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| Sales Insight - November, 2005 |
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How to Help Clients Evaluate
Renewable Energy Systems
Are you an innovative financial advisor who
develops out-of-the-box ideas? Do you want to offer money-making, tax-saving
techniques that distinguish your services from the competition?
If so, this column will give you an idea so
timely and out-of-the-box that…you can’t even learn about it in most
professional development or continuing education programs. Not yet, anyway.
This idea offers your clients the best
combination of tax benefits to be found in any investment “under the sun.” For
selected clients, it also provides an inflation hedge while producing attractive
tax-free rates of returns. It also can improve the value of real estate,
increase protection against natural disasters, and reduce damage to the ozone
layer.
The idea is to invest in a renewable energy
system for a residence or small business. This column contains basic information
for advising clients about renewable energy, including three ways you can be
compensated.
What’s Happening with Renewable Energy?
For financial advisors, most of the energy news
is negative. The Department of Energy has forecast that home heating bills this
winter could be 30% higher than last due to soaring natural gas costs. That
means clients will have less discretionary income to apply to financial goals.
Sky-high energy bills also dampen consumer confidence, making investors less
willing to commit to financial markets.
But here’s some good news you can tell clients.
The Energy Policy Act of 2005 has created two new federal tax credits that will
cover 30% of the costs (up to limits) for installing new renewable energy
systems. The table below summarizes these credits.
These federal tax credits are in addition to
other rebates, grants, incentives and credits offered by federal, state or local
governments and utility companies. For example, New York State now offers a 25%
credit for solar-electric or solar-thermal expenditures. In some part of the
United States, it is possible to invest in renewable energy systems at an
out-of-pocket cost of just 40-50 cents on the dollar, after all incentives. To
learn more about incentives available in your state or through your local
utility, check here:
http://www.dsireusa.org/summarytables/financial.cfm
To counsel clients on whether such an investment
makes sense, it helps to know a few basics about energy economics. We’ll focus
mainly on solar systems, because they are the most accessible. Just about any
property with an unobstructed, un-shaded south-facing sun exposure is a
candidate for a solar electric (photovoltaic) or solar thermal (water heating)
system.
Solar Thermal Heating
Solar energy can serve two purposes in homes and
businesses: 1) heating water (including swimming pools and hot tubs); and 2)
generating electricity. According to Consumer Reports, water heating
accounts for 11% of total U.S. home energy consumption.
About 54% of U.S. homes heat water with natural
gas and 38% with electricity. The table below estimates national average costs
per household for both fuels in 2005. Natural gas prices have been rising while
electricity costs have held steady, so the cost advantage of natural gas vs.
electricity has narrowed.
Solar thermal systems capable of generating 100%
of a household’s hot water can now be installed for about $2,500 to $3,000.
These systems bypass the electrical grid by using “collectors” to absorb and
store thermal energy.
After rebates and incentives, the out-of-pocket
cost for these systems can drop to about $1,200 to $1,500. Since the monthly
utility bill for solar thermal is virtually nil, savings to an average homeowner
can be about $200 per year in the first year. The investment could produce an
internal rate of return about 12-15%, assuming 3-4% annual inflation in
traditional energy sources and system capital costs are amortized over 15 years.
Since this investment eliminates costs instead of generating income, the return
is income tax-free, similar to the interest produced by a municipal bond.
Photovoltaic (PV) Systems for Electricity
Evaluating the economics of a photovoltaic (PV)
solar system for generating electricity is more complex, for several reasons.
First, it is rarely feasible for a homeowner or small business to generate 100%
of the electricity required with PV because the sun only produces peak power for
six hours per day (9 a.m. to 3 p.m.) at most. Unlike solar thermal water
collection systems, electricity can’t easily and economically be stored.
Secondly, retail electricity costs vary greatly from one part of the U.S. to
another – from a low of 5 or 6 cents per kilowatt hour in the Midwest to a high
of 12 cents per kilowatt hour in New York and California. The long-term cost of
generating electricity through an efficient PV system can be estimated at about
6-10 cents per kilowatt hour, and virtually all of this cost is for equipment
and installation. Currently, in states where electricity costs are low, PV
systems are viable mainly as a hedge against energy inflation. However, as the
cost of PV equipment keeps falling, the economics will improve.
A third complexity in evaluating the economics of
PV systems is the concept of “net metering.” When a PV system is installed in a
home or business that already has a utility connection, it pays to connect the
solar system to the utility grid. With recent improvements in PV technology, the
cost of this “grid-tie” can be fairly low and the economic benefit can be
significant.
