Tax Credits for Installing Solar Panels

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By: Donna Fuscaldo
Published: December 04, 2009

A generous federal tax credit makes solar panels more attractive to the average homeowner, especially if electric bills are sky high.Trying to convert the sun’s rays into electricity doesn’t make sense for every homeowner. For the solar panels that typically sit on your roof to be really effective, they need exposure to direct sunlight for at least five hours a day. If there’s a lot of fog and rain where you live, or obstructions like trees or neighboring structures, then efficiency will be diminished.

But if your electric bills are high, and your house receives sufficient sunlight, then solar panels might be a sustainable and energy-efficient alternative to consider. An expanded federal tax credit for solar-panel systems, also known as photovoltaic systems, makes them even more affordable to install.

Incentives lower cost of solar

Solar-panel systems are classified by watts of capacity. Systems under 10 kilowatts-1 kilowatt equals 1,000 watts-are primarily for residential use. The average size of a residential solar-panel system is 5.2 kilowatts. In 2008, the installed cost of a system that size was $44,200, according to a report ( from the U.S. Department of Energy’s Lawrence Berkeley National Laboratory, or $8.50 per watt.

However, once local, state, and federal tax incentives were factored in, the installed cost of a 5.2 kilowatt system in 2008 fell to $29,120, or $5.90 per watt. Costs vary by state, but in general systems are cheaper in places like Arizona and California, where electricity is expensive, sunshine is plentiful, and solar has gained wider acceptance. Search the Database of State Incentives for Renewables & Efficiency ( for state and local incentives.

IRS expands federal tax credit

An expansion of the federal energy-efficiency tax credit should slash the cost of solar even more. Systems installed between Jan. 1, 2009, and Dec. 31, 2016, are eligible for a tax credit equal to 30% of the cost. To qualify, the system must supply electricity to a residence and meet local building codes. In 2008, the federal tax credit was capped at $2,000.

That means a 5.2 kilowatt system installed between 2009 and 2016 that costs $44,200 would, in theory, earn a federal tax credit of $13,260 vs. just $2,000 before 2009. That’s an extra $11,260 in savings, in addition to local and state incentives. (This is a simplified example. Consult a tax adviser.)

The tax break can be applied to a solar-panel system installed at your primary residence or second home. Take the credit for the tax year the system becomes operational. Use IRS Form 5695. The credit can’t exceed the total amount owed in federal taxes for that year, but it can carry over ( to future years. Save receipts and certification statements.

Reduce your electric bills

A typical residential system should lower your electric bills by 25% to 50%, says Monique Hanis, a spokeswoman for the Solar Energy Industries Association ( The average household pays about $100 a month for electricity, according to the Energy Department, so a solar-panel system should save you between $300 and $600 a year.

The payback period will vary greatly depending on where you live, the size of your system and its post-incentives price tag, and future swings in electricity costs and consumption rates. Figure it’ll take anywhere from six to 18 years, says Hanis. Solar panels have a life span of 20 to 30 years.

Producing excess energy can accelerate how quickly you’ll recoup your investment. A battery can store extra electricity for later use, or you can sell surplus energy back to the utility company in a practice called net metering. Many cities have net metering in place, but check with your utility company before you install solar panels.

Breaking down the expenses

Fifty-six percent of the cost of a residential system goes toward the solar modules themselves, the Berkeley Lab report found. The inverter, a device that converts thermal energy into household electrical current, accounts for 9% of the total bill. The remainder, 35%, goes toward things like labor and profit for the installer. A typical residential installation takes a day or two.

Before you install solar panels, be sure your roof is in good shape. If it isn’t, you might need to shell out $5,000 or more on repairs to make your roof structurally sound. This expense doesn’t count toward the federal tax credit. You might also need to cut down trees that block direct sunlight.

Energy Star, the federal program that promotes energy efficiency, doesn’t rate solar panels. Look for an installation company that offers a warranty on the system for at least 20 years. If feasible go with an installer that’s familiar with the permit process of your local zoning board. According to Hanis, getting a permit can be one of the most challenging aspects of a solar project.

Make your home efficient first

Take fundamental steps to improve your home’s energy efficiency before resorting to solar panels. Conduct your own energy audit (, seal windows and doors, and replace old appliances. Simply adding insulation ( to an attic can lower heating and cooling bills by 10% to 50%. A tube of caulk and a few rolls of fiberglass insulation cost a whole lot less than solar panels.

This article provides general information about tax laws and consequences, but is not intended to be relied upon by readers as tax or legal advice applicable to particular transactions or circumstances. Readers should consult a tax professional for such advice, and are reminded that tax laws may vary by jurisdiction.

Donna Fuscaldo has written about alternative energy for Dow Jones, the Wall Street Journal, and Fox Business News for more than a decade. She’s currently renovating her house with an eye toward energy efficiency and green technologies.

Reprinted from HouseLogic ( with permission of the NATIONAL ASSOCIATION OF REALTORS®
Copyright 2009.  All rights reserved.