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How Does The Federal Solar Tax Credit Work?

Solar for Homeowners | 3 min read
How Does The Federal Solar Tax Credit Work

One of the great benefits of installing a solar energy system is the tax benefits. Solar system owners will not only eliminate their electric bill, but they also can recapture 26% of the system cost through the Federal Solar Tax Credit.

The tax credit will have a substantial impact on the payback of your system. However, it won’t be around forever. Make sure you’re prepared to get the most out of your investment by checking out this guide on how the credit works and when it will expire.

The Federal Solar Tax Credit Explained

The Solar Investment Tax Credit (ITC), also referred to as the Federal Solar Tax Credit, gives solar system owners the ability to deduct 26% of the system cost from owed taxes.

In years past, the tax credit allowed you to recoup 30% of the installation costs. In 2020 this credit began to step down, but when the Federal Government signed the COVID-19 virus relief spending bill the step-down was paused for two years. The credit will now remain at 26% until the end of 2022. In 2023, it steps down to 22%. In 2024 it steps down for the final time and will remain permanently as a 10% discount for businesses only. 2023 will be the last year for homeowners to claim any tax credit.

Solar Tax Credit Graph Showing the Step Down

If you're not quite ready to go solar and would like to think about it, that time could end up costing you. Although going from 26% to 22% may not seem like a big drop, it’s still considerable savings you will miss out on.

Here’s the impact the decrease will have on your savings (this chart represents average installation costs):

  System Cost 26% 22% 10%
Residential $20,000 $5,200

$4,400
(-$1,600)
$0
(-$6,000)
Commercial $100,000 $26,000

$22,000
(-$8,000)
$10,000
(-$20,000)

That’s $1,600 that could be reinvested into your home or $8,000 that could go towards purchasing another piece of equipment for your business.

How To Use The Federal Solar Tax Credit

First, there are two requirements that need to be met to claim the tax credit:

  1. You must have tax liability. The credit cannot be used if you don’t pay taxes.
  2. The credit is only available for solar system owners. It’s not available for people who lease solar systems. The tax credit would go to the lessor (the system owner) in a lease scenario.

Here’s how it works: If you buy a solar system for $100,000 you would receive a tax credit of $26,000. It is important to understand that this is a federal tax credit that will offset the taxes you owe; it’s not a grant that will pay out $26,000.  

In the example above, you could reduce your 2021 taxes by $26,000. If you can’t use the full $26,000 in 2021 (maybe you only owe $18,000 in taxes), you could use the remaining $8,000 to recoup future taxes. However, if you have enough tax liability, the law does require the credit to be used in full the year your system is installed. The $26,000 balance can’t be spread out in increments over several years.

The law does differ on how any remaining money can be used for a homeowner versus a business.

Businesses and farms can use that $8,000 to recoup taxes paid during the prior year and then carry forward any remaining balance for up to 20 years until its fully used.

How The Federal Solar Tax Credit works for Commercial Solar Systems

Homeowners can use the remaining $8,000 from the example above over the next five tax years until the full amount is used up.

How The Federal Solar Tax Credit works for Residential Solar Systems

There is no cap on the amount of your tax credit. You will receive the full 26% credit regardless of your system’s cost. The only limiting factor is the amount of your tax liability. 

Additional Tax Benefits for Commercial Solar Owners

For businesses and farmers, the tax benefits extend beyond the 26% Federal Tax Credit. In the recent Tax Cut and Jobs Act, the law changed to allow 100% bonus depreciation for commercial solar systems. This allows the entire cost basis of a solar system to be depreciated in the year it was placed into service.

For example, if you invest $92,000 in a solar system, your business could receive $48,000 or more of that investment back in year one, depending on your tax bracket. Other equipment investments in this same scenario would cost you $192,000 to match the tax benefits that come with a solar investment. That means you will spend nearly 110% more on most comparable equipment investments in order to receive the same tax benefits.  

Don't Miss Out On These Great Tax Benefits For Solar Owners

Are you ready to save on your taxes and reduce your energy costs? We’re here to help! Contact us to request your free quote. Don’t miss out on receiving the full 26% tax credit.

You can also download our ebook that answers the most common questions people ask when investing in solar.

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Originally published December 7, 2016, updated January 5, 2022.

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