In many states, electric utilities, by law, must
offer renewable energy producers the right to feed excess production to the grid
and receive a credit. When this credit is issued at the same retail rate that
utilities charge customers to buy electricity, it is called “net metering.” You
can check net metering rules of your state or local utility at an online data
base located here:
http://www.dsireusa.org/summarytables/reg1.cfm
Click on the “Net Metering” column of the online
table.
Where net metering exists, it allows the
homeowner to “time-shift” solar electricity produced from peak sun hours to
other hours. During peak hours, excess electricity is fed to the grid, causing
the home’s electric meter to “spin backward.” At night, when solar power dries
up and utility power is required, PV credits banked during the day can offset
utility costs dollar-for-dollar. This not only allows PV producers to realize
economic benefit from all the electricity they produce; it also allows them to
generate a return that is 100% tax-free, in the form of utility cost savings.
An illustration of this concept, along with a
useful PV modeling calculator, is provided by Sharp and accessible here:
http://www.clean-power.com/sharp/default.aspx
We will use an example of a home in New York
State that currently is spending $800 per year on utility electricity. We then
assume that this home constructs a 4-kilowatt PV system at a gross cost of
$7,000 per kilowatt – $28,000 total. After rebates and credits, the net cost of
this system could decline to $9,000, according to the Sharp calculator.
The graph below shows Sharp’s
illustration of net metering for this example, for a typical day in April.
The vertical axis is kilowatts produced or
consumed per hour. The horizontal axis is hours in the day, starting at midnight
(0). The red bars show electricity purchased from the power utility at retail
rates. The green bars show electricity produced by the PV system and consumed on
the spot. The yellow bars show excess PV electricity “net metered” back to the
grid. In effect, the yellow bars produced on this day in April produce credits
that cancel out the red bars. By clicking on the “Monthly Electric Bill” link on
the Sharp model, it is possible to see an estimate of the monthly and total
annual savings in the household’s electric bill. In this case, cost savings are
estimated at $708 for the first full year of PV installation.
Given these assumptions, a 4-kilowatt PV system
makes economic sense. But here’s why a larger system may not be as viable. Under
net metering rules of most jurisdictions, the utility is only required to issue
a retail-price credit against (and up to the amount of) electricity consumed. If
you produce more electricity than you use, either the utility will keep the
excess free of charge or else you must sell it back at wholesale rates. A
typical modern household consumes about 25-30 kilowatts of electricity per day.
On average, a PV can generate about 4-6 kilowatt hours per day for every
kilowatt installed (depending on weather and season). After adjusting for a
small loss in converting a PV system’s DC power to AC power through an inverter,
figure that a 4-kilowatt system with net metering can produce most of the
electricity an average household needs, without overbuilding. (4-kilowatts X 6
peak hours = a little less than 24 kilowatt hours).
Capital Improvements and Capital Gains
What is the internal rate of return on this PV
system? Answering that question requires an understanding of another tax benefit
embedded in renewable energy. These systems are considered home improvements
that increase the cost basis in property by the amount of equipment and
installation cost. If homes are then sold that qualify for the Section 121
capital gain exclusion ($250,000 per person; $500,000 per married couple), any
increase in home value added by the system is realized tax-free. For businesses,
PV systems qualify for five-year depreciation under the Modified Accelerated
Cost Recovery System.
Let’s assume that this hypothetical 4-kilowatt
system (in the example above), costing $28,000 gross, is installed at a net cost
of $9,000 after incentives and produces electric cost savings of $709 in the
first year. The savings then increase by 2% per year in the future with utility
cost inflation. After the 10th year, the home is sold and the homeowner is able
to obtain an extra $10,000 on the home sale price as a result of the PV system
improvement. (Note: PV systems have a useful life of up to 30 years; by the 10th
year of this example, annual utility cost savings would increase to $847.)
The internal rate of return on this investment
over the full 10 year period is 9.1%, all of which is tax-free.
Now, suppose instead that the era of cheap
electricity is over. This is a distinct possibility because the majority of all
U.S. electric power is produced by burning coal, a primary source of the carbon
dioxide (CO2) emissions threatening the ozone layer. If electric power costs
increase by 4% annually in the future, cost savings in the 10th year increase to
$1,009. On that basis, assume that the system value added to the home sale price
increases to $11,000. Now, the IRR of the PV system increases to 10.5%, which
serves to illustrates the inflation protection that this investment can offer.
Of course, this example of a profitable PV
investment combines “best case” assumptions –a high-cost state (New York), great
incentives, and economical capital costs. Many of your clients are not yet in
position to benefit from these factors. But the trend is favorable because
incentives keep increasing, while PV technology keeps getting better and
cheaper.
