BILL ANALYSIS �
SENATE GOVERNANCE & FINANCE COMMITTEE
Senator Lois Wolk, Chair
BILL NO: ABX1 15 HEARING: 6/22/11
AUTHOR: Hill FISCAL: No
VERSION: 6/2/11 TAX LEVY: No
CONSULTANT: Grinnell
PROPERTY TAX EXCLUSION: SOLAR ENERGY SYSTEMS (URGENCY)
States legislative intent that the solar energy property
tax exclusion applies to sale-leaseback and partnership
flip transactions.
Background and Existing Law
I. Property Taxes . Section One of Article XIII of the
California Constitution provides that all property is
taxable unless explicitly exempted by the Constitution or
federal law. The Constitution limits the maximum amount of
any ad valorem tax on real property at 1% of full cash
value, plus any locally-authorized bonded indebtedness.
Assessors reappraise property whenever it is purchased,
newly constructed, or when ownership changes. The
Constitution and statute define those terms.
Section Two of Article XIIIA allows the Legislature to
exclude from the definition of "new construction," the
construction or addition of any active solar energy system
(Proposition 7, 1980). Through various bills, the
Legislature enacted the exclusion from 1980-81 to 1993-94,
allowed it to sunset from 1994-95 to 1998-99, and
reinstated it in 1998 (AB 1755, Keeley, 1998). The
Legislature has extended it twice in the last decade, most
recently until 2015-16 (AB 1451, Leno, 2008).
The Constitution allows an exclusion from "new
construction" for solar energy systems, but not an
exclusion from "change of ownership." Under the new
construction exclusion, assessors neither reassess the
property when a taxpayer adds a solar energy system to his
or her property, nor include the value of the solar energy
system when a taxpayer buys a new home with a solar energy
system attached so long as the builder of the home didn't
claim the exemption. Additionally, the exclusion
ABX1 15 - 6/2/11 -- Page 2
terminates if the property is sold to a new owner. The
exclusion applies to the solar energy system regardless of
who owns it, applying equally to both homeowners who
install solar energy systems as part of their homes, or for
businesses who generate solar energy for sale to investor
owned or municipal utilities.
Generally, improvements owned by one taxpayer but located
on a different taxpayer's property, such as a building
operated by a business under a long-term lease, are taxable
to the owner of the improvement. Known as "foreign
improvements," assessors add the improvement's value to the
secured roll when the owner has property in the county, and
to the unsecured roll when they don't.
Current law also states that a change of ownership occurs
when any person or entity purchases or otherwise acquires
more than 50% ownership of a corporation or other legal
entity. The assessor shall reassess any real property
owned by the acquired entity at full market value. If
multiple individuals or entities acquire another entity, in
a single transaction, but none of the purchasers acquires
more than 50% interest in the acquired entity, then a
reassessment is not required.
II. Federal Renewable Energy Tax Credits . Federal law
allows two significant income tax credits for taxpayers
that place renewable energy projects into service.
The renewable energy production credit equal to 2.1
cents per kilowatt-hour produced as of 2008. A
taxpayer may generally claim a credit during the
10-year period commencing with the date the qualified
facility is placed in service. The credit is reduced
for grants, tax-exempt bonds, subsidized energy
financing, and other credits.
The renewable energy investment credit, equal to
30% of total expenditures on each project made in the
taxable year. Eligible solar energy property includes
equipment that uses solar energy to generate
electricity, to heat or cool a structure, or to
provide solar process heat.
In March, 2009, Congress enacted the American Recovery and
Reinvestment Act (ARRA), which allows taxpayers that place
a solar energy facility in service after Dec 31, 2008 to
choose between the production and the investment credit.
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Taxpayers cannot claim both credits for the same facility.
ARRA also allowed these taxpayers to receive a cash grant
from the U.S. Treasury Department instead of either tax
credit for systems where construction begins prior to
December 31, 2011. ARRA also excluded the grant from
producers' income for federal tax purposes. California
conformed to the exclusion for state income taxes (SB 401,
Wolk, 2010).
III. Solar Financing Transactions . Several solar energy
firms have developed sophisticated financing transactions
to make solar energy systems more affordable. The sponsor
of this bill, SunEdison structures sale-leaseback
transactions to help financing entities comply with state
and federal tax incentives, property owners to avoid
reassessment, and to make solar power more affordable
compared to buying electricity from the grid.
While other firms structure transactions differently,
according to SunEdison, its transaction works as follows:
1. Sun Edison assesses a property owner's energy
demand and the solar production capability of the
property.
2. If a property owner decides to install solar, Sun
Edison designs a solar energy system accordingly, and
handles all development work required to construct,
certify, operate and maintain the system at no cost to
the property owner. Sun Edison procures all necessary
permits and rebates relating to the system.
