SUSTAINABLE RETURNS - Resources for Family Offices

SUSTAINABLE RETURNS SOLAR TAX EQUITY INVESTMENTS FOR FAMILY OFFICES WITH PASSIVE INCOME

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SOLAR TAX EQUITY INVESTMENTS FOR FAMILY OFFICES WITH PASSIVE INCOMESUSTAINABLE RETURNS

EXECUTIVE SUMMARYIn the United States, solar power project installations have experienced 59% annual growth over the last decade according to the Solar Energy Industries Association. Underpinning this explosive growth are federal Tax Benefits, specifically the Investment Tax Credit (“ITC”) and the Modified Accelerated Cost Recovery System (“MACRS” or “Accelerated Depreciation”), collectively the “Tax Benefits”, which are designed to attract investment in solar assets to aid in the development of the U.S. renewable energy infrastructure. Similar in many ways to other federal tax incentives that support investment in areas such as low income housing and historic properties, the Tax Benefits associated with solar projects promote growth in an area determined to be of significant importance by Congress. Often these incentives are erroneously dubbed tax loopholes, but in stark contrast to that definition these provisions are, in fact, woven tightly into the framework of the U.S. Tax Code as a means to encourage investment in low income housing, historic properties, or in the case of this paper, solar projects.

The majority of solar project developers and long-term owners, known as “Sponsors”, do not have the requisite income tax liabilities to efficiently monetize the ITC and Accelerated Depreciation afforded to solar assets and therefore raise capital from unaffiliated third parties in the form of “Tax Equity”. Traditionally, the universe of participants in these solar Tax Equity investments have been limited to large financial institutions, utilities and large corporations with little participation by individuals and family offices. This has been driven by a combination of factors including the limitations of the passive income tax and at-risk rules that apply to individual investors and the institutional size investment amounts historically required. The current dynamics of the solar industry, particularly the proliferation of smaller scale installations, present an opportune time for more family offices and individuals with meaningful passive income tax liabilities to participate as third party Tax Equity Investors and earn strong risk-adjusted returns on relatively short duration investments where capital payback is largely derived from low-risk tax savings as outlined in this paper. Solar Tax Equity investment continues to only be appropriate for individual and family office investors with passive income tax liabilities. Investors should consult their own tax, legal and accounting advisors before engaging in any Tax Equity transaction.

While solar Tax Equity investments may seem complicated at first glance, particularly as it relates to structuring and underwriting, this paper aims to break down the fundamentals of how these investments work and provide a context of why there is a unique opportunity for certain individuals and family offices to participate today.

CONTENTS

EXECUTIVE SUMMARY 2

SOLAR PROJECT BASICS 3

SOLAR TAX EQUITY MARKET OVERVIEW 4

PASSIVE INCOME RULES FOR INDIVIDUALS AND FAMILY OFFICE INVESTORS 6

SOLAR INDUSTRY FUNDAMENTALS 6

SOLAR TAX EQUITY STRUCTURE AND TRANSACTION OVERVIEW 7

CONCLUSION 13

ABOUT THE AUTHORS 14

ABOUT THE FAMILY OFFICE ASSOCIATION 15

DISCLAIMER 16

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SOLAR PROJECT BASICSA typical non-residential solar project consists of a project company, usually a single-member limited liability company, which owns all the project assets including equipment, land and interconnection rights, permits and power purchase agreements (“PPA”). Through the PPA, the project sells electricity to the buyer of power or “Offtaker”, typically a utility, municipality, commercial & industrial customer or other counterparty for a period of usually 15 to 25 years. Typical project life is 25-35 years and after the PPA expires, the project is usually anticipated to sell power at market rates. In addition to this income stream, many states have incentive programs that can also enable solar projects to produce other sources of revenue such as net metering credits, renewable energy credits or other environmental attributes that can be sold.

Besides cash flows from the sale of electricity and the other sources of revenue mentioned above, U.S. solar projects

also profit from Tax Benefits provided by the federal government, to be discussed in more detail in the next section. The project cash flows and Tax Benefits, along with the other assets of the project company, provide the basis for the financing of the project.

Key operational project risk assessments that developers and investors must focus on include, among others, the forecasted amount of energy generated by the solar plant, the creditworthiness of the Offtaker, the sufficiency of operations and maintenance services and the variability of market pricing for electricity or other sources of revenue if not fixed through PPA’s. Every project comes with its own unique attributes that need critical evaluation by subject matter experts. Investors should always make certain that risks are thoroughly evaluated by experienced professionals with expertise in both solar project fundamentals and Tax Equity transactions.

