Tax Equity and Accounting Considerations in the Solar ABS Structure

Abstract

In both residential and commercial/industrial solar finance structures, tax equity usually occupies a significant portion of the capital stack. By definition, tax equity is usually provided by large financial institutions or operating companies with sufficient tax exposure to utilize the investment tax credits, depreciation, and other tax benefits that compose their overall yield. In order to realize the tax benefits from solar projects, tax equity investors must have either a real or deemed ownership interest in the assets generating the investment tax credit and depreciation, and they usually acquire this in the form of participation in a partnership or limited liability company taxed as a partnership for federal income tax purposes. Tax equity investment structures generally take one of three forms: the partnership flip structure, the inverted lease or lease pass-through structure, or the sale-leaseback structure. As long as tax equity is a significant component of the capital structure of solar development financing, it will cause a significant headwind for efforts to provide liquidity to the solar sector through securitization. In addition to the potential tax consequences for the tax equity investors of securitization, consideration should also be given to the accounting treatment of the three predominant tax equity structures and to the impact on such structures of a securitization transaction. Because most of the significant providers of tax equity are public financial institutions or operating companies, accounting results can be not only relevant but also determinative with respect to their willingness to permit a securitization transaction to occur.

TOPICS: Fixed income and structured finance, legal/regulatory/public policy, ESG investing