When considering solar energy for a home, many people begin by asking “how much does it cost to go solar?”. This makes sense - after all, it’s important to find out what kind of financial resources are required and whether going solar is a possibility given your financial situation. Fortunately, there are very attractive financing choices, including no upfront cost options, that make solar affordable and accessible to many more people.
In addition to looking at solar as a purchase that has a cost, solar panels can also be looked at as an investment. This is because switching to clean solar energy can generate attractive financial benefits that rival the returns of other places you can put your money - like savings accounts, money market or bond funds.*
So, let’s look at how you can go about evaluating residential solar energy as an investment.
Calculating and Comparing Solar ROI
The return on investment (“ROI”) for solar panels can be looked at in several ways. No approach is perfect, so people tend to look at a few different ROI calculations. A simpler method is payback period, which we'll discuss in the next section. One of the more complex approaches is a calculation called internal rate of return, or IRR, which calculates the discount rate (or rate of return) that makes net present value of all the cash flows (including annual electric savings, in this case) equal to zero. If that last sentence makes your eyes glaze over, read on.
A simpler way to look at the return on investment of solar panels is to ask “How many years will it take for my solar panels to pay me back for the cost I paid?” This is often referred to the “payback period”. To calculate your payback period, you simply divide your net cost of your solar electric system by the annual savings on your electricity bill.
For example, if you purchase a $21,000 solar electric system for your house, 30% of that will be offset by a Federal tax credit, leaving you with the net cost of $14,700. If your resulting annual electric bill savings is $1,200 ($100/month), then $14,700/$1,200 gives you a preliminary payback period of 12.25 years. Why “preliminary”? Because we haven’t factored in a few other sources of solar ROI yet.
Utility Cost Increases
The next step in calculating your payback period is factoring in the additional savings from future higher electric rates. How much have electric utility rates risen historically? It can be confusing to calculate the historical rate increases because the utility companies can charge more in a number of different ways including tariff rates, transportation costs, and commodity costs. One thing we can all agree on is that electricity costs do go up over time.
However, if you switch to 100% clean solar power, you won’t be subject to increasing electric usage rates, further enhancing the potential of your solar panel investment. And remember, the more utility electric rates increase over time, the more value you’re getting from your rooftop solar system – meaning your payback period decreases while ROI increases each year.
In this example, if we assume rates rise annually at an average of 4.8%, then by year 10 the annual savings will grow from $1,200 to $1,918. Summing up the annual savings starting in year one, including the yearly increase in utility rates, drops the payback period in this example to just under 10 years (we’ll round up to 10 for simplicity).
Converting Payback to a Simple ROI
There’s one issue with looking at payback period: how do you put a 10-year payback period into context? Is 10 good or not? One way to answer that question is to translate payback period into a simple ROI calculation of cash savings per invested cash. This will allow you to more easily compare it to other investment options. In this example, if it takes 10 years to pay something back, that means that you’re getting 1/10th of your investment back each year, or a 10% annual return.
Now we can look at a 10% solar return on investment in comparison to other possible ways to invest your money. One common option is bonds, or more practically, a bond fund. Bonds seem to be an appropriate comparison in this case because they offer lower risk that’s more similar to solar panels compared to, say, stock funds.
Looking at the Vanguard Intermediate Term Bond Index fund, we see that as of December 31, 2017 the 5-year average annual return is 2.15%. Therefore, at a 10% return, solar panels are the clear winner here. This is especially likely when you consider that interest rates are currently near all-time lows, and if they do increase then the value of the bond fund will fall, decreasing the total bond fund ROI.
Adjusting ROI for Income Taxes
When you also consider income taxes, your solar panel invesment takes another step ahead. This is because when you invest in a bond fund like the one above, the dividends you receive are taxed (we’re assuming this fund is not in a retirement account), so you don’t get to put them all in your pocket.
In contrast, the “dividends” you receive from solar panels come in the form of cost savings, and those savings are not taxed, which means you get to immediately pocket 100% of them.
Therefore, to compare solar return on investment and bond fund return on investment on an apples-to-apples, pre-tax basis, you need to adjust your solar savings to pre-tax dollars. In this example if your marginal income tax rate (federal plus state) is 30%, then your solar ROI goes from 10% to 14.28% on a pre-tax basis. To check this math, take $14.28 and charge a 30% tax rate, you’ll get $10 left over after taxes.
This means that in the example illustrated here, the ROI on solar - on an apples to apples pretax basis – is more than 6x the historical ROI of an intermediate term bond fund. It’s worth noting that this example assumes no reinvestment of the solar savings. If you invest your pocketed savings, you’d boost your solar returns even more while also speeding up your payback period quite a bit.
Last, but certainly not least, when thinking about solar energy as an investment, it’s important to consider the environmental benefits of powering your house with a clean, renewable source of energy. Electricity production by traditional means (like coal and natural gas) emits large amounts of carbon dioxide that contribute to global warming. These dirty energy sources pollute our air and water supplies, linking them with a number of health problems. By going solar, you’re benefiting your whole community and the future generations who are counting on us to leave our planet clean and safe.
Clean solar energy is a stable investment that can provide an attractive financial return. Plus, solar energy offers the added benefits of protection from increased utility charges, favorable tax treatment, and very important environmental benefits. That’s why many people say that solar is a win-win: it’s good for your family’s finances and good for our planet. All together it’s easy to see why thousands of Colorado homeowners are going solar every year: because investing in solar panels for your home is often a very smart choice.
Are Solar Panels a Good Investment Opportunity for You?
As we’ve illustrated above, solar ROI is based on a variety of variables and therefore will be unique to each home and energy usage profile. If you’d like to know what your solar ROI would be, simply gather your most recent 12 months of electricity usage and give us a call (or complete the free quote form). One of our non-commissioned home solar consultants would be happy to create a customized solar savings ROI analysis for you. Or learn more about solar energy costs and financing options that make solar energy affordable for a variety of households.
*Please note that we are solar experts, not tax or investment advisors, and this is not intended to provide any investment advice whatsoever, so please consult your tax and investment advisor for guidance on all things tax and investment-related!
Get expert, honest answers to the top questions you need to ask when considering solar for your home.
Do you want to see how much you could save by going solar?
Contact our team of solar experts to request a free quote.