Sadly, the solar tax credit is sunsetting soon. This federal tax credit was for the purchase and installation costs of a residential solar system. It started as 30% of the cost for several years through 2019. Then the credit dropped to 26% of the cost in 2020. The tax credit will be over in 2021, allowing 22% of the cost of the purchase/installation. And 2021 will be the final year of the credit.
The credit is non-refundable. This means, the credit can only reduce an individual’s tax liability to zero. However, the portion of credit not allowed because of this limitation, may be carried to the next tax year. And this portion can be added to the credit allowable for that year. The tax code infers that any credit carryover can be added to the credit allowed in the subsequent year. However, what is unclear is whether any carryover will be allowed to 2022 once the credit expires at the end of 2021. In addition to the credit reducing the regular tax, it also reduces the alternative minimum tax should a taxpayer be subject to it.
Qualifying Property for the Solar Tax Credit
Only the following solar power systems are eligible for the credit:
Qualified solar electric property
A solar electric property is defined as property that uses solar energy to generate electricity for use in a home that is the taxpayer’s main or second residence.
Qualifying solar water heating property
Qualifies when:
- used in a dwelling located in the U.S.
- is used as a main or second residence by the taxpayer
- where at least half of the energy used to heat water is derived from the sun.
Heating water for swimming pools or hot tubs does not qualify for the credit. The solar equipment must be certified for performance by the Solar Rating Certification Corporation. Or certified by a comparable entity.
When Is the Solar Credit Available?
The solar credit may be claimed on the tax return of the year that the installation is completed. So, if a taxpayer has purchased and paid for a system and it’s completed in 2020, the credit will be 26% of the cost. But if the project isn’t completed until 2021, the credit will only be 22%. This becomes an even a bigger issue for systems being installed during 2021 that aren’t completed before 2022. This is because in 2022, the credit rate will be zero. Bottom line: if you plan to purchase a solar system in 2021, the purchase should be made early enough to ensure the installation is completed before 2022.
Who Gets the Solar Credit
Surprise! A taxpayer doesn’t have to own the residence where the solar property is installed to qualify for the credit. This is because the taxpayer need only be a “resident” of the home. The tax code does not specify that an individual has to own the home. Only that it the home with the solar installation is the taxpayer’s residence. For example: A son lives with his mother, who owns the home. The son pays to have the solar system installed; the son is the one who qualifies for the credit.
Additional Solar Credit Specifics
Multiple Installations
The credit is available for multiple installations.
For instance, after the initial installation, a taxpayer decides to add additional panels to increase capacity. The addition to the solar unit is treated as part of the original installation. Thus, it would qualify for credit at the credit rate applicable for the year the additional installation is completed. But only provided that the installation is done before 2022. On the other hand, if a taxpayer has to replace damaged panels these items would not be an original system. This includes performing other maintenance on the system. The costs for replacement or repair would not qualify for the credit.
Battery
A battery qualifies for the credit if it’s charged only by solar energy and not off the grid. This has become popular in areas where there are frequent power outages. However, this may be more of a convenience than a necessity, so carefully consider the cost. A software-management tool qualifies for the credit when the software is necessary to monitor the unit. For example, monitoring charging and discharging of solar energy from a battery attached to solar panels. And this software would qualify whether or not it was part of the original installation or added later (before 2022).
Installation Costs
Amounts paid for labor costs for onsite preparation, assembly, or original installation of property are eligible for the credit. This includes labor for piping or wiring connecting the property to the residence. Labor expenses are expenditures that qualify for the credit. This also includes expenditures relating to a solar system installed on a roof or ground-mounted installations.
Basis Adjustment
The term basis is generally the cost of a home plus improvements. It’s the amount subtracted from the sales price to determine the gain or loss when the home is sold. The cost of a solar system adds to a home’s basis, and the credit reduces the basis. Adding solar will generally create a different basis for federal and state purposes where a state does not provide a solar credit. Or in the cases where the state solar credit differs from the federal solar credit amount.
Association or Cooperative Costs
A taxpayer who is a member of a condominium association for a condominium they own, or a tenant-stockholder in a cooperative housing corporation, is treated as having paid their proportionate share of any qualifying solar system costs incurred by the condo or cooperative association or corporation.
Mixed-Use Property
In cases where a portion of a residence is used for deductible business use, expenses must be prorated. This is also the case when a portion of a residence is rented to others. Only the personal portion of the qualified solar costs can be used to compute the credit. There is an exception when less than 80% of the property is used for non-business purposes. In this case, the full amount of the expenditures is eligible for the credit.
Newly Constructed Homes
If you are planning on buying a newly constructed home that includes a solar system, you may be entitled to claim the solar credit. However, to do so, the costs of the solar system must be separate from the home construction costs. Also the certification documents must be available upon request.
Utility Subsidy
Some public utilities provide a nontaxable subsidy (rebate) to their customers for the purchase or installation of energy-conservation property. In that case, the cost of the solar system that’s eligible for the credit must be reduced by the amount of the nontaxable subsidy that was received.
Solar Installations are Not for Everyone
Television ads, telemarketing phone calls and sales people all promote the benefits of solar power. But one of the key considerations and a frequently mentioned benefit is the federal tax credit.
What isn’t included in the ads – is that the solar credit is a nonrefundable tax credit. When discovered, it can be an unpleasant surprise for the purchaser of a home solar system. And when a homeowner finds out that they won’t benefit from the full credit, it can create a financial hardship.
Example of How a Non refundable Tax Credit Works in Real Life
For example: a married couple with an annual income of $80,000, and three children under 17 years old, installed a solar system costing $20,000 in 2020. They expected a $5,200 ($20,000 x 26%) credit on their tax return. Their standard deduction in 2020 is $24,800, leaving them with a taxable income of $55,200. The tax on the $55,200 is $6,229. They are also entitled to a $2,000 child tax credit for each child. This reduces their tax liability by $6,000 and results in a tax liability of $229. Since the solar credit is nonrefundable, the only portion of the credit they can use is $229. Not the $5,200 they had expected.
On top of that, the family is probably financing the solar system, which significantly adds to the system’s cost. If the entire $20,000 cost were financed by a 5% home equity loan for 20 years, then the interest on that loan would be $11,678. This brings the total cost of the solar system to $31,678, or a monthly cost of $132.
In lieu of purchasing a solar system, some homeowners opt to lease a system. This arrangement is not eligible for the solar credit.
As you can see, there is a lot to consider before making the final decision to install a solar system. Is it worth it, and is it the right financial move for you? Please call for a consultation before signing any contract to make sure a solar system is appropriate for you.
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