deloitte tax presentation (final)
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Deloitte FanTAXtic Regional CompetitionSyracuse University
Presented by:Tonghui Xu, Jiahui (Helen) Lu, Yang Yang, Savannah Crocetti, Shoshana Tracy
Overview 1. Tax classification & treatment of project costs
Classification of depreciable and amortizable property
ITC eligibility
Depreciable and amortizable basis
2. Evaluation of Alternative 1
Alternative 1 overview
Calculation of IRR
Pros/cons of Alternative 1
3. Evaluation of Alternative 2
Alternative 2 overviewCalculation of IRRPros/cons of Alternative 2Recommendation for Peach Power
4. Q&A
Depreciable Properties under MACRS
Tangible Assets
● Revenue Procedure 87-56 for the asset classes of personal properties
● Internal Revenue Code § 168 for the asset class of
non-residential real property
Tax classification & treatment
IRR evaluationRecommenda
tions for Peach Power
Q & A
Depreciable Properties MACRS LifeOffice building and storage facilities
39-year
Landscaping 15-yearModules, piles, trackers, etc. 5-yearSite preparation and grading for substation and panel areas
5-year
Transformers, inverters, substation, and related costs
5-year
Equipment and property not otherwise classified
7-year
Dead-end insulators 20-yearTransmission equipment(high voltage)
15-year
Access road grading 15-yearAccess road construction 15-yearPerimeter fencing 15-year
Tax classification & treatment
Evaluation of Alternative 1
Evaluation of Alternative 2 Q & A
Amortizable ItemsIntangible itemsCode section 197 & 195• Formation cost • Preopening expense• Interconnection cost• Power purchase agreement• Loan financing
Tax classification & treatment
Evaluation of Alternative 1
Evaluation of Alternative 2 Q & A
Alternative 1 – PeachPower Alternative 2 – Joint Venture
Amortization property category
Total expenditures
(basis)
Amortization period
(if any)
Total expenditures
(basis)
Amortization period (if any)
Formation - - $ 300,000 15
Preopening (Startup)
- - - -
Interconnection costs
$ 1,100,000 20 $ 1,100,000 20
Power purchase
agreement(PPA)
$ 1,200,000 21 $ 1,200,000 21
Loan financing $ 2,500,000 20 $ 2,250,000 20
Total amortizable costs(basis)
$ 4,800,000 - $ 4,850,000 -
Formation Expense • The cost of obtaining the LLC’s
operating agreement and forming the LLC to be about $300,000
Code Section 197 • Trade/business asset• Limited useful life• Reasonable to estimate• Straight-line amortization for 15
years
Preopening ExpenseCode Section 162• Preopening Expenditure of
$600,000• A continuous current business• Not under Code Section 195
Tax classification & treatment
Evaluation of Alternative 1
Evaluation of Alternative 2 Q & A
Investment Tax Credit Eligibility
Tax classification & treatment
Evaluation of Alternative 1
Evaluation of Alternative 2 Q & A
Code Section 46• Eligible for investment credit, such as energy
creditCode Section 48• ITC= 30% (energy percentage) * basis of
energy property• Energy property: equipment which uses solar
energy to generate electricity, to heat or cool a structure, or to provide solar process heat
Code Section 38• Carry forward 20 years if we have no tax
liability to offset the credit
Depreciable Properties Eligible for ITC
Not Eligible for ITC
Office Building and storage Facilities
✔
Landscaping ✔
Modules, piles, trackers, etc. ✔
Site preparation and grading for substation and panel areas
✔
Transformers, inverters, substation, and related costs
✔
Equipment and property not otherwise classified
✔
Dead-end insulators ✔
Transmission equipment (high voltage)
✔
Access road grading ✔
Access road construction ✔
Perimeter fencing ✔
Determination of IRR• Discounted rate of return that makes the net present value (NPV) of all cash flows
from the 21-year period of the project equal to zero• Pros & Cons• Pros: • Excellent guidance on a project's value and associated risk
• Cons:• Multiple or no rates of return• Changes in discount rates • IRRs do not add up
• Annual Return = Cash Flow (after debt service)+ Utility Savings + Tax Savings (Expenses) + ITC
Tax classification & treatment
Evaluation of Alternative 1
Evaluation of Alternative 2 Q & A
Taxable Income & Tax Expenses - NOLs
Year Taxable Income
NOLs Utilization of NOLs
Adjusted Taxable Income
Net Income Tax (40%)
2017 (Year 1) $(58,009,476) $58,009,476 - - -
2018 (Year 2) $(91,081,604) $91,081,604 - - -
2019 (Year 3) $(53,672,382) $53,672,382 - - -
2020 (Year 4) $(30,672,769) $30,672,769 - - -
2021 (Year 5) $(29,188,391) $29,188,391 - - -
2022 (Year 6) $(11,812,533) $11,812,533 - - -
Total 274,437,154 - - -
Code Section 172• NOLs carried back 2 years and/or forward up to 20 years
This total NOLs will carryover to
future years.