3. The property owner must contract with SunEdison for
the power generated by the system. The power is
provided at a predictable cost, typically over a
20-year period.
4. After certification, SunEdison sells the system to
a third party buyer. The buyer claims the federal
renewable income tax credits and depreciation as the
system owner. SunEdison insures the third-party
against any property tax liability, so if any of its
projects becomes taxable to the tax investor,
SunEdison must reimburse the tax investor.
5. The property owner, who never owns the solar
system, relies on Section 73 to avoid a reassessment
of its property.
6. SunEdison leases the system back from the buyer and
agrees to maintain and operate the system.
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7. As the operator, SunEdison sells the electricity to
the property owner pursuant to a power purchase
agreement. SunEdison can also sell unused electricity
(if applicable) back to a utility through
"net-metering," pursuant to an interconnection
agreement between Sun Edison and the utility.
8. SunEdison maintains an option to purchase the
system from the buyer that if exercised triggers a
property reassessment.
Other firms structure transactions known as "Partnership
Flip Structures," which allocate revenues and tax benefits
from one or more solar energy systems to one or more
investors.
1. The solar energy system developer assesses a
property owner's energy demand and the solar
production capability of the property.
2. If a property owner decides to install solar, the
solar energy system developer designs a solar energy
system accordingly, and handles all development work
required to construct, certify, operate and maintain
the system at no cost to the property owner. The
solar energy system developer procures all necessary
permits and rebates relating to the system.
3. Either before or after project completion, the
solar energy system developer forms a partnership
agreement with one or more tax investors to contribute
capital in exchange for an ownership interest in the
system, or purchases an ownership interest in the
partnership that owns the system or systems.
4. The tax investor or investors typically owns 99% of
the equity and economic interest in the partnership.
The tax investor or investors claim almost all of the
federal renewable income tax credits and depreciation
as the owner of the system.
5. After the partnership distributes a specific amount
of cash to its equity owners that yield the tax
investor or investors a pre-determined internal rate
of return, the terms of the partnership agreement
"flip" the ownership to the solar energy system
developer according to the terms of the partnership.
Some partnership agreements are structured in
tranches, with some investors have more senior claims
to the cash and tax benefits from several solar energy
systems, which then pass to junior investors after
more senior investors have achieved specified cash
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returns.
6. The partnership operates the solar energy system
and sells the electricity to the property owner
pursuant to a power purchase agreement similar to Sun
Edison's.
SunEdison states that existing law doesn't clearly address
the transactions detailed above for purposes of the
exclusion. The transactions could trigger reassessments as
changes of ownership or be assessable to system owners as
foreign improvements. The firm wants the Legislature to
clarify the law to ensure that the exclusion applies to
sale-leaseback transactions and partnership flip
structures.
Proposed Law
Assembly Bill 15x makes legislative findings and
declarations that:
The Legislature enacted the exclusion from new
construction for active solar energy systems to
encourage and provide incentives to develop the
systems.
In 2008, the Legislature amended the exclusion to
apply to a taxpayer purchasing a new building with an
active solar energy system when the owner/builder did
not intend to use or occupy the building.
Newly constructed active solar energy systems are
often sold or transferred in sale-leaseback
arrangements, partnership flip transactions, or other
transactions to purchasers who may be eligible for
federal tax benefits.
The purchaser of the active solar energy system
receives the exclusion as long as the active solar
energy system is newly constructed or added and
another taxpayer has not received the exclusion.
That newly constructed active solar energy systems
constructed as freestanding or parking lot canopies,
or constructed as installations on existing buildings
qualify for the exclusion, including those sold in
sale-leaseback transactions.
The provisions of the bill do not constitute a
change in, but are instead declaratory of existing
law.
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ABX1 15 amends the exclusion from new construction for
active solar energy systems in the following ways:
Changes the definition of "active solar energy
system" to specify that the exclusion commences upon
completion of the system on part of a new property or
on an existing building.
States that an active solar energy exclusion that
qualifies before the current sunset date of January 1,
2018 shall also be excluded after that date.
Clarifies that the exclusion remains in effect only
until there is a subsequent change in ownership.
State Revenue Impact
No estimate. County assessors indicate that the measure
would not change the manner in which they currently assess
solar projects.
Comments
1. Purpose of the bill . According to the Author, "ABX1 15
clarifies the Legislatures' intent regarding the current
exclusion from property tax reassessment for purchases of
new 'active solar energy systems' that are sold in first
owner sale-leaseback arrangements. With the passage of
Proposition 7 in November of 1980 and the implementing
state statute contained in Revenue and Taxation Code 73,
California has established a limited tax benefit for the
purchasers of new "active solar energy systems" by
excluding the value of a solar energy system improvement on
real property from reassessment under certain
circumstances. Under Proposition 7 and Section 73, the
property owner where the new solar energy system is
installed is not penalized for installation of a solar
energy system that will provide power to them because his
or her property is not reassessed to increase its assessed
value to take into account the value of the active solar
energy system. This exclusion benefits only the property
owner that purchases the solar energy system. When the
property owner later sells his or her property with the
solar installation, the property may be reassessed at that
time to reflect the new value, including the increased
value from the active solar energy system.
