“Ironically, there seem to be more tax equity investors after tax reform than before.”

MAY 17, 2018

By Emma Foehringer Merchant
Renewables tax equity market fares fine in Q1. Defying the fears that gripped the clean energy finance market at the end of 2017, investors seem to have fared well under the new tax scheme that took effect in January.
The Base Erosion Anti-Abuse Tax provision included in the final version of the tax bill cuts away 20 percent of renewable credit values for companies that fall under its purview. When it passed President Trump’s desk, investors were unsure how the new law would impact their business. But after a healthy Q1, industry watchers appear confident that the impacts will be minimal.

“Ironically, there seem to be more tax equity investors after tax reform than before,” said Keith Martin, a transactional lawyer who works in tax and project finance at Norton Rose Fulbright. “Not a huge increase, but people had worried that the supply of tax equity would contract. I don’t think that has happened.”

Martin said five banks have informed Norton Rose Fulbright that they’re potentially affected by the change in the law (a tricky part of the law mandates that investors must determine each year whether they’re subject to the BEAT provision). That sum is a small fraction of a tax equity market that can include more than 35 investors.

Of the five investors that may be impacted by the law, Martin said some may be able to wiggle their way out from under the provision through international tax planning. BEAT targets companies that use cross-border payments to international affiliates to reduce their overall tax in the U.S. Categorizing these payments in different ways, such as counting an affiliate as a “disregarded subsidy” or claiming the transaction as a “cost of goods sold,” could change a company’s standing.

Either way, the BEAT effect looks minimal. The three largest tax equity players, which account for over 40 percent of the market, are unaffected by the law.

“It doesn’t seem to be affecting more than a handful…and even then, it’s such a small group that the effect isn’t having any visible impact on the market,” said Martin.

The law has, however, minimized the portion of a project’s funding that comes from tax equity. Historically, it accounted for 40 to 50 percent of financing for solar projects and 50 to 60 percent of financing for wind projects. Now, Martin said, the percentage has decreased by 3 to 8 percent.

“Tax equity has shrunk as part of the capital stack,” said Martin. “But the current state of the market has moderated any real increase in capital cost.”

Because of the decrease in tax equity, the market has had to bridge the gap with other financing sources. Martin said that’s been mostly debt. While in the past that could have contributed to increasing costs, competition has compressed interest rates and made debt lending more favorable for projects.

“At the moment there are so many project finance lenders eager to lend in relation to the number of projects that lenders are happy to step here,” said Martin. “There’s downward pressures on yields; there’s margin compression.”

The threat of reduced tax equity joins an array of threats looming for clean energy in 2018: aluminum and steel tariffs, solar tariffs, and yes, the potential for even more tariffs on products tied to wind and battery storage. But Martin said the industry seems to be weathering the bumps.

“It seems like the market has turned a corner of sorts,” said Martin. “That will be felt as the year rolls on.”