Market Analysis

What does the Inflation Reduction Act mean for climate finance?

February 9, 2023
Solar installation
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What is the Inflation Reduction Act?

The Inflation Reduction Act (”IRA”) is a landmark piece of legislation passed by the US Congress in August 2022, with $394B of new federal funding for climate provisions. This will put the country on track to meet 80% of its Paris Agreement obligations to reduce emissions.

  • This will be delivered primarily through corporate tax incentives (55% of the total), grants (21%), consumer tax incentives (11%), loans (10%), and federal operations (3%).
  • Energy and electricity will receive the largest amount of funding (63% of the total), followed by manufacturing (12%), environment (11%), transportation (6%), agriculture (5%), and water (1%).

The ultimate amount of IRA funding could be double what the federal government has announced to date. Credit Suisse has estimated that the IRA’s climate provisions could end up resulting in funding of as much as $800B, due to high demand for things such as clean electricity tax credits.

Where are there high-potential opportunities for climate fintech in the IRA?

There are 16 initiatives in the IRA that we believe create high potential opportunities for climate fintech.

A note on methodology: We drew these 16 initiatives from Climate Tech VC’s list of the 76 climate-related initiatives contained in the IRA. We applied criteria such as “has at least $100M of funding” and “is not primarily funding for a government program” in order to reduce the list to 16.

These initiatives fall into the following categories:

  • Built environment (5 climate finance initiatives) - Funding for residential/commercial energy efficiency and electrification, via tax credits, tax deductions, and rebates. An example is the $4.5B fund for Home Electricity and Energy Efficiency Rebate, providing households with $2,000-4,000 for installing heat pumps, insulation, and more.
  • Energy (5 climate finance initiatives) - Funding for clean electricity production/investment and rural electrification, primarily via tax credits. For example, the Clean Energy Investment and Production Tax Credits now apply to a wider array of net-zero technologies (e.g., geothermal).
  • Transportation (5 climate finance initiatives) - These initiatives cover EV manufacturing, sales, and charging, and are primarily delivered as tax credits (with some grant funding for manufacturers). One example is the higher $7,500 credit for purchase of a new EV (and $4,000 for a used EV).
  • Carbon (1 climate finance initiatives) - The Carbon Capture Tax Credit extends and modifies the credit for carbon capture, storage, and sequestration (CCS). The new provision makes smaller CCS projects eligible for credits, reducing the minimum size requirement for power plants from 500K tons of carbon a year to <20K.

What are some examples of how this translates into opportunities for climate fintech players?

We have put together a summary of where we see white space in the 16 climate finance initiatives, including some initial hypotheses on where there could be climate fintech plays. Below are two examples:

Home energy efficiency

Investing in home energy efficiency remains a significant financing challenge for homeowners. The average American home can require as much as $10,000 for insulation, while generating 10-15% annual savings on energy bills - one reason we have seen ventures such as Sealed enter the market to help financing on insulation and HVAC upgrades.

The IRA’s Residential Energy Efficiency Tax Credit could supplement venture financing in this area. The credit provides up to $1,200 annually for projects such as home energy audits and energy efficiency hot water boilers. Ventures can leverage these credits to bolster the value proposition of financing offerings. They can also focus on some of the non-financing provisions, such as wage and apprenticeship requirements required by the IRA - for example, through employee recruitment platforms, or verification and qualification of installers.

EV financing

The IRA includes two provisions that mitigate the costs of purchasing a new or used EV for consumers. There are already players leveraging these tax credits to offer EV financing. One is Tenet, which has factored in the credits as well as other unique properties of EVs (such as lower fuel and maintenance costs) to build an underwriting model unique to EVs.

Similar innovation is occurring in EV charging. The 30C credit extends the 30% tax credit for alternative fuel refueling for non-urban and low-income households. There is a similar provision for commercial applications. These will aid the growth of firms such as Treehouse, which bundles the costs of charger installation into its EV loans. Another example is Amperage Capital, which finances EV charging installation for tenants of multifamily buildings.

We expect that provisions in the IRA for commercial fleet transitions to EVs as well as for battery production will also spur innovation amongst climate finance ventures.

What opportunities might the rest of the high-priority initiatives provide?

We would love your ideas on what other opportunities the IRA might create for climate fintech within the US. We have included a summary of the 16 climate finance initiatives in the IRA here. We have included some initial quick thoughts on potential plays that could be made leveraging the IRA. However, we would love your thoughts and ideas:

  • Which initiatives are you most excited about? Why?
  • What other climate fintech opportunities do these initiatives create?
  • Who is working on these already? Who do you know who should be working on one of these opportunities?

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