Solar panel tax credit: Understanding how to recoup costs

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On average, a solar panel system costs between $13,620 and $26,686 before rebates are applied. Let’s be honest: Paying that much money is unrealistic for many American families without recouping some costs.

The federal solar tax credit could be the key to substantial savings on your solar panel investment. The government’s sponsorship of nearly one-third of the solar installation cost is designed to lighten the financial load for homeowners seeking to power their homes with clean energy. Here’s everything you need to know about claiming the solar panel tax credit.

What is the federal solar tax credit?

The solar investment tax credit (ITC), officially known as the Residential Clean Energy Credit, offers a substantial financial incentive for homeowners to make solar installations more accessible and affordable.

With the recent signing of the Inflation Reduction Act of 2022, you may qualify for a tax credit that can offset up to 30% of the total solar panel installation cost through 2032. The credit will reduce to 26% in 2033 and decrease to 22% in 2034. The solar tax credit for 2023 applies to taxes filed in 2024.

Solar tax credit step-down schedule

The solar tax credit will be reduced to 22% in 2034, and, without governmental intervention, it may be eliminated for tax year 2035. Review the solar tax credit step-down schedule below so you can plan.

Tax credit amount by year

Source: Solar Energy Industries Association (SEIA)

How does the solar tax credit work?

The tax credit for solar panels is applied when filing your 2024 federal income taxes. Eligible homeowners can deduct up to 30% of their solar system installation costs from their tax liability. If the credit exceeds the tax liability, you can carry the excess forward to offset future tax obligations. It’s essential to follow proper procedures, including completing IRS Form 5695. We also recommend consulting with a tax professional regarding applicable tax regulations.

To receive the solar ITC, you must own your solar system. “While there are some exceptions, typically if you pay for solar with cash or a loan, you own the solar system,” said Andrew Gong, a research engineer at Aurora Solar. He adds, “If you lease or have a power purchase agreement (PPA), you don’t own the solar system and therefore aren’t eligible for the ITC.”

How do you qualify for the solar tax credit?

Gong advised that planning is vital when claiming the solar tax credit: “There’s a lot that can happen between now and 2035. It’s encouraging that our federal government recognizes the importance of clean energy by extending the ITC to 2035.”

To claim the solar tax credit, you must meet the following eligibility criteria:

• Residential property ownership: The solar tax credit is typically available for homeowners who install solar panels on a primary U.S. residence. Unfortunately, this credit doesn’t apply if you’re a landlord and don’t live in the home.

• Residential use only: The solar panels must be used to generate electricity for your home. Commercial solar installations aren’t eligible, but you may still qualify if you also use your home for business purposes.

• New installations only: The tax credit is for new solar panel installations, not replacing or adding to existing systems.

• System must be operational: The solar panel system must be up and running. You can’t claim the credit for a system still in the planning or construction phase.

• Owned solar panel systems only: To be eligible, you must own the solar panel system. Leased systems generally don’t qualify for the credit.

• Installed during the claimed tax year: The installation must be completed in the tax year for which you’re claiming the credit. In other words, if you’re doing your taxes in 2024, the installation should have been finished in 2023.

• Compliance with applicable standards: Ensure your solar panel system meets the necessary performance and safety standards, as outlined by the IRS.

Commercial solar investments may qualify for the ITC or the production tax credit (PTC). Solar systems put into operation in 2022 or later, with construction initiated before 2033, qualify for a 30% ITC or a 2.75 ¢/kWh PTC if they adhere to labor requirements outlined by the Treasury Department or are under 1 megawatt (MW) in size.

What does the solar tax credit cover?

The solar tax credit covers a range of expenses associated with installing solar panels, including:

• Installation costs: The tax credit applies to the expenses directly related to installing solar panels, such as labor costs and mounting equipment.

• Solar panels: The credit covers the cost of the solar panels themselves, which are the essential components converting sunlight into electricity.

• Wiring and inverters: Expenses for the electrical wiring and inverters necessary to connect the solar panels to your home’s electrical system are eligible for the credit.

• Solar storage systems: If you decide to include a solar storage system (like a solar battery) to store excess energy for later use, the associated costs may also be covered.

• Permitting and inspection fees: Fees paid for obtaining necessary permits and inspections required for the solar installation are typically included in the credit.

• Professional fees: Fees paid to professionals, such as engineers or architects, for designing and ensuring the structural integrity of the solar power system can be covered by the credit.

How much can I save with the solar tax credit?

Gong provided the following scenario to help you identify potential savings with the solar tax credit.

A homeowner receives a $100,000 solar loan (or other financing), 100% of which is spent on the solar system in December 2023. However, the solar system will be installed in July 2024. The ITC tax credit for the homeowner would be $30,000 ($100,000 financed x 30% ITC) in 2024.

Let’s assume the homeowner owes $20,000 in federal income tax annually, which is taken out of their paycheck directly. For the 2023 tax year, there would be no offset. The tax credit comes into effect the year the solar system is installed, not the year that the solar system is purchased.

In 2024, the homeowner owes $20,000 in federal taxes, but only $14,000 has been withheld. Usually, the homeowner would need to pay $6,000 at the tax due date. Instead, the homeowner takes $20,000 of the $30,000 ITC, negating the $6,000 owed, and receives a $14,000 refund check. The remaining $10,000 can be claimed against future tax returns.

How to claim the solar tax credit

Maximize your solar tax credit by following these simple steps when filing your 2024 federal income tax return:

• Complete IRS Form 5695 to claim the solar tax credit.

• Calculate the credit amount on part one of the form by multiplying eligible expenses by the applicable percentage (currently up to 30%).

• Transfer the calculated credit to your Form 1040 when filing your federal income tax return.

• Keep records of receipts and documentation related to the solar panel installation, as the IRS may request them for verification.

• Submit your tax return, including the relevant forms and documentation, to claim the solar tax credit.

Remember, the solar tax credit is a dollar-for-dollar reduction in your tax liability, directly boosting your potential tax savings. It’s a deduction, not a refund.

Bottom line

The residential clean energy credit covers up to 30% of installation costs for solar panels. The 2023 solar tax credit, applicable for taxes filed in 2024, provides financial incentives to make solar installations more accessible and affordable for homeowners.

To claim the credit, homeowners must complete IRS Form 5695, calculate the credit amount, and submit supporting documents when filing their federal income tax return. Since the solar tax credit may expire in 2035, homeowners must plan ahead. As renewable energy gains momentum, leveraging these incentives can benefit the environment and contribute to substantial long-term savings for American homeowners.

Frequently asked questions (FAQs)

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