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This bill is necessary because there is uncertainty in
Revenue and Taxation Code 73 as it relates to the current
exclusion from property tax reassessment for purchases of
new "active solar energy systems" that are sold in first
owner sale-leaseback arrangements. Even though
sale-leaseback arrangements on solar energy systems have
been utilizing the property tax exclusion for years under
existing law, some have argued that there might be
ambiguity in the law and it should be clarified. ABX1 15
provides this clarity and reaffirms existing law so solar
projects can continue to receive the tax assessment
exclusion.
As a result of this uncertainty, a company in my district
-- SunEdison -- has unexpectedly had to reserve millions of
dollars on its balance sheet related to California solar
transactions. More importantly, the company has frozen new
solar project development in California after planning on
investing up to $1.2 billion dollars in new projects in the
coming few years. The company is the co-market leader in
California and we need them to continue to invest in
California solar to meet our RPS standards. The accounting
issue my bill addresses is technical, but BOE members and
staff agree that the Legislature must act to address the
accounting problem because they cannot take an action that
will remedy the accounting issue.
Please note, twenty-five county assessors and the BOE have
reviewed SunEdison transactions under Section 73 over the
past decade and never raised a question about their
compliance with Section 73. None are raising questions now
either. Indeed, BOE Members Horton and Yee are in support
of this bill and I am not aware of any BOE or assessor
opposition. This bill, by establishing what is already
existing practice under Section 73, will resolve this issue
and bring SunEdison back into the California solar market
and will also prevent other companies from experiencing the
same problem in the future. This is critical to the
thousands of solar projects and companies in the state who
need certainty as they decide to grow their businesses and
create jobs. I introduced this bill in the special session
with an urgency clause to ensure that California can
continue to retain and recruit thousands of green-jobs
related to solar installation and maintenance which will
benefit the economy and help address the state's budget
deficit."
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2. One is the loneliest number . ABX1 15 provides
legislative blessing for the active solar energy exclusion
to apply to complex financing mechanisms known as
"partnership flip structures" and "sale-leasebacks." These
mechanisms make economic sense for everyone involved: the
property owner receives low-cost, predicable electricity
with little to no up-front cost, and the third-party
financier uses federal tax benefits to reduce unrelated
income on their federal taxes, thereby providing a
significant tax incentive to provide capital to Sun Edison
to construct the project. Sun Edison runs a profitable
business, employing Californians to build and service
projects in the state that provide environmentally
beneficial solar energy systems at a lower cost than they
could without using sale-leasebacks. Thirty years ago,
when the voters enacted Proposition 8, and the Legislature
implemented it, the policy infrastructure didn't consider
these transactions, and the current state of law has caused
sufficient uncertainty for Sun Edison to seek the
legislative change ABX1 15 makes. However, ABX1 15 is
sponsored by one firm whose interpretation of existing law
requires disclosing an uncertain tax position under federal
accounting rules. Until recently, firms in the same line
of business hadn't expressed the same uncertainty, and only
one other one does now. Assessors haven't differentiated
systems constructed under a sales-lease backs and
partnership flips from others for purposes of the
exclusion, and don't plan to. The Committee may wish to
consider whether action is necessary to assuage the
concerns of one company.
3. Let the sun shine in . Typically, the exclusion from
new construction for active solar energy systems applies
when a homeowner puts solar panels on the roof, or when a
solar energy production company builds a solar farm. The
exclusion ensures that installing solar energy systems
doesn't trigger a reassessment for the taxpayer so that he
or she doesn't have a big property tax increase as a result
of installation, and lowers the cost for solar producers to
make electricity without causing the pollution created by
its fossil-fuel competitors. Although the financing
mechanisms are undoubtedly complex, and the beneficiaries
of the exclusion harder to distinguish, ABX1 15 is
consistent with the existing exclusion by ensuring that the
same technology isn't treated differently for tax purposes
ABX1 15 - 6/2/11 -- Page 9
despite being owned by a financing entity. Because
SunEdison insures the financing entity against the property
tax increase, any change in treatment however impossible
would result in SunEdison footing the bill.