TYPICAL NON-RESIDENTIAL SOLAR PROJECT STRUCTURE

Offtaker or Renewable Credit Customer(s)

Clean Energy and Other Sources of Revenue

Payments for Energy

and Other Revenue

TAX BENEFITSSolar Investment Tax Credit/

Accelerated Depreciation

Federal Government

SOLAR PROJECT CO.Power Purchase Agmt.

Solar EquipmentLand Rights

Interconnection RightsOperations Contract

Construction Contract

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SOLAR TAX EQUITY MARKET OVERVIEWThe U.S. solar energy market has matured and experienced rapid growth over the last decade. There are now more than 1.6 million solar installations in the U.S., with 2 million expected by 2019 and 4 million by 2023.1 “By 2021, there will be over 100 GW of solar installed in the U.S. with annual totals exceeding 15 GW by 2023.”2 This remarkable growth has been largely fueled by the dramatic decline of solar system prices allowing the cost of solar energy to decrease to levels competitive with other non-renewable sources of power generation. Additionally, the expansion of government programs, state renewable portfolio standards and stable federal Tax Benefits have allowed the industry to flourish.

U.S. solar energy projects rely on federal Tax Benefits for economic viability. These benefits include the ITC which is an upfront federal tax credit equal to 30% of eligible

project value. In 2015, bipartisan congressional support led to extension of the ITC incentive through 2022, with a reduction of credit-to-project-value ratio to 26% in 2020, 22% in 2021 and 10% for projects in 2022 and after. Solar projects also benefit from Accelerated Depreciation which provides for depreciation of 85% of the project’s eligible value over 5 years, generating tax deductions. The ITC and any losses from Accelerated Depreciation may also be carried forward to be used in subsequent tax year(s) if a Tax Equity Investor is unable to monetize the benefit in part or in its entirety in the year in which it was awarded.

However, most solar project developers and long term owners (“Sponsors”) do not have the tax liabilities to make use of the Tax Benefits themselves. They either have to sell the projects outright to tax efficient owners or source third party Tax Equity Investors to monetize the projects’ Tax Benefits. In fact, roughly three-fourths of solar projects in the U.S. are supported by such Tax Equity financings.3

1 Source: Solar Energy Industries Association, including residential2 Source: Solar Energy Industries Association

3 Source: New York Times

ANNUAL U.S. SOLAR INSTALLATION FORECAST 2010-2023E

Source: GTM Research/Solar Energy Industry Association

16,000

Residential Non-Residential Utility

Cap

acity

(MW

dc)

14,00012,00010,0008,0006,0004,0002,000

0

20102011

20122013

20142015

20162017

2018E2019E

2020E2021E

2022E2023E

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An estimated $12 billion of third party Tax Equity was placed in renewables in 2017 of which $7 billion was for solar ($5 billion for wind) according to Bloomberg New Energy Finance.

Despite the large market for Tax Equity, its investor base is concentrated with only 30-35 major institutional investors, dominated by 8-10 large banks and major utilities. These major players include US Bank, Bank of America, JP Morgan, Wells Fargo, PNC, Metlife, Dominion and a few others. These institutional investors normally deploy larger investment amounts (~$20 million to $100+ million) for utility scale projects or sizeable portfolios of uniform smaller projects.

But as the falling costs of solar have led to the proliferation of economically viable smaller projects across the country, the size of the Tax Equity investment required for small, one-off, quality projects has often fallen below the minimum size of interest of institutional tax investors. Meanwhile, high transaction costs associated with institutional Tax Equity investment transactions create another hurdle for the financing of smaller projects. These factors further exacerbate the shortage of Tax Equity for small utility, commercial & industrial and community solar projects less than 20 MW.

HISTORIC AND PROJECTED THIRD PARTY TAX EQUITY (USD IN BILLIONS)

Source: Bloomberg New Energy Finance

RENEWABLE PORTFOLIO STANDARD POLICIES

Source: Berkeley Lab (July 2017) Notes: In addition to the RPS policies shown on this map, voluntary renewable energy goals exist in a number of U.S. states, and both mandatory RPS policies and non-binding goals exist among U.S. territories (American Samoa, Guam, Puerto Rico, US Virgin Islands).

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Family offices and individuals have a unique opportunity to fill this gap in the market. Those with tax liabilities from passive activity income can take advantage of the Tax Benefits associated with solar projects to earn attractive risk-adjusted returns. With investments of $500,000 to $20,000,000 per project, they can provide capital for a segment of the solar market that has historically struggled to secure Tax Equity financing.