• Year 1-6: negative taxable income; net operating losses
Taxable Income & Tax Expenses – NOLs Utilization
Year Taxable Income
NOLs Utilization of NOLs Adjusted Taxable Income
Net Income Tax (40%)
2017 – 2022 - - -
2023 (Year 7) 5,617,702 - (5,617,702) - -
2024 (Year 8) 7,357,181 - (7,357,181) - -
2025 (Year 9) 9,175,798 - (9,175,798) - -
2026 (Year 10) 10,750,044 - (10,750,044) - -
2027 (Year 11) 12,429,538 - (12,429,538) - -
2028 (Year 12) 14,226,050 - (14,226,050) - -
2029 (Year 13) 16,147,973 - (16,147,973) - -
2030 (Year 14) 18,209,054 - (18,209,054) - -
2031 (Year 15) 20,419,858 - (20,419,858) - -
2032 (Year 16) 22,946,880 - (22,946,880) - -
2033 (Year 17) 25,653,461 - (25,653,461) - -
2034 (Year 18) 28,406,731 - (28,406,731) - -
2035 (Year 19) 31,375,459 - (31,375,459) - -
2036 (Year 20) 34,580,121 - (34,580,121) - -
2037 (Year 21) 38,289,894 - (17,143,303) 21,148,590 8,036,464
• Year 7-20:no taxable income
• NOLs utilized against taxable income
• NOLs used up in Year 21
taxable income = $21,148,590tax liability = $8,036,464
ITC - Utilization Year ITC Carryforward2017 (Year 1) $102,546,000 2018 (Year 2) $102,546,000 2019 (Year 3) $102,546,000 2020 (Year 4) $102,546,000 2021 (Year 5) $102,546,000 2022 (Year 6) $102,546,000 2023 (Year 7) $102,546,000 2024 (Year 8) $102,546,000 2025 (Year 9) $102,546,000
2026 (Year 10) $102,546,000 2027 (Year 11) $102,546,000 2028 (Year 12) $102,546,000 2029 (Year 13) $102,546,000 2030 (Year 14) $102,546,000 2031 (Year 15) $102,546,000 2032 (Year 16) $102,546,000 2033 (Year 17) $102,546,000 2034 (Year 18) $102,546,000 2035 (Year 19) $102,546,000 2036 (Year 20) $102,546,000
2037 (Year 21) $0
• ITC incurred in Year 1 = depreciable basis * 30% (energy percentage) = $102,546,000
Code Section 38
• Cannot not be utilized when there is no tax liability; carryforward 20 years
• ITC expires after 20 years in year 21
Cash Flow
Tax classification & treatment
Evaluation of Alternative 1
Evaluation of Alternative 2 Q & A
Year Cash Flow after debt 2017 (Year 1) ($4,736,406)2018 (Year 2) ($3,591,836)2019 (Year 3) ($3,036,375)2020 (Year 4) ($2,469,804)2021 (Year 5) ($1,891,902)2022 (Year 6) ($1,302,442)2023 (Year 7) ($701,193)2024 (Year 8) ($87,918)2025 (Year 9) $537,6212026 (Year 10) $1,175,6722027 (Year 11) $1,826,4832028 (Year 12) $2,490,3112029 (Year 13) $3,167,4162030 (Year 14) $3,858,0622031 (Year 15) $4,562,5212032 (Year 16) $5,281,0702033 (Year 17) $6,013,9892034 (Year 18) $6,761,5672035 (Year 19) $7,524,0972036 (Year 20) $8,301,8772037 (Year 21) $38,460,119
• Net cash flow available for sale = taxable income + depreciation + amortization – debt service(principle)
• Negative net cash flows from Year 1 to Year 7
• Positive net cash flows from Year 8 to Year 21
PeachPower’s Internal Rate of Return under Alternative 1
Tax classification & treatment
Evaluation of Alternative 1
Evaluation of Alternative 2 Q & A
Year Cash Flow after debt service
Utility Savings Tax Savings (Expense) ITC Annual Return for PeachPower
Initial Contribution (103,700,000)
2017 (Year 1) (4,736,406) 1,765,140 0 0 (2,971,266)
2018 (Year 2) (3,591,836) 1,800,443 0 0 (1,791,393)
2019 (Year 3) (3,036,375) 1,836,452 0 0 (1,199,923)
