The IRS released final guidance on tax credit transferability on April 25, 2024. Since then we’ve seen a significant uptick in buyer interest, including buyers looking for 2023 credits as recent as mid-may 2024. Buyers and sellers have until the earlier of either party filing their tax returns (normally extended until October this year) to transfer and claim credits for 2023.

Building on our previous analysis of tax credit pricing in Q4 2023, this quarterly update dives into the transaction costs associated with tax credit transfers under the Inflation Reduction Act. Specifically, it’s important to understand market and transaction dynamics around pricing, hence why we’re digging into these costs for this post.

Buyer pricing behavior has remained relatively stable, so in this issue we are focusing on the impact of transaction costs on sellers' net proceeds. Buyers normally seek to have transaction costs borne by the seller (including appraisal or cost-segregation report, legal fees, and brokers), largely because accounting practices mean that transaction costs would be booked as an expense above the line, while the tax credit is applied below the line. The typical buyer expectation is that their discount (or tax credit purchase price) reflects that the seller will pay these costs and it will reduce their net proceeds.
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Key transaction costs

Legal Costs

Legal fees typically fall within the range of 0.5-1.5% of the transaction value, per buyer and seller. There is a minimum of how low these can go. On a <$1m transaction we've been able to keep legal costs at the 1.5% threshold ($15k) for each buyer and seller.
For buyers, legal costs are split across three areas: 1) documentation — term sheet, contract negotiation, transaction documents; 2) diligence that the counterparty and asset qualify for the credit transfer; and 3) tax insurance policy negotiation.
The above diligence also serves as compliance with IRS regulations in order to mitigate any penalties in the event the IRS imposes after an audit where the credit or transfer be disqualified or disallowed.
Sponsor beware: confirm your lawyer has completed a tax equity or tax transfer for your specific technology and credit type. You might not want to pay for them to get educated on the matter.
Legal fees can increase significantly depending on the complexity of the transaction, corporate structure of either party, negotiation of insurance policy, and amount of education first time buyers request from legal and tax counsel, especially on risk.

Insurance Costs

Depending on the level of coverage and the amount of credits insured, insurance costs can range from 2-5% of the transaction value.
Most ITC deals are seeking tax recapture insurance, while PTC transactions often rely on sponsor guarantees.
Because buyers generally bear the risk of recapture on tax credit transfers, insurance policies protect against potential risks associated with these transactions. Insurance covers IRS challenges to the credit eligibility (disqualification), credit valuation, or other recapture events such as change in ownership or the project falling out of service.
Limit of Liability required by the buyer adds a lot of variability to the proportional costs of the insurance relative to the credit size. We see requests between 100% - 140% of tax credit value.
While this is the most expensive transaction cost, given the risk allocation on to the buyer, it is often a necessary cost since most developers do not have the financial wherewithal to support their sponsor guaranteed or indemnities to the buyer.
It is certainly possible to transact without insurance, but expect the buyer to seek collateral as well as a deeper discount to the credits.

Platform, broker, or advisor fees

These fees compensate advisors for their expertise in navigating the tax credit transfer process, beyond simply making an introduction between buyer and seller.
Fees are generally paid by the seller.
Pricing has decreased for the transfers compared to traditional tax equity syndicator placement costs, and remains higher for ITCs versus PTCs. Syndicators would normally seek at least a 2% placement fee at tax equity investment, in addition to the management and reporting fees during the period of the partnership.
Direct transfer fees typically range between 0.25-2.00% of the total transaction value. In our case, our fees are inversely correlated to the size of the transaction.
Having multiple advisors sometimes results in higher fees, which means these fees can go above 2.00%.
Basis Climate has a fixed fee schedule and commits to transparency in the cost build up of advisors fees, and the total cost load from the buyer discount to seller’s net proceeds.

How do we reduce these costs?

Legal

Buyer’s legal costs: We generally see buyers who pay their own legal costs are more attentive to the hours being billed (this is logical).
In cases where sellers are paying buyer legal fees, it is market for the seller to cap the amount of buyer legal fees which also keeps the legal in control.
If a tax memo or opinion might be required, understand that cost as a standalone item.
Obtain clear fee agreements upfront and to communicate openly with legal counsel throughout the transaction process.

Insurance costs

The specific cost of insurance will depend on factors such as the type and amount of coverage desired, the creditworthiness of the seller, and the overall risk profile of the transaction.
Discuss with Basis or your insurance broker about obtaining an informal desk quote but do not pursue full policy quotations. A full policy quotation can lock you into insurance commitment and make it hard to change insurer later.
A buyer can also group multiple credit purchases into a single policy, which can help drive down costs.
While many Sellers prefer to avoid insurance, buyers of ITCs nearly always request it.
Consequently, it is critical to agree with the buyer on the right sizing of the insurance policy and have clear expectations on who will lead the procurement of the policy.

Transaction advisor fees

Work to understand your advisor’s traction and experience in the market.
Make us compete! Don't go exclusive and keep multiple irons in the fire.
Basis Climate’s fees are fully contingent and success-based.

Conclusion

Our hope is that by understanding these transaction costs, sellers can make informed decisions about tax credit transfers and maximize their net proceeds. It's important to remember that these costs can vary depending on the specific circumstances of each transaction. Consulting with qualified professionals is essential to ensure a smooth and successful transaction process.

The first year (or two) of tax credit transfers look a lot like small M&A or tax equity-light deals. Our goal is that over time, we can provide products and solutions to both sellers and buyers of tax credits that make these transactions look more like a sale of tax attributes and less like a real asset investment.

This should decrease transaction costs and friction overall.