One quick word about wind-generated electricity:
Micro-turbine wind systems can generate electricity even more efficiently than
PV when conditions are ideal. Those conditions include local wind power of Class
3 or better and the ability to install the wind turbine on a tower at least 30
feet high, in an area clear of obstructions for at least 300 feet in all
directions. To check wind power in your area, consult the Wind Energy Resource
Atlas of the U.S. here:
http://rredc.nrel.gov/wind/pubs/atlas/
Clients Who Are the Best Candidates
Which clients are the best candidates for
renewable energy?
- Heavy electricity users – Start asking
clients how much they spend on electricity. Manufacturing firms, farms, and
residences of more than 4,000 square feet are good candidates. Average U.S.
household consumption is 830 kilowatts per month, according to the Department
of Energy.
- People in disaster-prone areas – After
Hurricane Wilma struck Florida, more than five million people were without
electricity for weeks – and all that sunshine beating down! PV can be a viable
back-up for utility electricity, sparing consumers the cost of buying
generators and storing fuel oil. A reliable PV back-up system includes at
least one industrial-strength “deep-cycle” battery for storage.
- Swimming pool and hot tub owners – It
is senseless to heat pools and tubs with electricity or natural gas when solar
collector systems are so much more cost-effective and qualify for a 30%
federal tax credit.
- Seniors living on fixed incomes –
Senior citizens can’t do much about spiraling health care costs. But they can
take control of their utility costs, especially if they live in Sunbelt states
where PV power is plentiful.
- Remote dwellers – PV systems with
storage batteries make economic sense for locations that can’t easily or
economically be tied to the utility grid including vacation cabins, RVs,
boats, ranches and farms.
- Environmentalists – The financial
benefits may matter less to environmentalists than personal contributions they
can make to reducing CO2 emissions and helping the ozone layer. According to
the Sharp online calculator, the 4-kilowatt system illustrated in this article
would eliminate 5,720 pounds of CO2 emissions in the first year.
How to Get Paid
How can you earn a living helping clients
evaluate investments in renewable energy? Three ways:
- Direct fees – This makes the most sense
if you are already a CPA or consultant who advises clients on complex
financial and tax issues. Become familiar with the incentives available in
your area and sell your technical expertise.
- Cross-referrals – This may work best if
you want to be the financial expert on a team that also consists of: 1) a tax
specialist who knows the incentives; and 2) a renewable energy system
supplier/installer. You can offer the other team members referrals to your
clients in return for referrals to theirs.
- Cash flow management – Help clients
convert the tax-free income they are generating from electricity savings into
long-term financial security. If a client can save $150 per month through a
combination of a solar hot water heater and PV system, that’s $1,800 per year
that can be applied to a dollar cost averaging investment program or permanent
life insurance premiums.
Clearly, this is an outside-the-box idea for a
financial professional to offer today. But as the U.S. lumbers toward energy
self-sufficiency, renewable energy will go mainstream eventually. At some point,
consumers and businesses in your market will need help evaluating incentives,
cost advantages and options.
One of the best ways to become a leader is
to install a renewable energy system yourself – then invite your clients over to
see how it works. Even if they don’t bite, it’s a happening!
Help! I Haven't Received My
Access Code & I've Forgotten My Password!
I received a call from a customer today saying
that he hadn't received his access code, needs to use the site, and when can he
expect to receive it.
The larger issue here is, why do I need an access
code at all? The
FAQ does a
fairly good job of answering this, but just to delve a little further: The
access code allows us to know that the e-mail address you used to register is a
valid one, and not something like "fakemail@fakeplace.fake." It also protects
against users who accidentally enter their e-mails with typos (I can't tell you
how many times I've registered for sites as dcole@freerisa.com when I meant
dcole@freeerisa.com). We want to be able to notify our users about the site, and
also allow them to request their passwords if they've forgotten them, and doing
this requires a valid e-mail.
The access code is sent out immediately when you
register by an automated system, so it's not about us "approving" your
registration. It's a registration, not an application! If the e-mail you entered
was valid and free of typos, you'll get the access code in a few moments. We ask
users to wait 24 hours before contacting us because most e-mail programs
automatically check e-mail only once every five minutes or more, and hiccups in
the network DO occur.
Every once in a while a user's spam filter will
block their access code. This could be either their individual spam filter or
their corporate spam filter. This can be remedied with a quick call to IT, or
check to see if your e-mail provider has a "bulk mail" folder that your access
code may have been filtered to. In any case, if you don't receive it, simply
sending an e-mail to support@freeerisa.com will suffice, as this will allow us
to verify that your e-mail address is in fact valid.
Most websites that require registration will
require a similar validation. This is to protect your privacy (in the event you
lose your password) and to make sure you can stay up to date with the latest
happenings on FreeERISA.
I hope this in-depth overview (I suppose an
"overview" can't really be in-depth, though, can it?) on the access code answers
some of the questions you have.
Discuss this and other issues in the new
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