What is direct pay?

Homeowners have been able to take advantage of federal solar tax credits for years. However, nonprofits and other tax-exempt organizations weren’t able to take advantage of similar valuable incentives until the Inflation Reduction Act was passed in 2022. 

The Act, also known as the IRA, has been a game-changer for non-profits that were previously interested in going solar, but struggled to make the numbers work. Under the new rules, tax-exempt entities — such as state and local governments, tribes, nonprofits, and houses of worship — are now able to claim tax credits for a qualifying project through a direct pay option. 

This means nonprofits and tax-exempt organizations can now take advantage of significant financial incentives for installing solar panels and other clean energy technology.

Traditionally, homeowners and businesses take advantage of tax credits when they file their federal taxes. For example, the federal solar tax credit, which is equal to 30% of the project cost, is applied to their tax bill and reduces what they owe in taxes.

Tax-exempt organizations don’t have federal tax bills, however. So under the IRA, those organizations now receive the benefits through what’s known as direct pay, or elective pay. 

It works the way it sounds. A nonprofit will receive a check directly from the federal government that’s equal to the full value of the tax credits for whatever clean energy project it undertakes, so long as long as it qualifies. Luckily the list of projects that qualify is long and isn’t limited solely to solar panel installations.

While most nonprofits’ clean energy projects will likely qualify for direct pay, it’s important to confirm your plan meets all of the necessary qualifications to receive the check. So what types of clean energy investments qualify? The list includes, but isn’t limited to: 

• Solar

• Wind

• Battery storage projects

• Community solar arrays

• EV charging infrastructure

These new allowances for tax credits are especially beneficial to nonprofits and organizations like churches and schools because they may not have the cash available to finance a solar project the same way a for-profit organization might.

Energy costs are the second-highest operational expense for many nonprofits, according to the Environmental and Energy Study Institute. Installing solar panels allows nonprofits to drastically reduce or even eliminate their power bills, freeing up money that can be spent on programs or services, and providing greater access to significant long-term utility savings.

Direct pay allows a broad range of tax-exempt institutions to claim tax credits. For example, 501(c)(3) organizations, such as charities, hospitals, schools, houses of worship and private foundations are eligible for direct pay. Other tax-exempt entities like local governments, tribal entities, and rural energy cooperatives qualify as well. 

In addition to a solar tax credit, institutions can claim about a dozen different tax credits, including electric vehicle purchases, and energy efficient upgrades for commercial buildings. The Investment Tax Credit, or ITC, now includes “adders” such as the domestic content adder and specific tax breaks for organizations in low-income communities, too.

There are a few basic steps to follow to make sure you qualify for direct pay:

• Your organization must pre-register its project with the IRS to confirm it’s approved.

• Once your organization receives its registration number from the IRS,  fill out IRS forms 3468 and 3800.

• The system must be installed and turned on in the same year your organization claims the tax credit.

• File your annual taxes, or file for an extension if needed.

 It’s important to plan ahead as the approval process can take time. We recommend working with an experienced accountant who can guide you through the process and will be aware of any updates to the tax code.

While the entire process can take anywhere from four to 18 months from start to finish, receiving your check once you’ve completed all of the necessary steps shouldn’t take very long. Once you’ve filed your taxes, your tax-exempt institution can expect to receive a direct pay check within 45 days.

Whether it’s a local government, school, or hospital, direct pay is a game-changer for nonprofits interested in investing in renewable forms of energy. The new direct pay option contained in the IRA effectively cuts the cost of installing solar panels by 30%, allowing more tax-exempt organizations to reduce their utility costs while investing in a greener future. Allowing tax-exempt organizations to get paid quickly allows them to take full advantage of clean energy upgrades and numerous other tax breaks that continue to pay dividends for years to come.