PASSIVE INCOME RULES FOR INDIVIDUALS AND FAMILY OFFICE INVESTORSUnlike the large financial institutions and corporations that invest in solar Tax Equity, individual investors and family offices are subject to the passive loss rules of the U.S. Tax Code and Internal Revenue Service (“IRS”) that limit the types of tax liabilities that can be offset with solar project Tax Benefits.

Tax Equity Investors usually do not actively participate in the day-to-day operations and management of solar projects and are considered passive investors. The U.S. Tax Code and IRS rules specify that the ITC or losses as a result of Accelerated Depreciation from the solar project can only apply to other forms of passive income.

Wages and salaries, as well as portfolio income and capital gains, are not considered passive income. Qualifying forms of passive income for individuals are typically either rental income from real estate holdings or income from a business or partnership in which the investor does not materially participate or manage.

Additional information can be found in IRS Publication 925. www.irs.gov/publications/p925

Individuals or family offices should consult with tax, legal and/or accounting experts familiar with their individual tax situation(s), particularly regarding their ability to utilize either the ITC or losses associated with Tax Equity investing in solar projects.

SOLAR INDUSTRY FUNDAMENTALSAs mentioned, significant factors across the renewables landscape have fostered stability and growth of the industry and created highly favorable conditions for new Tax Equity Investors to participate.

For example, favorable regulatory response to climate change and bi-partisan support for renewable energy have been a fundamental driver of demand for solar in the U.S. Many states have implemented Renewable Portfolio Standards (“RPS”) that require a certain percentage of a state’s power generation come from renewables, some with specific carve-outs for solar power generation. Meanwhile, other states have seen massive growth in solar deployment without RPS requirements. Most recently, state governments and corporations have filled in where the current administration has pulled back on renewable commitments due to compelling economics and sustainability objectives.

In addition to the regulatory environment push driving solar proliferation, falling equipment pricing and a track record of reliability, have pushed solar into the forefront of wholesale and retail power relevance. The economics of solar have become compelling when compared to all other forms of electricity generation, and “grid parity” is becoming a reality across the U.S.

As a result, new project development well beyond 2020, from both veteran and new entrant developer/sponsors, will push the demand of Tax Equity. Certainty of availability and pricing of Tax Equity is critical for development and power marketing decisions for solar projects.

SOLAR SYSTEM PRICING BY MARKET SEGMENT

Source: GTM Research

https://www.irs.gov/publications/p925

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SOLAR TAX EQUITY STRUCTURE AND TRANSACTION OVERVIEWUnder U.S. tax law the federal Tax Benefits derived from solar projects, namely the ITC and Accelerated Depreciation, cannot be bought and sold, and in general can only be claimed by an owner of the project. As such, three structures have been widely adopted to efficiently monetize those benefits: the partnership “flip”, sale leaseback and inverted lease. The Tax Equity market is dominated by the partnership “flip” structure, which is summarized below. “About 80% of Tax Equity deals in the solar market and 100% in the wind market take this form.”5

Basics of the Partnership Flip StructureThe Partnership Flip structure is a partnership between two unrelated parties:

• The Sponsor, who is the long-term owner of the solar project, cannot efficiently utilize the Tax Benefits, and whose primary economic interest is in the long-term (30+ years) of cash flows from the performance of the solar project.

• The Tax Equity Investor whose primary economic motivation is the federal Tax Benefits generated by the solar project.

The crux of the transaction is such that these two parties, the Sponsor and Tax Equity Investor, together own a solar project through an entity that is taxed as a partnership for federal income tax purposes. The cash flows and Tax Benefits

Solar PV

10HR

6HR

7HR

AVERAGE PPA PRICE VS. SHORT RUN MARGINAL COST OF GAS GENERAION USD PER MEGAWATT-HOUR (REAL 2016)

Source: Bloomberg New Energy Finance, U.S. Department of Energy (LBNL). Note: HR = ‘Heat Rate’ (MMBtu/MWh); Levelized, time-of-day adjusted contract price shown.

5 Chadborne-Norton Rose Fullbright Project Finance Newswire, February 2018

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generated by the solar project are disproportionately allocated to the two parties with the Sponsor receiving most of the cash flows and the Tax Equity Investor receiving 99% of the Tax Benefits for a period of 5-8 years. After this period the Tax Equity Investor “flips” (at the “Flip Date”) down to a minority interest in both tax attributes and cash flows, generally 5%, at which point the Sponsor has a right to buy out the Tax Equity Investor. As soon as the anticipated Tax Benefits allocated to the Tax Equity Investor (e.g. the ITC and losses generated by Accelerated Depreciation) are vested and determinable, the Tax Equity Investor reduces its federal income tax withholding payments to reflect the reduction in its anticipated federal income tax liability thus realizing the cash flow from the Tax Benefits it derived from the solar project Tax Equity investment. As a partnership for tax purposes, both the Tax Equity Investor and Sponsor receive a K-1 each year.

