Beginners Guide

This beginner’s guide will give you the basics of direct pay. While it is intended to help you develop a preliminary understanding of whether your project could be a good fit, it is not designed to provide a comprehensive eligibility check. To ensure you qualify for the program, consult your legal or tax advisor. If you do not have a legal or tax advisor, consider these resources.

What is Direct Pay?

  • Direct pay is a federal government program that allows tax-exempt entities, such as schools, tribes, and state and local governments, receive tax credits for their clean energy facilities. By filing tax forms, the entities can exchange the tax credits for direct cash payments from the IRS. This program was created in 2022 by the Inflation Reduction Act, which sought to equally reward private entities and tax-exempt entities for reducing greenhouse gas emissions. 

    Other resources: U.S. Internal Revenue Service and the Congressional Research Service

  • The amount a tax-exempt entity can receive from direct pay depends on the project and the tax credit claimed. For example, a municipal utility developing a wind farm could generate Section 48 Energy Investment Tax Credits (ITC) equal to 30 percent of the project’s costs. If the project cost $100 million, the municipal utility would receive $30 million from the IRS. 

    There are also bonus tax credits that tax-exempt entities can stack on top of the base tax credits. For example, if the municipal utility mentioned above is also developing its project in an energy community, it will now receive 30 percent from the ITC plus 10 percent from the energy communities bonus tax credit, for a total of 40 percent of its project cost. Scroll down to learn more about the base and bonus tax credits available for direct pay entities. 

  • Requirements depend on the tax credit. While direct pay entities should consult legal and tax advisors to ensure all requirements are fulfilled before starting a project, the following are major requirements that potential applicants should be aware of from the get-go:

    Prevailing Wage and Apprenticeship (PWA): Projects must pay employees prevailing wages set by the U.S. Department of Labor and offer a certain amount of hours of labor to registered apprentices. If the project does not comply with PWA requirements, it only qualifies for the base tax credit rate. If the project complies with the requirements, it can qualify for a bonus tax credit rate, which is typically 5x the base rate. For example, if a project costs $10 million and it does not meet the PWA requirements, it can only receive 6 percent of the cost in ITCs, or $600,000. If the project is fully compliant, it would qualify for $3 million in ITCs. Certain exceptions apply such as projects 1) under 1 MW; and 2) started construction after January 29, 2023.

    Finance: If a project uses municipal bonds or an excess of restricted tax-exempt funds to finance the project, it will not receive the full tax credit amount. Projects should consult with their financial and tax advisors on financing requirements.

    Domestic Content: Projects must use a certain percentage of their construction materials, such as iron and steel, sourced from the U.S. If the project does not comply, it will receive a tax credit rate in proportion to its compliance. Similar to the PWA requirements, exceptions apply to projects under 1 MW.

    Other Resources: Lawyers for Good Government on PWA and domestic content, on municipal bonds and on restricted tax exempt funding.

  • The Inflation Reduction Act authorized direct pay until at least the end of 2032. For specific tax credits, the law specifies a timeline during which projects must either commence construction or achieve operational status to qualify.

Eligible Entities for Direct Pay

  • State, Local, & Territorial Government and Agencies

    Examples: The state of Georgia, the city of Memphis, TN, the Village of Capitan, NM, the town of Greenwood, SC, the territory of Puerto Rico, Oregon’s Economic Development Districts, Alabama’s Butler County School District

  • Federally Recognized Tribal, Native Entities and Alaska Native Corporations

    Examples: The Cheyenne Tribe, the Pueblo of Isleta, the Chevak Native Village, the Bristol Bay Native Corporation

  • Rural Electricity Cooperatives and the Tennessee Valley Authority 

    Examples: Arizona Electric Power Cooperative, the Florida Keys Electric Cooperative 

  • Non-Governmental Tax-Exempt Organizations

    Examples: 501c(3) entities such as educational, religious, charitable, and scientific research organizations

Tax Credits Available to Direct Pay Entities

Your credit amounts can vary widely, ranging from 6% to 70% of eligible project costs. Here's how it works:

6% base credit

If your project meets the basic eligibility criteria but doesn't satisfy additional requirements like prevailing wage and apprenticeship standards, you'll qualify for the base rate, which is 6% of the total eligible costs.

30% credit

By meeting labor-related requirements—ensuring workers are paid prevailing wages and hiring a certain percentage of apprentices—you can increase your tax credit base from 6% to qualify for the full 30% credit. This is called Prevailing Wage and Apprenticeship (PWA).

+10% Domestic Content Bonus

Using domestically manufactured materials in your project can earn you another 10%

+10% Energy Communities Bonus

If the project is in an energy community (e.g., areas historically reliant on fossil fuels), you could receive an extra 10%.

+10-20% Low-Income Communities Bonus

Projects of a certain size in certain low-income or disadvantaged communities can receive an additional 10-20% boost.

More specifics below.

Bonus Tax Credits - The Fine Print

  • The prevailing wage and apprenticeship requirements under the Inflation Reduction Act (IRA) are designed to promote fair labor practices and workforce development while incentivizing clean energy projects. To meet these requirements and qualify for the bonus tax credit rate (e.g., 30% instead of 6%), developers must ensure that workers involved in constructing, altering, or repairing a project are paid wages consistent with the prevailing rates for similar jobs in the project's geographic area. These rates are determined by the Department of Labor (DOL) under the Davis-Bacon Act, which mandates that federally funded projects compensate workers based on locally established wage standards. Additionally, developers must hire apprentices to perform a specified percentage of the total labor hours for the project, ranging from 10% to 15% depending on the project's start date, to foster workforce training and development. To comply, developers must maintain detailed payroll records and collaborate with registered apprenticeship programs to ensure adequate apprentice participation.

  • Provides projects earning Section 45, 48, 45Y, or 48E tax credits (projects earning ITCs or PTCs) 10 percent more tax credits if they are located in an energy community. To check for eligibility and maps of eligible areas, go to energycommunities.gov.

  • As mentioned above in the requirements section, projects must use a certain percentage of their construction materials, such as iron and steel, sourced from the U.S. If the project does not comply, it will receive a tax credit rate in proportion to its compliance. If the project is in full compliance, it is eligible for 10 percent in additional tax credits. To check for specific requirements, review the IRS guidance on direct pay.

    One important note - Starting in 2026, projects that do not meet the domestic content rules will not qualify for any tax credits in direct pay. This applies to projects that begin construction in 2026 or later.

  • Solar and wind projects under 5 MW are eligible to receive up to 20 percent additional tax credits if they are located in low-income communities. Unlike most other bonus tax credits, entities must submit an application for this program. For more information and specific guidance, go to this resource from the U.S. Department of Energy and this fact sheet from Lawyers for Good Governance.