Bonus depreciation: What you need to know

As a business looking to go solar in the US, the best incentives available to you are tax incentives. Between the investment tax credit (ITC)–which works the same for businesses as it does for homeowners–and depreciation benefits at both the state and federal level, you can expect to receive half of what you pay for solar back as tax benefits. While the ITC has been around for a long time, and its success is well documented, bonus depreciation is a newer incentive that can provide nearly as large of a tax benefit as the ITC.

First of all, to understand how bonus depreciation impacts the cost-benefit of solar, we'll take a look at depreciation, focusing on what it is and how it works. Before we do that, a quick disclaimer: we're clean energy experts, not tax experts, and nothing in this article constitutes tax advice. With that out of the way, here's what depreciation is and how it works, according to the IRS:

"Depreciation is an income tax deduction that allows a taxpayer to recover the cost or other basis of certain property. It is an annual allowance for the wear and tear, deterioration, or obsolescence of the property." 

So, if you are a business, you can depreciate the value of certain business-related expenses, such as solar panels. Basically, the tax code allows you to take a tax benefit by recognizing that certain types of expenses and other physical assets will decrease in value over time. At the end of the day, depreciation reduces the earnings that you're taxed on, meaning it works like a tax deduction, such as the impact of a charitable donation on your personal income taxes.

The notion of bonus depreciation isn't new, but the way that it is applied to solar has changed in recent years. In fact, the Tax Cuts and Jobs Act of 2017 made two major updates to how bonus depreciation is applied as a solar incentive. First, it increased bonus depreciation to 100 percent in year one. Second, it defined the timeline that this benefit will be applied to solar assets for any projects placed in service from September 27, 2017, through the end of 2022.

Importantly, for solar assets, in particular, the value that you can depreciate is reduced by 50 percent of any other federal tax credits from the project. So, for a project in which you will take the value of the ITC for, you have to reduce the value you depreciate by 13 percent (i.e., half of the 26 percent ITC).

To calculate the tax benefit of bonus depreciation for a solar project, there are three variables you need to know: the cost of your solar project (in dollars), the value of the federal ITC (percent), and your company's tax rate (also a percentage).

If you are taking advantage of the federal ITC (which you should!), then the regulation says you have to subtract half the value of the ITC from the value that you depreciate: when the ITC is at 26 percent like it is today, cut the ITC percentage in half–so 13 percent–and subtract that from the cost of your solar panel system. In other words, you get to depreciate 87 percent of the cost of your solar panel system. From there, the tax benefit you receive is based on your corporate tax rate, i.e., 30 percent or 37 percent.

So if your solar panel system costs $100,000, the ITC is at 26 percent, and your corporate tax rate is 37 percent, then the depreciation benefit will be $32,190 in the first year: $100,000 (the cost of the system) * 87 percent (the value you can depreciate if you take the ITC) * 37 percent (assumed corporate tax rate).

Again, this is a big tax benefit the year after you install solar. In the example above, bonus depreciation effectively amounts to a 32 percent tax credit, meaning that bonus depreciation basically doubles the ITC benefit.

EnergySage doesn't just help homeowners go solar; we also help get quotes for businesses and nonprofits. And with tax benefits like the ITC and bonus depreciation, solar is a no-brainer for many business owners due to its rapid payback period and high return on investment. To get started with solar quotes for your business, sign up for a free account today on the EnergySage Marketplace, and we'll help you navigate your solar options.