Sponsors find partnership flip structures attractive because 95% of the project’s cash flows automatically revert back to them at the Flip Date as opposed to sale lease back transactions where the Sponsor has to buyback 100% of the residual value at end of lease. Tax Equity Investors prefer the partnership flip structure because it has relatively short tenor (versus sale leaseback), the majority of their capital recovery is derived from Tax Benefits and their return on capital is achieved by the flip point (the 5% residual is not a meaningful economic driver).

The Structure FormationGenerally, a new limited liability holding company is formed to become the tax equity partnership vehicle which will own 100% of the membership interests in a solar project or multiple solar projects to be financed by the same Sponsor and Tax Equity Investor. The Tax Equity Investor typically enters the partnership in the holding company through a contribution of cash in exchange for partnership interests or by the purchase of partnership interests in the holding company from the Sponsor.

Typically before construction of the project has commenced, the Tax Equity Investor and Sponsor have executed a term sheet outlining all the terms and conditions of the partnership and proceeded to definitive documentation which generally includes two documents: 1) an equity capital contribution agreement or membership interest

purchase agreement which governs the terms and amount of the capital contributions of the Tax Equity Investor; the representation and warranties of the Sponsor with regard to the transaction and the conditions precedent to the Tax Equity Investor’s actual funding of the investment; and 2) the limited liability company agreement which governs the terms and roles and responsibilities of the members once the funding has occurred. Under the tax code, the partner receiving the ITC for federal income tax purposes must be a partner in the project prior to the project being “Placed-In-Service” (commencing commercial operations). As such, typically the Investor funds 20% of its total investment when the project has reached an advanced stage of construction such that it is physically built but has not yet been energized to begin producing power and hence has not yet begun commercial operations. The balance of the Tax Equity Investor’s investment is generally funded once the project has met all requirements for operation and has been Placed-In-Service for tax purposes (has commenced regular commercial operations).

Capital ContributionsTypically in a partnership flip transaction, the Tax Equity Investor’s investment will represent 35-45% of the total capital cost of the project with the balance being funded by

PARTNERSHIP OWNERSHIP STRUCTURE

Tax EquityInvestor

Developer/Sponsor

100% Ownership

HoldcoSPV

SOLAR PROJECT CO.

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the Sponsor. In transactions utilizing non-recourse project debt, the Tax Equity Investor’s investment will be lower and the majority of the Sponsor’s capital contribution will generally be funded by that debt. However, in the current market, most Tax Equity partnership flip transactions do not involve project level non-recourse debt. Rather, Sponsors utilize “back-leverage” on their partnership interest in the project where they take a loan secured by their share of the cash flows allocated to them from the partnership and their partnership interest is the collateral. The back leverage lender has no claims on the Tax Equity Investor’s stated share of cash flow.

Tax AllocationsTaxable Income / Loss and the ITC (which follows the income allocation) is generally allocated 99% to the Tax Equity Investor and 1% to the Sponsor up until the Flip Date (although the allocations after year one may vary slightly in certain transactions). After the Flip Date, the income allocations typically “flip” to 95% to the Sponsor, 5% to the Tax Equity Investor (consistent with allocations of cash distributions discussed below).

Although the partners agree that 99% of the tax losses generated by the Accelerated Depreciation deductions will be allocated to the Tax Equity Investors, all partnership flip transactions suffer from “absorption” issues with regard to the amount of tax losses the Tax Equity Investor can actually take. The U.S. Tax Code governs the capital account and outside basis of each partner which measure the amount each partner contributed to the deal and the amount of losses (tax benefits) they each can take out. The Tax Equity Investor’s capital account almost always reaches zero before they can absorb the full 99% of the losses generated by the Accelerated Depreciation deductions and as a result those losses are then reallocated to the Sponsor.

In some deals, this result is dealt with by the Tax Equity Investor agreeing to provide a “Deficit Restoration Obligation” which is an agreement by the Tax Equity Investor to make a capital contribution equal to the deficit in their capital account in the event that partnership liquidates. However, typically at the point where the Tax Equity Investor’s capital account has reached zero so has

their outside basis, so those losses are “suspended” and can only be utilized when the Tax Equity Investor’s outside basis is increased by being allocated positive taxable income which those suspended losses can then be used to off-set. Another way to deal with absorption issues is to add project level non-recourse debt which converts part of the depreciation deductions into “nonrecourse deductions” that can be absorbed by the partners after their capital account has reached zero. The debt also increases the partners outside basis. However, non-recourse deductions only provide a timing benefit as in the future an equivalent amount of income is later allocated to the partners as the debt is repaid (called minimum gain chargeback).

