US Senator Chris Coons (D-Delaware) is scheduled to introduce legislation today that would allow a wide range of renewable energy projects to qualify as master limited partnerships (MLPs). The partnerships are common among mid-stream energy companies like Kinder Morgan Energy Partners L.P. (NYSE: KMP) and Enterprise Products Partners L.P. (NYSE: EPD), as well as a few exploration and production companies.
The MLPs are limited partnerships that trade like stock and are currently limited by the US tax code to specific sectors, like oil and gas. The partnerships pay no corporate tax, but individual partners do pay taxes, typically at the lower capital gains rate. MLPs and REITS are required to distribute most of their income quarterly. That, and the MLPs’ regulated return rates make them a good choice for income investors. Kinder Morgan, for example, boasts a yield of 6.4% and Enterprise yields 5.3%.
In an op-ed article published in last week’s New York Times, two fellows at Stanford University’s Steyer-Taylor Center for Energy Policy summed up the issue:
If renewable energy is going to become fully competitive and a significant source of energy in the United States, then further technological innovation must be accompanied by financial innovation so that clean energy sources gain access to the same low-cost capital that traditional energy sources like coal and natural gas enjoy.
The IRS specifically excludes MLPs from investing in inexhaustible resources like wind and sunshine. Coons’ legislation would remove that exclusion.
According to a study from the Maguire Energy Institute at Southern Methodist University, up to $6 billion that might be used for renewable projects is unavailable due to the IRS exclusion.
While it’s possible that MLP status could be used by a solar panel maker like First Solar Inc. (NASDAQ: FSLR) or SunPower Corp. (NASDAQ: SPWR), it is far more like that solar installers would be the chief beneficiaries. Real Goods Solar Inc. (NASDAQ: RSOL) and Westinghouse Solar Inc. (NASDAQ: WEST) are currently the only publicly traded solar installation and supply companies in the US, although SolarCity has filed confidential papers to prepare for a third-quarter IPO.
Solar installers are prime candidates for the MLP structure because they have already begun to establish relationships with lenders based on the electricity generated by rooftop and smaller commercial systems. SolarCity, for example, pays for the equipment and installation with a bank loan and homeowners sign a power-purchase agreement to pay for the electricity they use. Bank of America Corp. (NYSE: BAC) and Google Inc. (NASDAQ: GOOG) have invested $240 million in loan funds for these sorts of programs.
No new law is expected to be considered until after the November election, but Coons has gathered five Republican co-sponsors for his legislation, but there are others in Congress and the Obama administration who favor allowing renewable energy companies to be structured as REITs. A few others favor eliminating the MLP structure for fossil-fuel projects, but that’s unlikely to get much traction.
Financing through bank loans and publicly traded stocks has the advantage of getting the federal government out of the subsidy business. A further advantage of either a REIT or MLP structure is that the cost of finance drops to below 10%, well below the 30% returns demand by tax-equity investors today.