Tax Equity Flip and Back Leverage Debt in US Renewable Energy Sector

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Let’s now take a look at the typical cash and tax benefits allocations we see for win projects in the u.s in a pre-flip period the tax equity investor typically gets 99 percent of the tax benefits and 20 percent of cash benefits in a post-flip period the tax benefit allocation goes down to five percent and cash benefit allocation goes down to five percent as well

This is how typical allocation for the tax equity partner looks like in a win project however this allocation varies on a deal-by-deal basis note that according to the irs tax rules the partners have to maintain a minimum of one percent interest in both tax and cash benefits therefore 100 of tax benefits cannot be allocated to the tax equity partner so how does

The allocation of cash and tax benefits look like for the general partner well it will be the opposite of the allocation to the tax equity partner pre-flip one percent of tax benefits and 80 percent of cash benefits will be given to the gp post flip it is 95 percent of both tax benefits and cash benefits note that the tax equity partner has to maintain the five

Percent interest in profit and losses in the post-flip period let’s now take a look at the cash and tax benefits allocation for the solar projects in solar projects we typically have two pre-flip periods the first pre-flip period is the first generation quarter this is when the solar project can claim the investment tax credit usually in the first pre-flip period

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We allocate 99 of the tax benefits to the tax equity partner in the second pre-flip period we allocate 67 percent of the tax benefits to the lp and similar to the allocation for the win project the tax benefit allocation drops to five percent in the post flip period the reason why the allocation drops from 99 to 67 percent in the second pre-flip period has to

Do with the irs rule that tax benefits allocated to the party cannot exceed his capital investment into the project the cash benefit allocation is 20 in both pre-flip periods and drops to five percent in the post-flip period the cash and tax benefits allocation of the general partner is again the opposite of the allocation to the limited partner one percent of

Tax benefits go to gp in the first preflip period 33 in the second pre-flip period and 95 in the post-flip period 80 of cash benefits go to the gp in both pre-flip periods and increases to 95 percent in the post flip period now that we have reviewed the allocation of benefits to the partners let’s introduce the debt financing for the project after all this is a

Project financing transaction we again start with the partnership which develops the renewable project the tax equity partner which is a limited partner invests equity in the project and receives the tax benefits from the partnership the general partner is typically a holding company and the project sponsor invests equity through this holding company now the

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Partnership can raise non-recourse debt and this would be a project level debt however you rarely see project level debts in tax equity structures because tax equity wants to avoid having debt in the partnership if for some reason lenders foreclose the asset this would be a change of ownership and subject to investment tax credit recapture by the irs in other

Words the tax equity investor would have to give back some of the itc to the tax authority if the change of ownership happens within five years which would reduce the tax equity returns significantly for allowing the debt at the project level tax equity investors require around 10 to 12 percent irr compared to six to eight percent irr without the debt at the

Project level so what happens in reality is the holding company which is a general partner raises the debt and this is called a back leverage debt or back levered loan the back levered lenders take the sponsor’s equity interest in the holding company as a security for the back levered loan so the cash distribution from the partnership that goes to the gp goes

First to satisfy the debt service and then pay the dividends to the project sponsor the question is how much each of the parties contribute in financing typical percentages are 40 to 50 percent come from the tax equity investor 20 to 40 percent come from the back levered lenders and the remaining comes from the project sponsor in the last two lessons we reviewed

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The basics of the tax equity concepts and in the next few lessons we will introduce the simplified version of the tax equity funding to our model

Transcribed from video
Tax Equity Flip and Back Leverage Debt in US Renewable Energy Sector By Financial modelingliveBroadcastDetails{isLiveNowfalsestartTimestamp2020-10-31T171916+0000endTimestamp2020-10-31T172600+0000}