2020 (Year 4) (2,469,804) 1,873,181 0 0 (596,623)
2021 (Year 5) (1,891,902) 1,910,644 0 0 18,742
2022 (Year 6) (1,302,442) 1,948,857 0 0 646,415
2023 (Year 7) (701,193) 1,987,834 0 0 1,286,642
2024 (Year 8) (87,918) 2,027,591 0 0 1,939,673
2025 (Year 9) 537,621 2,068,143 0 0 2,605,764
2026 (Year 10) 1,175,672 2,109,506 0 0 3,285,178
• Annual Return for Peach Power = Cash Flow (after debt service)+ Utility Savings + Tax Savings + ITC
• Annual Return for PeachPower
Tax classification & treatment
Evaluation of Alternative 1
Evaluation of Alternative 2 Q & A
Year Cash Flow after debt service Utility Savings Tax Savings (Expense)
ITC Annual Return for PeachPower
2027 (Year 11) 1,826,483 2,151,696 - - 3,978,179
2028 (Year 12) 2,490,311 2,194,730 - - 4,685,041
2029 (Year 13) 3,167,416 2,238,624 - - 5,406,040
2030 (Year 14) 3,858,062 2,283,397 - - 6,141,459
2031 (Year 15) 4,562,521 2,329,065 - - 6,891,586
2032 (Year 16) 5,281,070 2,275,646 - - 7,656,716
2033 (Year 17) 6,013,989 2,423,159 - - 8,437,148
2034 (Year 18) 6,761,567 2,471,622 - - 9,233,189
2035 (Year 19) 7,524,097 2,521,055 - - 10,045,151
2036 (Year 20) 8,301,877 2,571,476 - - 10,873,352
2036 (Year 21) 38,460,119 2,622,905 (8,036,464) - 33,046,560
Internal Rate of Return 0.3099%
PeachPower’s Internal Rate of Return under Alternative 1
Used out all the NOL carried
forward
Sun Bank's Internal Rate of Return
Year Loan Payment and Loan Origination Fees Received Tax Expense on Loan Origination Fees and Interest Income Annual Return for Sun Bank
Initial contribution $ (247,500,000) $ (1,000,000) $ (248,500,000)Year 1 2017 29,364,906 (10,000,000) 19,364,906 Year 2 2018 29,364,906 (9,825,404) 19,539,502 Year 3 2019 29,364,906 (9,633,348) 19,731,558 Year 4 2020 29,364,906 (9,422,086) 19,942,820 Year 5 2021 29,364,906 (9,189,699) 20,175,207 Year 6 2022 29,364,906 (8,934,072) 20,430,834 Year 7 2023 29,364,906 (8,652,883) 20,712,023 Year 8 2024 29,364,906 (8,343,576) 21,021,331 Year 9 2025 29,364,906 (8,003,337) 21,361,569
Year 10 2026 29,364,906 (7,629,074) 21,735,832 Year 11 2027 29,364,906 (7,217,385) 22,147,521 Year 12 2028 29,364,906 (6,764,528) 22,600,378 Year 13 2029 29,364,906 (6,266,384) 23,098,522 Year 14 2030 29,364,906 (5,718,426) 23,646,480 Year 15 2031 29,364,906 (5,115,673) 24,249,233 Year 16 2032 29,364,906 (4,452,644) 24,912,262 Year 17 2033 29,364,906 (3,723,312) 25,641,594 Year 18 2034 29,364,906 (2,921,047) 26,443,859 Year 19 2035 29,364,906 (2,038,555) 27,326,351 Year 20 2036 29,364,906 (1,067,815) 28,297,091
IRR 6.0694%
Sun Bank’s Internal Rate of Return under Alternative 1
Meet the target IRR: 6%
Pros/Cons of Alternative 1• Pros:• PeachPower is the sole owner of the Solarity• Lower risk for Sun Bank compared with althernative 2
(partnership flip)• Achieve IRR target for Sun Bank
• Cons:• PeachPower will be wasting the investment tax credit (ITC)• Negative taxable income and net cash flow for more than 6 years
for PeachPower because of heavy debt• A lower IRR for PeachPower
Evaluation of Alternative 2
Partnership Flip with
ITC
IRR of PeachPower & Sun Bank
Capital Basis
of Sun Bank
Pros/cons of Alternative 2
Overview of Alternative 2