Cash AllocationsIn a partnership flip transaction, the distributable cash flows from the project are allocated in a different ratio than the tax attributes. Some transactions have a straight ratio of typically 15-40% allocated to the Tax Equity Investor and the balance to the Sponsor through the Flip Date at which time the allocation drops to a typical 5% allocation along with the tax allocation. In other transactions the Tax Equity Investor receives a fixed “preference return” calculated as an annual percentage rate on their total capital investment and after payment of the preference return amount the Sponsor is distributed the balance of the distributable cash. The preference return is generally cumulative, such that if for some reason the project under performs in one period the Tax Equity Investor will be made whole in subsequent periods. Some transactions also include both a preference return and then a split of the remaining cash flows after the preference return has been paid between the Tax Equity Investor and the Sponsor. In all deals, the Sponsor generally is allocated the majority of the distributable cash from the project.

The FlipThe Flip Date is determined in one of two ways, it is set as a date certain (a time based partnership flip) or it occurs once the Tax Equity Investor has reached their agreed upon yield (yield based partnership flip). Generally time based flips involve preference return cash distributions which act to insulate the Tax Equity Investor from underlying

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project performance. In a yield based flip, if the project performs better than modelled the Investor may reach their return sooner than expected and vice versa if a project underperforms the model.

Tax Equity Investor yields are measured based on the after-tax cash flow to the investor. Tax equity investors, particularly in unlevered yield-based flips, quote their internal rate of return (IRR) as of the Flip Date, without regard to the value of the 5% residual interest, which is generally assumed to be bought out by the Sponsor. In the current market Tax Equity returns for unlevered yield-

6 Mayer Brown “Tax Equity Structuring and Impact of Potential Tax Reform” June 20, 2017

based flips are “Utility Scale Solar: 7.0% to 8.5% after-tax IRR; Rooftop Solar: 9.0% to 12.5% after-tax IRR (or more for small commercial projects financed one at a time)”.6 Unlevered time-based flip structures are priced on a dollar of investment per dollar of ITC allocated to investor and typically have 15-35% unlevered after-tax IRRs and generally have 1-2 year simple pay-backs on investment. The time-based partnership flip structure is the more prevalent form of partnership flip for smaller projects and individual investors.

TIME BASED PARTNERSHIP FLIP TAX EQUITY FINANCING

Tax Equity Investor~35-40% of project capital

Tota

l Pro

ject

Cos

ts

Developer/Sponsor~60-65% of project capital

Potential Debt~50% of project capital

• Typical after-tax IRR of 15-35%; 1.5x+ multiple of Net Invested Capital*

• Initially up to 99% of income/losses including ITC

• Preferred cash flow ~2% of investment often with additional variable cash flow

• 6-7 year term of investment• Simple payback of ~2 years

• Typical unlevered after-tax IRR of 4-8% {8-20% back-levered} realized over useful life of project

• Initially at least 1% of income/losses• Remaining cash flow after tax investor

is paid• 25-35 year term of investment

*Net Invested Capital defined as Investment less ITC

• Simple payback of ~7-12 years• Majority of return and economics are

derived from the long-term operating cash flows of the project over its useful life

• Sponsor may employ debt financing to enhance long-term returns

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Model and Due DiligenceProject due diligence and the financial model play an important role in a partnership flip transaction. First, the underlying cash flows of the solar project need to be modelled incorporating the expected revenues from generating electricity and expected operating and administrative costs of the project over its useful life. Typically, an independent engineer or other expert is engaged to review expected solar generation and maintenance costs over the life of the system. Given that Tax Benefits drive much of the solar project economics, another key input is the Fair Market Value of the solar project and the amount of ITC qualifying basis from the project which are determined by an independent third party appraisal firm. As discussed above, absorption issues are present in all partnership flip transactions, so it is essential to properly model the capital and outside basis accounts of both the Investor and Sponsor as the allocations of taxable income in the partnership agreement will not be the same as those expected after consideration of capital and basis account limitations.

Partnership Governance and Risk AllocationThe Sponsor is the managing member of the partnership and the Tax Equity Investor’s role is a passive one. The limited liability company agreement governing the

partnership, in addition to laying out the economic terms and allocations, outlines the responsibilities of the Sponsor as managing member and actions that the managing manager is prohibited from taking without the Tax Equity Investor’s consent (incurring debt, selling assets, amending project documents, etc). The Sponsor has day to day responsibility for the operations and administration of the project. These responsibilities, and the terms of conditions of such, are generally documented in a service agreement with the partnership entity. The transaction documentation will also include a host of representations and warranties by the Sponsor regarding the physical project, the Sponsor entity, the project company and the holding company.

