Apr 27, 2018

​Tax Cuts and Jobs Act – Impact on U.S. Renewable Energy Financing

Marathon Capital publishes the Tax Cuts and Jobs Act – Impact on U.S. Renewable Energy Financing. This White Paper updates and extends the analysis
done in the January 2017 U.S. Federal Corporate Tax Reform – Potential Impact on U.S. Renewable Energy Financing based on actual changes to
the tax code.

“The Tax Cuts and Jobs Act represents the most significant change to the U.S. tax code in 30 years. Not only has the federal corporate tax rate been reduced
from 35% to 21%, but a number of other provisions have been included which could have a significant impact on the U.S. renewable energy industry over
the next few years. Now that we have had a few months to digest the legislation, we wanted to do a “deep dive” into the most substantial changes and
quantify the potential financing and economic impacts for the U.S. wind and solar markets,” Ted Brandt,
CEO of Marathon Capital.

“As with the analysis last year, we wanted to test the impact of the tax rate reduction on tax equity structures for different types of both wind and solar
projects to see which projects may be more sensitive to corporate tax changes than others. In addition, we wanted to explore the potential impact of
the 100% bonus depreciation and the Base Erosion Anti-Abuse Tax (“BEAT”) on tax equity pricing and availability. Finally, we wanted to do a high-level
macro review of U.S. corporate tax liabilities going forward in relation to the volume of tax credits,” Matt Shanahan, Managing Director at Marathon Capital and White Paper Co-Author.

In this White Paper, Marathon Capital explores how the reduction in the corporate income tax rate and other changes to the U.S. corporate tax regime could
impact the U.S. renewable energy financing landscape. The White Paper offers a variety of insights, including the following key findings:

  1. U.S. renewable energy projects generate a portion of their value from tax losses in the form of accelerated tax depreciation. The value of these tax
    losses will decrease as the U.S. federal corporate tax rate is reduced from 35% to 21%.
  2. The potential decrease in value is not uniform across types of renewable energy projects and will vary based on different tax incentives (i.e. Production
    Tax Credit (“PTC”) and Investment Tax Credit (“ITC”)) and project performance. In general, wind projects are more sensitive to a reduction in the
    tax rate than solar projects, and higher generation wind projects are more sensitive than lower generation wind projects.
  3. Our analysis shows that most solar projects will not see decreases in unlevered after-tax project level returns, while unlevered after-tax project
    level returns for wind projects could decrease by ~90-110 basis points.
  4. For certain wind PTC projects financed with Tax Equity partnership structures, unlevered after-tax Sponsor returns could decrease materially by ~140-220
    basis points.
  5. Although a reduction in the U.S. federal corporate tax rate will have a negative impact on the valuation of wind projects, the market may be able to
    absorb most of the potential loss in value through some combination of adjustments to off-take prices, build costs, and Tax Equity flip yields.
    In order to restore Sponsor returns to 2017 levels Marathon Capital estimates that off-take rates would need to increase by more than 10%, build
    costs would need to decline by 6-7%, or Tax Equity flip yields would need to materially decrease.
  6. While 100% bonus depreciation can increase project level returns by ~50-60 basis points for wind projects and ~40-50 basis points for solar projects,
    it is difficult to realize much of an uplift to economic returns under an unlevered Tax Equity partnership financing structure. However, levered
    ITC Tax Equity partnership and sale leaseback financing structures can more efficiently realize the corresponding uplift to economics stemming
    from bonus depreciation, and we would expect to see more of these structures utilized going forward.
  7. The Base Erosion Anti-Abuse Tax (“BEAT”) has presented a new challenge for Tax Equity investors with significant international operations, and serves
    as a form of minimum tax which could permanently displace some or all of the value of ITCs and PTCs. Most tax equity investors seem to be confident
    that they will not be subject to the BEAT in 2018; however, the long-term impact to Tax Equity pricing and availability is still uncertain. Compared
    to PTC deals, ITC deals are less problematic from a pricing standpoint under the BEAT provision because accurate forecasting is required only for
    the current year of base erosion exposure, not the full 10-year term of the PTC period.
  8. Overall U.S. corporate tax liabilities are forecasted to decrease from $297 billion in 2017 to $160 billion in 2018 and $188 billion in 2019 (net of
    the one-time Transition Tax on non-U.S. income), leaving “headroom” relative to forecasted average annual general business tax credit generation
    of $28 billion primarily comprised of ITCs, PTCs, Low Income Housing Tax Credits (“LIHTC”), and R&D tax credits.
  9. The majority of traditional Tax Equity investors, such as large commercial banks, will see their U.S. federal income tax liabilities decrease as a
    result of the lower tax rate from a collective annual average of $25 billion over the past four years to $15 billion. This compares to just under
    $6 billion of average annual business tax credits (i.e. ITC, PTC, and LIHTC) claimed by large U.S. commercial banks. While there is still some
    headroom for this group to absorb the historic levels of general business tax credits, the margin is much tighter and could result in some decrease
    in tax credit appetite relative to recent historical levels
  10. Marathon Capital believes it is also likely that U.S. tax liabilities of technology and pharmaceutical companies will increase due to changes in the
    international tax regime, while regulated utilities could see higher taxes as they are not allowed to elect 100% bonus depreciation. Whether the
    resulting incremental increase to tax liabilities could incentivize these companies to invest in PTC and ITC deals remains to be seen.

The White Paper represents Marathon Capital’s continuing commitment to helping renewable energy developers, investors, and other market participants better understand the renewable energy opportunity.