• PP(38%) & SB (40%) S, cost $300,000 to form the entity
$160 million capital SB’s contribution of LLC interest $250 million SB $90 million loan standard commercial bank loan
• S obtains
$103.75 million PP
• S’s activities are conducted through two-member LLC S default treated as partnership
10% interest rate with 10-year amortization; Loan original fee of 2.5% (2.25 million)
PP – PeachPower, IncS – Solarity, LLCSB – Sun BankSSF – Solarity Solar FieldSMLLC – single-member LLCITC – Investment tax creditDRE – disregarded entity
Partnership FlipParticipant Role ScenarioTax Investor:Sun Bank
Possess sufficient taxable income to monetize tax benefits (both tax and accelerated MACRS tax depreciation)
SB has substantial income from its other operations
Funds a percentage of total project costs SB will contribute $160 million capitalTarget IRR earned through allocation of 99% of tax credits and taxable losses/income and distribution cash
During Year 1 to Year 5, income, gains, losses, deductions, and credits will be allocated 99% to SB
Typically exits the project after the flip when the Developer/Sponsor exercises FMV purchase option
In Y7, PP will purchase the LLC interest from SB at its fair market value of $26 million
Developer:PeachPower
ROI earned through cash flows Y1 - Y6, 85% of cash flows will be allocated to PP
minimum 1% allocation of tax benefits and long-term ownership
Y1 - Y5, income, gains, losses, deductions, and credits will be allocated 1% to PP
FMV purchase option on Tax investor’s residual interest In Y7, PP will purchase the LLC interest from SB at its fair market value of $26 million
Key Points of Partnership FlipYear Allocation Cash flow
Year 1 – Year 5
99% SB 15% SB85% PP1% PP
Year 6 5% SB
95% PP“Cut-off”
Year 7 • PP buys LLC interest from SB at FMV $26 million
• PP will payoff remaining loan balance and close the partnership
Year 8 PP operates S (a DRE) as an SMLLC for 21 years
PP – PeachPower, IncS – Solarity, LLCSB – Sun BankSSF – Solarity Solar FieldSMLLC – single-member LLCITC – Investment tax creditDRE – disregarded entity
As partnership dissolved, loan payment can be written off
Terminate partnership for tax purpose under
Rev.Proc.99-6
Section 1.741 – 1(b) provides that section 741 applies to the transferor partner in a two-person partnership when one partner sells a partnership interest to the other partner
Legitimate partnership• Rev. Proc. 2007 – 65 outlines a safer harbor that applies to
partnerships for qualified wind energy facilities and Section 45 production tax credits• CCA 201524024 indicates Rev. Proc. 2007-65 does not apply to
partners or partnerships with Code section 48 energy credits. Further, LLC does not satisfy all of the safe harbor requirements of Rev. Proc. 2007 - 65
Consider the likelihood that A2 transaction would be considered a financing transaction rather than a legitimate partnership
Capital Basis for Sun BankBasis Adjustment RulesBasis is increased by: • Contributions and increases in share of partnership debt • Taxable income and gains • Tax-exempt income and gains • Certain depletion adjustments