Current market terms are for the Sponsor to indemnify the Tax Equity Investor should breach of any of the Sponsor’s reps and warranties cause the Tax Equity Investor economic damage including actions the Sponsor may have taken which result in the disqualification of the project for all or a portion of the ITC. The agreements also generally provide that if the Sponsor fails to make an indemnity payment owed to the Tax Equity Investor, the Tax Equity Investor can sweep all of the cash flows otherwise payable to the Sponsor from the project until that claim has been satisfied.

ILLUSTRATIVE SOLAR TAX EQUITY PARTNERSHIP FLIP INVESTMENT (TIME-BASED) - USD IN 000s

*�Representative�economics�of�individual�investor�in�time-based�partnership�flip�on�a�project�with�mid-year�Placed-In-Service�date.�Tax�Benefits�are�calculated�by applying the assumed investor federal marginal tax rate of 37% to taxable loss generated post deductions from Accelerated Depreciation. Assumed total project cost of $2,670,000 and Sponsor investment of $1,670,000.

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Construction / Completion RiskAs noted previously, the Tax Equity Investor must make an investment in the project prior to it being Placed-In-Service for tax compliance purposes in order to be an owner of the project and be eligible for the ITC. As highlighted above, the Tax Equity Investor generally funds 20% of their total investment in the project before the project is Placed-In-Service (but it is physically/mechanically complete), funding the balance of their investment once the project has been Placed-In-Service and is no longer subject to construction or completion risks. The transaction documentation also often provides a mechanism for the Tax Equity Investor to put back its investment to the Sponsor should the project fail to meet the Placed-In-Service criteria by a date certain.

ITC Basis RiskThe amount of the Investment Tax Credit is based on a project’s qualifying tax basis. This is generally the portion of the fair market value of the project allocable to the solar property (versus transmission or other ancillary project structures which do not qualify for ITC). There is a risk the IRS could question the magnitude of the basis upon which the ITC was claimed. To mitigate this risk, Tax Equity Investors require an appraisal and cost segregation report by an independent third party at the Sponsor’s cost before funding their investment in the Tax Equity partnership. Furthermore, in most Tax Equity partnerships it is customary for the Sponsor to indemnify the Tax Equity Investor for the tax basis value should it be challenged by the IRS.

ITC Recapture RiskAlthough the ITC can be claimed immediately and credited against the Tax Equity Investor’s tax liability, the ITC actually vests under the tax code over a 5 year period at 20% per year. If a disqualifying event occurs in the 5 years following the ITC claim, the taxpayer that claimed the ITC is required to pay back a portion of the ITC. For example if the disqualifying event occurs in year three of the project’s operation, the taxpayer would have to pay back 60% of the credit (as it was only two years vested). Disqualifying events include divesture of the ownership interest in the solar project, ceasing to be a qualified investor (for example an investor becoming a REIT or not for profit) and the project ceasing to operate (e.g. being destroyed by a force majeure event). Since divestiture and change in tax payer’s

status are generally under the tax payer’s control, these are very low risks as are the project ceasing all operations.

Structure RiskStructure risk is the main tax risk borne by the Tax Equity Investor in a partnership flip transaction. Structure risk refers to the risks that the IRS could not respect the partnership and it’s allocations as a true partnership resulting in the Tax Equity Investor not being able to realize all or a portion of the Tax Benefits they expected. Although there is no published safe harbor guidance with regard to solar partnership flip transactions (the IRS has published one for wind), the partnership flip structure and the general terms of such transactions that should survive IRS challenge are well understood and established in the market. It is customary for a Tax Equity Investor to receive directly, or indirectly through a fund investment, a tax opinion with regard to structure risks from a qualified law firm. Given the complexity and materiality of this risk, it is important that a Tax Equity Investor works with advisors well versed in this space and unaffiliated with the Sponsor of the project.

Sponsor/Tax Equity Risk Return ProfilesContinued undersupply of Tax Equity in the solar market results in the Tax Equity Investor portion of the capital structure generally offering the highest return, for the least amount of risk, over the shortest investment horizon.

In general, for small projects below 20MW using the unlevered time-based partnership flip structure, the Sponsor is at risk for at least 60-65% of the project costs and realizes 4-8% unlevered (8-20% with back-leverage) after-tax return over the 25-35 year life of the project. In large utility scale transactions, underlying project returns and levered returns to the Sponsor over the project life tend to be lower, trending to the high single digits. Sponsor returns are sensitive to how the project performs and the market price of electricity after the PPA expires in the final 5-15 years of the project.

