Federal Solar Tax Credit: How It Works
If you’re considering going solar you can take advantage of federal solar tax credits — the Investment Tax Credit (ITC) allows you to deduct 26% of solar system costs from your federal taxes.
History of the Federal Solar Tax Credit
The investment tax credit (ITC) was established by the Energy Policy Act of 2005, which was created to help transition the United States to a renewable energy economy. The investment tax credit has proven to be extremely popular and increased the adoption of solar energy in this country.
Fewer than 30,000 homes in the United States had solar systems in 2006 and that number skyrocketed to over 1 million homes thanks in large part to the federal solar tax credit. The tax credit was originally supposed to expire in 2007, but it has been extended multiple times due to its success in driving the adoption of solar energy in this country.
In 2022, the federal solar tax credit was extended, so homeowners can deduct 30% of the cost of their new solar system.
How the Federal Solar Tax Credit Works
Homeowners who purchase and own their residential solar system are eligible for the federal solar tax credit. The tax credit is not valued at a set dollar amount and is valued at a percentage of what you spent to install your solar system.
For example, if you spend $25,000 to install your solar system in 2022, you will receive a 30% deduction which amounts to $7,500. You can then claim a tax credit of $7,500 that will reduce the total amount of your income taxes by $7,500.
The federal solar tax credit can be rolled over to a future year, if the taxes you owe are less than the credit you earned. In the previous example, a homeowner received a $7,500 tax credit. If their total federal taxes owed for that year are $5,000, they can then roll over the remaining $2,500 of their tax credit to the next year and use their remaining tax credit to lower their federal income taxes in a subsequent year.
There is no limit on the federal solar tax credit, so taxpayers in all income brackets are eligible.
How the Federal Solar Tax Credit Works
You might be eligible for the federal solar tax credit, if you meet the following criteria:
- Your solar PV system was installed between January 1, 2006, and December 31, 2023.
- Your solar PV system was installed on your primary or secondary residence in the United States.
- For off-site community solar projects, the electricity generated is credited against, and does not exceed, your home’s electricity consumption. The IRS permits taxpayers to claim a section 25D tax credit for purchase of a portion of a community solar project.
- You must own the solar PV system. Either you purchased the system with cash or financed your purchase with a loan. You cannot claim the tax credit if you are leasing the system or have an agreement to purchase electricity from a solar PV system that you do not own.
- Your solar PV system is new or being used for the first. The federal solar tax credit can only be claimed on the original installation of the solar equipment. For example, if you buy a house that came with a solar system already installed, you would not be eligible to claim this credit.
Expenses covered by the Federal Solar Tax Credit
The following costs and expenses are covered for homeowners who take advantage of the tax credit:
- Cost of Solar PV panels.
- Contractor labor costs for onsite preparation, assembly, or original installation, including permitting fees, inspection costs, and developer fees.
- Any additional solar equipment (i.e. balance-of-system equipment, including wiring, inverters, and mounting hardware).
- Home batteries or other energy storage devices that are charged exclusively by the associated solar PV panels. This expense can be included even if the energy storage device is placed in service in a subsequent tax year to when the solar energy system is installed. Energy storage devices are still subject to the installation date requirements.
- Sales taxes on eligible expenses.
Using the Federal Solar Tax Credit with other solar incentives
There are other solar incentives for homeowners such as rebates, state programs, and other tax credits. Any additional incentives available to you will depend on where you live.
Utility Company Rebates
If your utility company provides rebates for installing a solar system, that rebate would be subtracted from the cost of your solar system before you calculate your federal solar tax credit.
In the previous example, a homeowner spent $25,000 to install their solar system in 2022 and received a 26% deduction when they file for their tax credit
26% x $25,000 = $6,500 federal solar tax credit
If that same homeowner lives in an area where their utility company offers a $1,000 rebate for installing solar panels, that rebate will be applied to the cost of their solar system. Their tax credit would now be calculated as:
26% x ($25,000 - $1,000) = $6,240 federal solar tax credit
The cost for that homeowner’s solar PV system would now be $1,000 less, so their tax credit would be $260 less since the tax credit is valued at the percentage of what it cost to install your system.
The homeowner in this example still pays $1,000 less for the cost of their installation. In most cases, rebates or any other subsidies provided by your utility company to install a solar system for your home are excluded from your federal income taxes.
State Government Rebates
Rebates from your state’s government will typically not reduce the amount of your federal solar tax credit. If you live in a state that provides a one-time $1,000 rebate for installing your solar system, this will not be applied to the total cost amount you will use to calculate your federal tax credit. We will refer to our original example of a homeowner who spent $25,000 for their solar system installation to demonstrate this:
26% x $25,000 = $6,500 federal solar tax credit
The amount of your federal tax credit will remain the same, since receiving a rebate from your state’s government will not be applied to the total cost that is used to calculate the amount of your tax credit.
State Tax Credit
If your state provides state tax credits for installing your solar system, this will not decrease the size of your federal solar tax credit. If you do live in a state that provides state solar tax credits, your taxable income on your federal tax returns will be higher, since you will have less state income tax to deduct.
Renewable Energy Certificates
Some states require utility companies and energy suppliers to procure a certain percentage of electricity from qualified renewable energy resources in that state. Utility companies can meet these requirements by purchasing Renewable Energy Certificates (RECs) from the owners of a solar system.
If you receive money from your utility company or another buyer for selling renewable energy certificates, it will most likely be considered taxable income. This will increase your gross income, but it will not reduce your federal solar tax credit.
How to Claim the Federal Solar Tax Credit
You can claim the investment tax credit (ITC) for your home’s solar system when you file your annual federal tax return. Before you begin to file your tax return, we recommend you compile all of the receipts, documents, and forms required.
Documents and Forms You Will Need
- 1 — Receipts for the cost and expenses for your solar installation
- 2 — IRS Form 1040
- 3 — IRS Form 5695
The IRS provides instructions on their website to help you complete these tax forms. Here are links for you to download the instructions for IRS Form 1040 and IRS Form 5695.
Once you have all of the necessary receipts and forms, you will then take the following steps to claim the investment tax credit (ITC):
- 1 — Determine if you’re eligible for the federal solar tax credit.
- 2 — Complete IRS Form 5695
- 3 — Add to Schedule 3 and Form 1040
If you are eligible for the federal solar tax credit, then you will file IRS Form 5695 with your tax return to claim your tax credit. Part I of Form 5695 calculates the amount of your tax credit. The final amount will be listed on your 1040 form.
Homeowners who claim the residential tax credit will do so on their personal income taxes.
Tax Credit Resources for Homeowners
US Department of Energy Homeowner’s Guide to the Federal Tax Credit
The U.S. Department of Energy Homeowner’s Guide to the Federal Tax Credit for Solar Photovoltaics is a great resource for homeowners who have gone solar. The guide can help answer your questions about your eligibility for the tax credit, expenses you can include, rebates, and other tax incentives.
DSIRE Incentives Database
The Database of State Incentives for Renewables and Efficiency (DSIRE) is a comprehensive database that homeowners can use to search for and find solar energy incentives in their individual state and across the country.