Basis is decreased by: • Distributions and decreases in share of partnership debt • Separately stated deductions • Nondeductible items not chargeable to the capital account • Certain depletions adjustments
Beginning BalanceLess: Beginning Liability AllocationPlus: Ending Liability Allocation Plus: Income AllocationLess: Utilization of Suspended Loss______________________________Subtotal Before Cash DistributionLess: Cash Distribution______________________________SubtotalLess: Gain Recognized______________________________Basis Before Loss AllocationsPlus: Loss Allocation______________________________Ending Tax Basis
In Year 6, Sun Bank’s subtotal is -17,195,941, since basis can never be
negative, Sun Bank has to recognize gain
IRRs of the three options (25% efficiency)
Original Cash Flow Changes
LLC Interest Changes
Contributed Capital Changes($140 million)
Contributed Capital Changes($150 million)
PeachPower 14.5878% 11.2510% 12.6525% 12.0606% 13.2303%
Sun Bank 14.3846% 18.0406% 15.9982% 18.5033% 16.3208%
Pros/cons of Alternative 2 (25% efficiency)
Cons Pros
PP only bears 1% of risk for 5 years
PP has higher IRR in the original scenario
ITC credits could be utilized
SB bears 99% of risk for 5 years
PP is not the sole owner from Y1- Y6
IRRs of the three options (30% efficiency)
Original Cash Flow Changes
LLC Interest Changes
Contributed Capital Changes($140 million)
Contributed Capital Changes($150 million)
PeachPower 14.5878% 14.2221% 17.3183% 16.0307% 17.4926%
Sun Bank 14.3846% 19.1373% 15.5270% 18.1660% 16.0709%
Risk of calculated purchase/sale price rather than FMV – inconsistent with partnership flip requirements
Recommendation for PeachPower
• Choose Alternative 2 to utilize ITC credits• Achieve IRR target (8%) under Alternative 2
(about 14%) • Mitigate risk for 5 years• PP has the highest IRR under original
assumption if 25% efficiency• PP has the highest IRR if SB contributed
capital is $150 million and 30% efficiency
Take Alternative 2!
Recommendation for PeachPower & Sun BankTake Alternative 2, SB’s contributed capital $150 million!
25% efficiency Original Cash Flow Changes
LLC Interest Changes
Contributed Capital Changes($140 million)
Contributed Capital Changes($150 million)
PeachPower 14.5878% 11.2510% 12.6525% 12.0606% 13.2303%
Sun Bank 14.3846% 18.0406% 15.9982% 18.5033% 16.3208%
30% efficiency Original Cash Flow Changes
LLC Interest Changes
Contributed Capital Changes($140 million)
Contributed Capital Changes($150 million)
PeachPower 14.5878% 14.2221% 17.3183% 16.0307% 17.4926%
Sun Bank 14.3846% 19.1373% 15.5270% 18.1660% 16.0709%
Original Delayed Placed in Service Dates
• No environmental assessment required
• Solar field is constructed in 2017
• Environmental assessment before the TVA can sign the PPA with PeachPower
• Solar field is constructed and place in service in 2018 or 2019 or even 2020
Delayed Placed in Service Dates
• Less taxable income due to the delay in service in both alternative 1 & 2• Time value of money: • If spend more, worth it• If earn more, not worth it
• ITC will not be eligible until 2018 • IRR• PeachPower’s IRR• Sun Bank’s IRR
Delayed Placed in Service Dates
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