Meanwhile, the Tax Equity Investor’s investment of 35-40% of the capital structure in a time based flip, is paid back within the first 2 years of project operations and a 15-35% after tax return is earned by year 6-7 with buyout. Over 85% of the Tax Equity Investor’s total return over the 6-7 life of the investment, and over 95% of initial payback by year 2, is achieved through Tax Benefits which are pre-determined and based on the Fair Market Value derived through third party professional

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appraisal. Also, the market convention of preferred cash flows to the investor further insulate the Tax Equity Investor from operational risk.

CONCLUSIONIn summary, the solar industry in the U.S. is expected to continue its rapid ascent well into the next decade. Ongoing positive industry factors including rapid cost declines, demonstrated system reliability, state incentive programs and stable federal Tax Benefits continue to spur new development of solar projects.

Amid this growth, the monetization of federal Tax Benefits through Tax Equity financing will remain a crucial component of solar project financing. As average project sizes trend smaller, limitations of the traditional Tax Equity players to invest present an attractive opportunity for individuals and family offices with passive income tax liabilities to participate.

Solar Tax Equity investments can provide investors with a variety of compelling benefits. Strong, predictable returns are provided through the ITC and Accelerated Depreciation deductions derived from the underlying value of the project which is known up front and based on a third party appraisal. In unlevered and back-levered partnership flip transactions, which constitute the majority of the market, the Tax Equity Investor’s cash flows are not subordinated to a senior lender as well. In time based unlevered and back-levered partnership flip transactions, ample operating coverage on preferred cash return is provided through the investor’s senior claim on cash flows. Furthermore, the consistent need for Tax Equity financing in the ever-proliferating solar market, especially for smaller projects less than 20MW, provides broad investment opportunities and negotiation leverage for Tax Equity Investors. Finally, by providing capital for a vital piece of the financing stack for projects, family offices offer a meaningful way to impact the renewable energy industry to allow it to continue to thrive.

By providing capital for a vital piece of the financing stack for projects, family offices offer a meaningful way to impact the renewable

energy industry to allow it to continue to thrive.

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ABOUT THE AUTHORS

Glasswing Capital ManagementGlasswing Capital Management is an investment manager that enables high net worth individuals and family offices with passive income to participate in the market for solar Tax Equity investments. Its three founders are solar industry veterans with over 30 years of total experience in solar project finance and development for both utility scale and distributed generation projects. The Glasswing team leverages its considerable transactional experience and wide network of developer relationships for the benefit of its investors by performing its own project sourcing, underwriting and structuring, keeping third party transaction costs low and the investment process efficient. In turn, Glasswing provides a stable financing source for developers and Sponsors of small utility, commercial & industrial and community solar projects less than 20 MW.

Justin Amirault Partner, Origination & Execution Most recently, Justin spent over 3 years at Renewable Energy Trust Capital (RET), as the Vice President of Acquisitions helping to acquire a portfolio of over 400MW of assets with a value exceeding $1 billion. His responsibilities included identifying and developing relationships with long term asset partners, securing investment opportunities and executing transactions.

Prior to RET, Justin served several years as Director of Acquisitions & Development at CleanPath Ventures, a mezzanine investment fund backed by Kyocera. Additionally, Justin worked on the utility scale solar and power plants group at SunPower developing and acquiring large utility scale projects in North America totaling over 800MW.

Justin received his MBA from the Haas School of Business at UC Berkeley and a BA in Economics from Colby College.

Jonathan Cheng Partner, Originations & ExecutionMost recently, Jon was Managing Director at Renewable Energy Trust Capital (RET), an owner and operator of utility-scale solar and wind projects, where he focused on transacting acquisitions of solar and wind projects and developing strategic partner relationships. In that role, he helped structure a 50% equity partnership with a third-party investor and contributed to project development for a 335MW solar project in California.

Prior to RET, Jon was Director at GCL Solar Energy where he led the acquisition and development of 8 utility scale and distributed generation solar projects across North America with a combined capacity of 200MW and total capital cost of over $760 million. In addition, Jon contributed to the successful development and divestiture of 11 projects with a combined capacity of 311MW valued over $880 million. Previously, Jon worked in structured finance at Bear Stearns, and earlier in his career, spent several years in management consulting.

Jon received his MBA from New York University Stern School of Business and his BS in Business and Economics from Cornell University.

Mandy Fryer Partner, Structuring & ExecutionMost recently Mandy worked at Duff & Phelps, the largest global independent valuation firm, where she was Managing Director, Power and Utilities, advising the world’s largest power and utilities companies on tax and accounting valuation and structuring issues.

