The New Alphabet of Renewable Energy Investing: MLPs and REITs
Institutional investors manage more than $70 trillion in assets globally. But when it comes to renewable energy, a large portion of that capital is sitting on the sidelines.
It’s not that renewable energy is a bad investment—in fact, as I’ve explained before, clean energy projects provide exactly the kind of stable, consistent returns that long-term investors love. For example, when Warren Buffett’s Berkshire Hathaway subsidiary MidAmerican Energy Holdings issued a $850 million bond offering for its Topaz Solar Farm last year, it was oversubscribed by nearly $400 million.
Investors want in on renewable energy investments; however, the types of investment vehicles available today are limited. Some of these limitations can be addressed by extending the same benefits that fossil fuel and real estate developers have enjoyed for years. New legislation and a call for clarity from the Internal Revenue Service could make two investment structures, Master Limited Partnerships (MLPs) and Real Estate Investment Trusts (REITs), the new alphabet of renewable energy investing.
MLPs and REITs could help to get some institutional capital off the sidelines and into play, but it is important to note that these measures alone will not open the floodgates to renewable energy investment. They are positioned to become part of a broader toolkit, one that the federal government has used successfully in the past to develop domestic energy resources.
Just as shale gas developers were supported with roughly $10 billion in tax credits, along with millions more in research and development funding, the Production Tax Credit and Investment Tax Credit remain essential tools within the renewable energy industry. MLPs and REITs will provide complementary benefits as the industry matures, and most important, the proposed changes will help to level the playing field.
How? For decades, Congress has enabled investors to bundle energy projects like oil and gas pipelines and other fossil fuel developments under a structure called the Master Limited Partnership, which is taxed like a partnership but trades like a stock. Most of the investors we work with through our Investor Network on Climate Risk, for example, are investing primarily in stocks and bonds, so the liquidity that MLPs offer is appealing. In other words, investors like MLPs because they can buy and sell their shares in the public markets, and project developers like them because they can access cheaper capital through the markets.
Unfortunately, the tax code currently restricts MLPs to projects with “depletable” resources. This restriction was originally designed to prevent companies of all kinds from reformulating themselves as MLPs to avoid corporate taxes—even the Boston Celtics were an MLP for a time—but it has the effect of supporting fossil fuel projects while shutting out renewable energy developments. Not exactly the level playing field developers are looking for.
The Master Limited Partnerships Parity Act, re-introduced today by a bipartisan group of senators, hopes to achieve parity in the treatment of renewable and fossil energy. When the bill was first introduced last year, lead sponsor Sen. Chris Coons (D-Del.) said, “Congress should be setting a realistic and stable policy pathway to sustain innovations in domestic energy development, and help the market work to its fullest potential. That starts with leveling the playing field and giving renewable energy the same shot at market success as fossil fuels.”
Real Estate Investment Trusts offer similar but complementary benefits to those presented in the MLP proposal. REITs have become a popular investment option for institutional and individual investors. They’re a big part of the S&P 500, and if you have a retirement account, chances are you have some REITs in your portfolio. A broad variety of properties—from billboards to prisons to cell phone towers—have all used the REIT structure to reduce financing costs and increase investment opportunities for a broader range of investors.
Currently, IRS rules are unclear on whether solar projects can qualify as REITs. Clarifying these rules to include renewable energy is such a logical and fair proposal that it has gained bipartisan support, along with MLP reform, even in a radically divided Congress. Late last year, a bipartisan group of 29 U.S. lawmakers sent a letter to the President calling for changes to both MLPs and REITs.
As the renewable energy industry matures, more investment opportunities will open up for institutional and individual investors alike. In fact, a number of finance experts, including Credit Suisse, expect loans from small solar projects around the country to be bundled and sold into the capital markets, as just one example.
However, for the time being, a couple simple fixes can level the playing field in the energy sector and expand opportunities to a broader range of investors through MLPs and REITs. Let’s make it happen.