Tax Incentives on Renewable Energy

November 5, 2021
esthergithinji
Off-Grid Technology, Tax
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By Esther Mukami Githinji, Advocate of the High Court, Kenya

Tax incentives are regarded as a flexible economic tool as it targets a specific market need. Tax incentives consist of reduction of the taxable income by a taxpayer and tax credits which reduce the tax liability of the taxpayer.

Some economists argue that tax incentives are redundant and ineffective. Investment tax incentives are overstated while other cost are understated and overlooked. Other than economic factors, social policy considerations should be made. However, there is enough evidence to show the effectiveness of tax incentives.

Fiscal incentives are the most common government instrument for promoting the transition to a green energy economy. Tax incentives could effectively address green economy challenges and change of consumer behavior, though they should be supported by other policy instruments. Some argue that tax incentives only influence investment decisions and do not factor in non-tax considerations to be made. Although the trend is that they will continue to be used to aid the growth of the green economy.

Tax incentives target renewable energy technologies and residential consumers in particular geographical areas, equipment installation and equipment manufacturing.

A functional and effective tax incentive regime must have the following characteristics;

Target a specific need based on the level of development in renewable energy of a country;
Must be operationalized on the first and subsequent years of the renewable energy project;
Must be large enough to ensure that renewable energy technology is competitive;
Easy administration of tax incentives adds to the effectiveness of it;
Tax incentives should be designed in a way to benefit the public sector organization;
Public sensitization on tax incentives increases its effectiveness; and
Tax incentives should be credible, predictable and consistent.

Various Governments have created laws and policies on tax incentives on renewable energy in the various ways but the most notable are;

This is determined by the amount of investment to be made to a project. It helps in reducing the upfront capital but doesn’t factor in the later costs to be incurred.

1. Investment tax incentives.

This is determined by the amount of energy produced. It helps reduce the production costs.

2. Production tax incentives.

This is determined by the amount of energy produced. It helps reduce the production costs

3. Property tax reductions.

This reduces the taxes on land and fixed assets used for the production of renewable energy

4. Value-added tax reductions.

Reductions on VAT are payable by suppliers of renewable energy and on renewable energy equipment. This benefits the consumers who pay a lesser amount on renewable energy.

5. Excise (sales) tax reductions.

This provides for reductions on excise or sales taxes paid by consumers of renewable energy and renewable energy equipment.

6. Import duty reductions.

These are tax reductions on imported parts and equipment used for local generation of renewable energy and manufacturing of renewable energy equipment.

7. Accelerated depreciation.

This refers to the income tax deduction of the capital cost of an asset over the estimated tear and wear of the asset.

8. Research, development, demonstration and equipment manufacturing tax incentives.

This provides for tax deductions or tax credit on renewable energy RDD projects and manufacturing of renewable energy equipment.

9. Tax holidays.

This provides for exemption to pay taxes for a limited time period.

10. Taxes on conventional fuels.

This are tax incentives that discourage generation and consumption of non-renewable energy which indirectly encourage production and use of renewable energy.

It is worth noting that these taxes collectively reduce the cost of renewable energy and therefore encourage energy consumers to turn to green energy.

Tax incentives on renewable energy in African countries

Tax incentives are mostly used in developing countries. Developing countries have for long used non-renewable sources of energy that are ultimately non friendly to consumers and the environment. Notably, developing countries have used the non-renewable sources of energy because of their availability and cost effectiveness. This is the main reason that makes tax incentives on renewable energy more prevalent in African Countries.

We will look at a few of the African countries that have employed tax incentives in the renewable energy sector.

1. Madagascar

The Madagascar Tax Code of 2015 provides for the following tax incentives of renewable energy;

a. Reduction in corporate income tax equivalent to 50% of the investment;

b. Exempt of VAT on equipment used in the production of renewable energy. The equipment includes wind power generators, hydropower generators, solar water heaters and solar PV panels; and

c. Investment in equipment can be depreciated at an accelerated rate of 30% of net value, with exception of building.

2. South Africa

The South Africa Income Tax Act provides for a number of fiscal incentives that are advanced to the renewable energy sector. These include allowances for

a. Energy efficiency savings (Section 12L);

b. Capital allowance for machinery used in the production of renewable energy (Section 12B);

c. Exemption of certified emission reductions (Section 12K);

d. Allowance for industrial policy projects (Section 12I); and

e. A host of tax incentives for the proposed special economic zone SEZs (Section 12R).

3. Malawi

Amendments to the Malawi Customs and Excise (Tariffs) Order provides for zero rate VAT on solar panels, solar batteries, solar inverters, solar bulbs, solar regulators, solar accumulators and energy efficient bulbs.

4. Rwanda

The Rwanda Investment Code provides for a seven-year tax holiday for investment for energy projects producing at least 25 MW. The investment should be of at least 50 million USD and the investor should contribute at least 30% of this investment in the form of equity in these sectors. The Minister for Finance and planning provides a list of clean energy equipment exempted from VAT.

5. Sierra Leone

The Finance Act provides that the importation of photovoltaic system equipment and low energy or energy efficient appliances for resale or use by third parties shall be duty free for a period of three years.

6. Kenya

The Kenya Finance Act, 2021 amends the First Schedule of the Value Added Tax Act to exempt taxing of solar and wind energy specialized equipment. This was after a VAT of 14% was imposed on solar equipment in 2020, which made solar products unaffordable and discouraged the realisation of universal electrification. The new law puts back the country on track the road to attaining green energy.

Positive impacts of tax incentives in renewable energy

Tax incentives are geared to promoting a specific sector and achieving certain objectives. As for tax incentives on renewable energy in the energy sector, the following are some of the positive impacts;

a. Increasing energy access of marginalized areas with limited connection to the national grid network.

b. Enabling the affordability of off grid energy access solutions to low income rural communities.

c. Enabling job creation in the renewable energy sector. The income tax from the jobs increases tax revenue of the country.

d. Increased access to energy provides for productive economic potential for the individuals and in turn increases socio economic activities.

e. Increased access of renewable energy to home owners, mid-size entrepreneurs and the informal sector.

f. Eliminates the expenditure on nonrenewable sources of energy and hence increase individual savings.

g. Creates positive impacts on the environment and the levels of carbon emission.

h. Increased education quality, light from renewable energy sources will result to increased study hours for children.

Conclusion

Tax incentives on renewable energy play a significant role as there is an increased demand for electricity. The encouragement from tax incentives brings about investment in renewable energy which help create off grid electrification to majority of rural communities. This will help realize the universal electrification goal. With the increased access to energy there will come infrastructural and social development which will boost countries’ economies.

Further, tax incentives on renewable energy is meant to influence consumer behavior to more environmental friendly practices. This will globally impact on environmental sustainability goals and climate change.

Esther Mukami Githinji

Esther Githinji is an Advocate of the High Court of Kenya based in Nairobi, Kenya with a passion in renewable energy. She is a graduate from the University of Nairobi with a Bachelor in Laws. During her undergraduate studies she specialised in energy law and environmental law.

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