Utility-owned community solar project

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Publication June 2017

A community solar project owned by a utility received a favorable tax ruling.

A utility plans to build a pilot community solar array and to pay for it by offering subscriptions to its ratepayers. Anyone subscribing will continue to buy electricity from the utility as before, but will be credited on his or her monthly utility bills with an “incentive fee” that reimburses the subscriber for the fuel cost savings to the utility from moving to solar and for the value of the renewable energy credits to which the utility is entitled for generating solar electricity. 

The utility will not put the plant into its rate base. Rather, it will charge all its ratepayers, including the pilot program subscribers, for the electricity from the plant as a purchased power expense. Utility rates are usually set at a level that is projected to earn the utility an agreed rate of return on its rate base, meaning the amount it has invested in plant and equipment. However, some costs, like the cost of fuel and electricity purchased from third parties, are passed through to ratepayers directly.

The utility needs fewer than 0.5 percent of its ratepayers to subscribe to cover the community solar project costs.

The IRS told the utility in a private letter ruling made public in May that the community solar array will not be “public utility property.” 

The ruling is important because it allows the utility to claim an investment tax credit and accelerated depreciation on the community solar facility without worrying whether its state regulators will force it to pass through the value of the tax benefits too quickly in the rates it charges its customers for electricity. 

A regulated utility cannot claim investment tax credits and accelerated depreciation on new assets if its regulators make it pass through the benefits to customers more rapidly in rates than under a “normalization” schedule that spreads the benefits over time. The utilities asked Congress in the 1970s to be denied the two tax benefits if their regulators force the benefits to be passed through too quickly to ratepayers. They saw it as a way to ensure they would be able to retain some incentive from the tax benefits to make new investments. 

Potential loss of these tax benefits is an issue only for assets considered “public utility property.” New generating equipment is public utility property only if the rates the utility can charge for the electricity output are regulated on a rate-of-return basis. 

Even though the utility plans to sell the electricity in this case as part of an undifferentiated pool of all the electricity it supplies, the IRS said the cost for this particular electricity is passed through to ratepayers as a purchased power expense rather than at a regulated rate tied to a rate base.

The ruling is Private Letter Ruling 201718017.


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