By Laura Klein, CFO & COO, SolaREIT
President Biden has signed the infrastructure bill, but negotiations on Build Back Better continue. The budget and policy negotiations have had a lot of ups and downs. Obviously, the potential for significant clean energy support has been exciting — sometimes gut-wrenching — to watch. There has been a push-pull between increased infrastructure and clean energy investments and the desire to increase revenue throughout the negotiations. Unfortunately, an essential tool solar developers and solar landowners have used has been in danger throughout this entire process.
The tool, a 1031 exchange (after section 1031 of the U.S. tax code), has played a major role in the tax strategies of landowners and developers seeking to sell solar-dedicated leases or land. Solar developers and landowners who want to reap significant tax benefits from 1031 exchanges would be wise to move quickly.
In a 1031 exchange, the landowner has a limited period of time to exchange property for another similar in value. The benefit of this type of exchange lies in its tax advantages — landowners can avoid tax penalties by simply deferring the gains from the sale.
For years, this has meant that solar landowners can utilize tax advantages from selling solar leases or land to finance the purchase of other types of “like-kind” land — a deft exchange with minimal tax penalties. But that tool may be going away, or at the very least, will be substantially revised.
For solar landowners, particularly farmers, the 1031 is a strong motivator that allows them to sell their solar lease or land and invest it in another piece of property, avoiding potentially hefty capital gains taxes. In addition, many of these generational farmers see the 1031 exchange as a tool to purchase additional agricultural land for themselves and the next generation.
Earlier this year, SolaREIT closed a deal with a young farmer in Minnesota who had a 2 MW farm on the less agriculturally productive land his property. He appreciated the lease payments but wanted to expand his farming business and needed capital to purchase the land. SolaREIT purchased his full lease stream plus extensions, and the farmer used this capital to purchase additional land that was more agriculturally productive. In addition, because he utilized a 1031 and there was no tax on the transaction, he could put more of his capital into investing inland.
Solar developers have used the 1031 slightly differently. Those developers who make it a point to purchase the land that hosts their solar farms have benefited from selling the leases and using the proceeds to purchase new land for future solar farms.
For example, SolaREIT worked with a prominent utility-scale developer in the Southeast to enable them to increase their pipeline quickly. This particular developer prefers to own the land under the solar projects that they develop and sell. While they were not interested in selling the land, they decided to sell ten years of the 35-year lease on the project. As a result, the developer was able to utilize a 1031 with the proceeds to purchase more land, tax-free, to build new solar projects.
But the future of 1031 exchanges is in doubt.
Early drafts of the Biden administration plan significantly restricted the scope of 1031 tax advantages, limiting the tax amount that solar landowners could defer.
In short, an essential tool for solar developers and solar landowners may be at risk. The good news is that the like-kind exchanges did not appear in the final version of the infrastructure bill, nor are they currently in the Build Back Better bill. While this does not guarantee it will not come up again in negotiations, it is hopeful that 1031s will live on. But anyone that has been paying attention to budget and policy negotiations in Washington will recognize that things can change quickly — and there is an appetite in Congress to find new sources of tax revenue.
For landowners and developers who have been banking on 1031-based strategies for selling solar leases or land, the threat of tax changes is motivating them to transact now before the door closes on them.
Disclaimer: SolaREIT and its affiliates do not provide tax, legal or accounting advice. This article is for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your own tax, legal and accounting advisors before engaging in any transaction.
Laura has developed over 1 GW of utility scale solar energy projects and closed approximately $1 billion in financing for small to mid-sized projects over her more than 15 years in the industry. Prior to joining SolaREIT, she founded Oriole Solar, a consultant to solar asset owners focused on origination, development and M&A in the Southeast U.S., and a partner in KL Solar Development. From 2017-2019, she was managing director for development at Eagle Solar Group, a joint venture between DEPCOM Power Inc. and D.E. Shaw Renewable Investments. She began her career in renewables at SunEdison in the project finance group, rising to managing director for project finance and later managing director for development for SunEdison’s distributed generation portfolio.