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United States

Wind explores new financing options to replace government grants

UNITED STATES: With the end of US government cash grants for wind-project construction looming, the American wind-energy industry is searching for ways to expand the pool of capital available to finance projects.

The grant programme, which covers 30% of wind-farm costs, was introduced in 2009 to make financing projects easier in a weak economy by allowing wind developers to opt for a cash payment instead of a tax break. It was originally restricted to projects that began construction before the end of 2010, but this deadline was extended by a year in an eleventh-hour deal hammered out by lawmakers last December. Few expect history to repeat itself this year.

"It’s hard to envision Congress providing more time for people to start construction of projects," said Keith Martin, a Washington-based partner in law firm Chadbourne & Parke. "The most important factor is Republican opposition to the Obama stimulus. The Republicans do not want to see any part of that programme extended."

Expiration of the grant will force wind developers to focus on investors able to use the substantial tax subsidies offered to the sector. The difficulty is that the tax equity market has only partially recovered from recession, raising questions about whether there will be enough investment capacity to meet demand from projects in need of financing. Rising demand and limited supply could also push borrowing rates higher. Wind developers are already paying about 220 basis points more for tax equity money than they did before the 2008 economic crisis, said Martin.

New ideas

The situation has left the industry investigating new options for raising capital. One of the ideas being pushed is the use of master limited partnerships (MLPs). MLPs are traded on stock exchanges like corporations, but pay no corporate taxes. Instead, income passes through the partnership to individual investors, who pay the Treasury via their personal tax returns. The ability to access stock market investors, combined with a favourable tax arrangement, allows MLPs to secure capital at a lower cost.

"MLPs are a route into the capital markets that would allow true equity to be raised more cheaply," said Martin. "The thought is that if the Treasury cash grant is going away, this might be a way of keeping capital costs down for this industry."

MLPs have been around since the 1980s and mainly operate in oil and gas-related businesses. Renewable-energy developers are excluded from using MLPs, but the industry has launched a push on Capitol Hill, the home of the national government, to persuade federal lawmakers to alter this. It is also seeking changes to current tax law that make it virtually impossible for individual investors to use tax subsidies available to wind-energy projects. "If those rules were relaxed at the same time, then it would be possible for these partnerships to pass through the tax subsidies to retail investors," explained Martin. Such a change would not only lessen the industry’s reliance on large tax-motivated investors, it would also help bring down the cost of finance.

Political barriers

Securing these changes is far from a given, however. Previous attempts to persuade the tax-writing committees in Congress to allow MLPs to be used for wind farms have not been very successful, acknowledged Martin.
Political reluctance to agree these changes is primarily down to two issues. First, expanding MLP eligibility would decrease the size of the US corporate tax base, resulting in federal revenue losses. Second, the treasury is keen to avoid creating tax shelters for individuals.

MLPs are not the only financing alternative being explored by the wind industry. Some companies are investigating potential use of real estate investment trusts (REITs) to raise capital. Like MLPs, REITs are publicly traded and pass income through to investors. As the name implies, use is limited to real estate investments. However, a consortium led by Dallas-based Hunt Power last year convinced the government’s tax-collection institution, the Internal Revenue Service, to allow the creation of two REITs to invest in electricity and gas transmission and distribution projects. This has led people to ask whether the concept might also be applied to wind projects.

Significant discussion is underway about which assets within a wind farm might qualify as real estate, explained Daniel Brown, a vice-president at US finance firm KeyBanc Capital Markets, which has been working with both the renewable-energy and REIT sectors to flesh out the idea. "We’re at the stage now where we have people on both sides of the aisle thinking this might be an interesting idea to pursue," he added.

It is not hard to see why. REITs are a $500 billion industry in the US, and accessing its investor pool could prove a significant step forward for wind. "We think that, theoretically, there could be potential for a whole swathe of power REITs or renewable REITS or transmission REITs," said Brown. "We’re hopeful that this could actually become something pretty meaningful."

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