Prior to Duff & Phelps, Mandy spent nine years at NextEra Energy Inc (NYSE: NEE), most recently as Sr. Director, M&A Valuation, for the competitive generation subsidiary, NextEra Energy Resources, a world leader in renewable energy generation. In her capacity as head of M&A Valuation, she led the department responsible for the financial evaluation and financial structuring of all acquisition transactions considered by NextEra Energy Resources and NextEra Energy Partners (NYSE: NEP), NextEra’s publicly traded “Yieldco” vehicle. During her tenure at NextEra, Mandy also held senior roles in distributed generation development and NEE Inc corporate development. Mandy began her career with Duff & Phelps in the power and utilities group.

Mandy received both a BA in Finance and a BS in Accountancy from Villanova University.

Glasswing Capital ManagementOne Sansome St., 35th Floor San Francisco, CA 94104 www.glasswingcapital.com

Justin [email protected] (415) 602-0394

Jon [email protected] (917) 583-2979

Mandy [email protected] (610) 662-3868

CONTACT INFO

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ABOUT THE FAMILY OFFICE ASSOCIATION

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Family Office AssociationFamily Office Association is a global community of ultra-high net worth families and their single family offices. We are committed to creating value for each family that we serve; value that grows wealth, strengthens legacy, and unites multiple generations by speaking to shared interests and passions. FOA has the resources to solve your collective goals: to invest intelligently, give strategically, and learn exponentially.

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DISCLAIMERTHIS DOCUMENT HAS BEEN PREPARED TO PROVIDE SOME LIMITED BACKGROUND AND CONTEXT TO TAX EQUITY INVESTMENTS GENERALLY. THE INFORMATION CONTAINED HEREIN IS PROVIDED FOR INFORMATIONAL PURPOSES ONLY AND SHALL NOT BE CONSTRUED TO BE A RECOMMENDATION TO INVEST IN SOLAR TAX EQUITY PROJECTS OR A RECOMMENDATION TO RETAIN THE SERVICES OF ANY INVESTMENT ADVISOR OR OTHER PROFESSIONAL ADVISOR. THIS DOCUMENT IS NOT INTENDED TO BE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO PURCHASE ANY SECURITIES OR MAKE INVESTMENTS. NO FACTS RELATING TO ACTUAL INVESTMENTS ARE PRESENTED.

THROUGH THIS DOCUMENT, THE AUTHOR IS NOT MAKING ANY REPRESENTATIONS OR WARRANTIES TO ANYONE. THIS DOCUMENT IS NOT INTENDED TO PROVIDE ANY LEGAL, ACCOUNTING, TAX OR INVESTMENT ADVICE AND THE INFORMATION CONTAINED HEREIN CANNOT AND SHOULD NOT BE RELIED UPON IN MAKING A DECISION TO MAKE SOLAR TAX EQUITY INVESTMENTS.

THE DISCUSSION OF U.S. FEDERAL TAX IMPLICATIONS OF SUCH INVESTMENTS IS MEANT TO BE GENERAL IN NATURE AND DOES NOT DISCUSS ALL ASPECTS OF U.S. FEDERAL INCOME TAXATION THAT MAY BE RELEVANT TO A PROSPECTIVE INVESTOR IN LIGHT OF ITS PARTICULAR CIRCUMSTANCES. IN ADDITION, THE DISCUSSION DOES NOT DESCRIBE ANY TAX CONSEQUENCES ARISING UNDER THE LAWS OF ANY LOCAL, STATE, OR FOREIGN JURISDICTIONS AND DOES NOT ADDRESS ANY ASPECTS OF U.S. FEDERAL TAX LAW OTHER THAN INCOME TAXATION.

ANYONE CONSIDERING MAKING A TAX EQUITY INVESTMENT SHOULD CONSULT THEIR OWN INDEPENDENT TAX, ACCOUNTING, LEGAL OR FINANCIAL ADVISOR WITH RESPECT TO THE RISKS AND MERITS OF AN INVESTMENT INCLUDING EVALUATING THE INDIVIDUAL TAX CIRCUMSTANCES OF THE INVESTOR RELATIVE TO THE ABILITY TO MONETIZE THE TAX BENEFITS OF A SOLAR TAX EQUITY INVESTMENT. INDIVIDUALS AND FAMILY OFFICES MUST RELY ON THEIR OWN FINANCIAL AND BUSINESS EXPERTISE, ALONE OR TOGETHER WITH THAT OF ADVISORS TO BE ABLE TO UNDERSTAND AND EVALUATE THE MERITS AND RISKS OF A SOLAR TAX EQUITY INVESTMENT.

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SUSTAINABLE RETURNS - Resources for Family Offices