installed and connected to the grid) through the end of 2019. After that point – unless Congress intervenes by extending the duration or otherwise changing the requirements – the ITC value will be scaled down each year until 2022 when the incentive will expire. (Learn more about the extension in December, 2015.)

The ITC allows you to subtract up to 30% of what you spend on your solar energy system from your tax bill, thus effectively reducing the overall amount that you pay. For example, if the net cost of your system (i.e. the cost after you deduct cash rebates available through your state government or local utility) was $10,000, you qualify to claim $3,000 under the ITC, reducing the total cost of your system to $7,000.

 

itc liability graphic

 

The ITC does not work like an up-front ‘discount’; it is not applied to the cost of your system at the time of purchase. Instead, you pay for the system up-front (or with a solar loan) and then it is your responsibility to claim for the ITC when you file your taxes. This means that you need to know ahead of time whether your tax liability will be large enough for you to take advantage of the ITC in the first place.

IRS Form 5695: Residential Energy Credits

Form 5695 is the IRS form you’ll use to claim the ITC. You can download the current year’s version of form 5695 at IRS.gov.

A number of our customers have asked questions about claiming the ITC. We discuss some of these below.





Don



Can the solar ITC carry forward if my tax bill is smaller than my tax credit amount?

Using the example of the $10,000 solar system from above, the ITC amount you would be eligible for is $3,000. But what if your total tax liability for that year is only $2,000? Can you carry over the remaining $1,000 to the next year?

It is fairly clear in form 5659 that, yes, you are allowed to carry unused credits forward into the next year (see lines 12-16 of the form) – and possibly beyond. This means that your tax liability for year 1 would fall to $0, and you would have an additional $1,000 of credit to put towards the following year’s tax bills.

However, it is yet unclear whether you will be able to carry unclaimed credits in the years after the ITC is discontinued.

ITC three scenarios

Figure 1: Comparing how the ITC would apply in three tax liability scenarios: a) $5,000 annual tax liability, b) $2,000 annual tax liability and c) $0 annual tax liability. For simplicity’s sake, we assume that the solar system costs $10,000, making the ITC amount would be $3,000. In scenarios a) and b), the ITC benefits are applied over 1 and 2 years, respectively. In scenario c) the ITC cannot be claimed due to insufficient tax liability (meaning that a solar lease might be a preferable option to purchase).

What are my options if I have no tax liability?

If you are a retiree, on a fixed income or for other reasons have little or no annual tax liabilities, you will not be eligible to benefit directly from the ITC incentive. Keeping with the example above, your solar energy system would cost $10,000. But this does not mean that going solar is not an option for you: It may still be worthwhile for you to purchase the system (particularly if your electricity bills are high).

Furthermore, if lack of cash is an issue for you, it might make sense for you to opt for a third party-owned solar lease or power purchase agreement (PPA) instead. Under financing arrangements like this, the company that owns the solar system will take advantage of the ITC using their own tax liability and (ideally) pass the savings on to you.

How does the ITC apply to me if I purchased my solar system with a solar loan?

If you purchase your solar system with a solar loan, you will be able to claim for the ITC on the full cost of the system, possibly all in the first year. This means that you could pay $0 down to have your system installed while still benefiting from the significant reduction in your tax bill that the ITC promises.

You can read more on the topic of solar loans and the ITC in our article: “Solar loans vs solar leases“.

 

itc liability graphic

 

6 thoughts on “What happens if your tax liability is too small to claim the Investment Tax Credit for solar?

  1. Nick Tedesco

    This was some very helpful information regarding the solar power tax credit. Many solar power websites do not go into this very important topic in detail.

    Reply
  2. Tishma de Lagarde

    What happens if I mistakenly took ICT credit but leased my solar panels instead of purchasing them? Will the IRS come after me??

    Reply
  3. Lee

    Being retired, with little to no tax incurred, I am contemplating taking an IRA distribution that will generate the amount of tax I need to consume the credits. Thereby i will be saving in the tax department what I need to pay in the solar dept …coming out sort of even….although questions remain. I know a program where we people are doing this…but even my tax CPA doesn’t know much about this…much less the ramifications if I use a pass through partner for my state credits.

    Reply

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