4. The right tool for the job ? Proposition 13 provides
that assessors only revalue property when it's newly
constructed or changes ownership. Proposition 8 enacted
the new construction exclusion for solar energy systems to
ensure that taxpayers installing solar wouldn't be subject
to reassessment for doing so, and ABX1 15 makes legislative
findings regarding the new construction exclusion's
application to specific financing transactions. However,
ABX1 15 suffers from an essential flaw: it's proposing a
new construction solution for a change in ownership
problem. The financing transactions the bill addresses are
basically two different ways of transferring ownership of
the system from system developers to tax investors to take
advantage of the tax benefits, transaction that would
normally be considered a change in ownership if control of
50% or more of the asset changes under the terms of the
deal.
Although Proposition 8 only allowed for a new construction
exclusion, the Legislature can define changes of ownership
as it sees fit, including providing that solar financing
transactions do not constitute changes in ownership. Such
a solution would provide far more clarity for the solar
industry that the single-company fix enacted in ABX1 15,
and could be applied retroactively by adopting a public
purpose statement, similar to the Legislature's action in
SB 559 (Kehoe, 2008), which deemed that a transfer of
property between registered domestic partners was not a
change in ownership. Additionally, by further amending the
solar energy system statute, the bill may further
complicate and confuse existing law. The bill's change to
subdivision (b), specifies that the exemption applies only
when the system's completed, making projects underway but
not yet done on the January 1st lien date assessable to the
developer but for that change.
ABX1 15's sponsors need a timely fix to ensure that its
reserve for uncertain tax position doesn't further hinder
its participation in California's growing demand for solar
energy systems. However, the Committee may wish to
consider whether there's a better approach that provides a
ABX1 15 - 6/2/11 -- Page 10
superior legal framework for all industry participants.
5. A little ain't enough . Solar energy provides
significant benefits both to the environment and the
economy. Solar energy is pollution-free, so investments
made to generate solar energy mean that less energy from
fossil fuel sources is necessary, thereby reducing exposure
to greenhouse gasses and criteria pollutants. Solar energy
helps electricity grid reliability and assuages electricity
prices during periods of peak demand because it is most
plentiful when temperatures are highest, especially when
it's located next to areas of high energy demand.
Additionally, according to Alternative Energy Technologies,
LLC, the solar energy industry represents a sector for
growth in potential skilled and unskilled jobs.
Recognizing the benefits of solar power, California and the
federal government offer numerous incentives for
individuals to install solar energy systems, including
California Solar Initiative rebates, net-metering (where
ratepayers sell excess solar electricity back into the grid
and pay bills based on net energy usage), accelerated
depreciation for commercial purposes in federal law,
low-interest loans for solar panels on low-income housing,
renewable energy credit sales, and time-of-use electricity
pricing in addition to the property tax exclusion.
6. Tell me about it . A "sale/leaseback" or "sale and
leaseback" is a transaction in which the owner of a
property sells an asset, typically real estate, and then
leases it back from the buyer. In this way the transaction
functions as a loan, with payments taking the form of rent.
Due to the lack of financing available in today's market,
many American businesses are increasingly turning to
sale-and-leasebacks to provide quick capital. In some
arrangements, the current lessee will give the option to
buy the asset back at the end of the lease. Typically, if
the original owner were to buy back the asset, it would
take place at the end of the tax year, in case any party
were to be audited by the IRS. Sale/Leaseback transactions
are considered "reportable" transactions under the state
and federal abusive tax shelter laws. Whenever taxpayers
enter into these transactions, they must file a Form 8886
with both the IRS and the FTB to ensure that the
transaction does in fact have economic substance.
SunEdison applies this tax-advantaged sale-leaseback model
to finance solar production in California, which created
ABX1 15 - 6/2/11 -- Page 11
sufficient uncertainty regarding whether it fit in to the
existing statutory exclusion to give rise to the bill. The
Committee may wish to consider whether blessing this kind
of transaction for property taxes is a sanction for
aggressive tax planning.
7. Exemptions or exclusions ? Currently, active solar
energy systems are excluded from value for property tax
purposes, but are not exempt like public property,
agricultural crops, or household furnishings. Assessors
add the value of the system when reassessing a property for
a taxpayer who purchases a house with a solar array
attached, whereas they never include the value of exempt
items. This measure demonstrates that complex financing
models for solar energy systems don't neatly fit into
categories in existing law guiding exclusions, and given
the public subsidies granted both within and without the
tax system, is it time for a full exemption for solar
technology? While an exemption would require a
Constitutional Amendment, it would certainly provide
clarity for taxpayers, assessors, and those in the solar
industry contemplating new ways of financing projects.
8. Urgency . ABX1 15 contains an urgency clause providing
that is provisions go into immediate effect.
Assembly Actions
Assembly Revenue & Taxation Committee: 7-0
Assembly Floor: 73-0
Support and Opposition (06/16/11)
Support : Board of Equalization Members Jerome Horton,
George Runner, and Betty Yee; SunEdison Inc.; SolarCity.
Opposition : Unknown.