Carbon Credits vs. Tax Credits: Financial Incentives for Renewable Energy
- Craig Kaiser
- Aug 8
- 8 min read
Understanding financial incentives can feel like learning a new language. Two terms you might hear often are carbon credits and tax credits. While they both offer financial benefits, they serve very different purposes and operate in separate systems. One is a tool for environmental policy, while the other is a component of the tax system. This resource will break down the comparison of carbon credits vs. tax credits. You will learn what each one is, how they function, and their distinct impacts on businesses, individuals, and the broader economy.
Key Takeaways:
Carbon Credits vs. Tax Credits: Carbon credits are tradable permits allowing the emission of a specific amount of greenhouse gases, while tax credits are government incentives to encourage certain investments or behaviors in renewable energy.
Applicable Renewable Energy Investments: Both carbon credits and tax credits apply to geothermal, wind, and solar energy developments.
Residential Tax Credits: Homeowners investing in solar, wind, or geothermal systems may be eligible for federal tax credits, like the Residential Clean Energy Credit, which covers up to 30% of installation costs from 2022 through 2023.
State-Level Incentives: State and local governments may offer varying tax credits for installing renewable technologies or making energy-efficient home improvements, such as LED lighting and insulation.
Wind Farm Tax Credits: Wind farms can receive federal tax incentives like the Production Tax Credit (PTC) or Investment Tax Credit (ITC) to promote renewable energy production.
Landowner Opportunities with Carbon Credits: Landowners with large acreage can benefit from carbon credits by leasing land for wind farms or forestry, which sequester carbon and generate credits for sale or compliance purposes.
Verification and Market: To trade carbon credits, projects must be registered with certification bodies like the Verified Carbon Standard, allowing them to be sold on voluntary markets or for compliance needs.
Landowners can earn carbon credits- one for every ton of CO2 their land absorbs. Wondering what your property could bring in from a carbon credit lease? Grab a free LandApp Property Report and see your Carbon Value Index Score, which measures your land’s carbon sequestration potential on a 0–100 scale.
What Are Carbon Credits?
A carbon credit is a tradable permit or certificate that represents the right to emit one metric ton of carbon dioxide (CO2) or an equivalent amount of a different greenhouse gas. Think of it as a key tool in the fight against climate change. The core idea is to create a market-based system to reduce global emissions.
This system works through a "cap-and-trade" model. A government or regulatory body sets a cap, or a limit, on the total amount of greenhouse gases that can be emitted by a group of industries. Companies within these industries receive or buy emission allowances, or credits. If a company reduces its emissions below its allowance, it has a surplus of carbon credits. It can then sell these extra credits to another company that has exceeded its emissions limit. This creates a financial incentive for businesses to invest in cleaner technologies and more efficient operations.
How Carbon Credits Drive Environmental Change
The carbon credit market is divided into two main types- compliance and voluntary markets.
Compliance Markets: These are created and regulated by governments. Participation is mandatory for certain industries, such as power generation or heavy manufacturing. The goal is to meet national or regional emission reduction targets.
Voluntary Markets: In this space, individuals, companies, and other organizations buy carbon credits to offset their own emissions voluntarily. They might do this to meet corporate social responsibility (CSR) goals, improve their brand image, or simply contribute to environmental protection.
For example, a corporation might calculate its annual carbon footprint from business travel and office energy use. It could then purchase carbon credits from a project that plants trees or develops renewable energy to offset those emissions, effectively becoming "carbon neutral."
What Are Tax Credits?
A tax credit is a dollar-for-dollar reduction in the amount of income tax you owe. Unlike a tax deduction, which only reduces your taxable income, a tax credit directly lowers your final tax bill. For instance, a $1,000 tax credit saves you $1,000 in taxes. Governments use tax credits to encourage specific behaviors that are seen as beneficial to the economy or society. They can be offered to both individuals and businesses for a wide range of activities.
Common examples for individuals include credits for having children, pursuing higher education, or making energy-efficient home improvements. For businesses, credits might be available for research and development (R&D), hiring from certain demographic groups, or investing in specific industries.
How Tax Credits Benefit Taxpayers
Tax credits are a direct financial incentive. They are designed to make certain purchases or investments more affordable by reducing the tax burden associated with them. There are two primary types of tax credits- refundable and nonrefundable tax credits.
Refundable Tax Credits: If a refundable credit is worth more than the taxes you owe, you receive the difference as a refund. For example, if you owe $800 in taxes and qualify for a $1,000 refundable credit, you will pay no taxes and receive a $200 refund.
Nonrefundable Tax Credits: A nonrefundable credit can reduce your tax liability to zero, but you won't get any money back for the remaining amount. Using the same example, if you have an $800 tax bill and a $1,000 nonrefundable credit, your bill is reduced to zero, but you do not get the extra $200.
For example, a homeowner who installs solar panels might be eligible for a federal tax credit. This credit reduces the net cost of the installation, making clean energy more accessible and encouraging a shift away from fossil fuels.
Key Differences: Carbon Credits vs. Tax Credits
While both carbon credits and tax credits can be tied to environmentally friendly actions, carbon credits and tax credits are fundamentally different. Here are the main distinctions.
Purpose and Goal
Carbon Credits: The primary goal is to reduce greenhouse gas emissions. They create a market-based mechanism to put a price on pollution and incentivize decarbonization.
Tax Credits: The goal is to influence economic or social behavior by providing a direct financial reward through the tax system. Their scope is much broader than just environmental initiatives.
Mechanism and Operation
Carbon Credits: They operate within a market system (cap-and-trade or voluntary). Their value fluctuates based on supply and demand. They are a tradable asset.
Tax Credits: They are part of the tax code and administered by government tax agencies like the IRS. Their value is fixed and is used to directly offset a tax liability. They are not traded on an open market.
Beneficiaries and Participants
Carbon Credits: The main participants are companies in regulated industries, project developers (who create the credits), and voluntary buyers (corporations and individuals). The ultimate beneficiary is the global environment.
Tax Credits: The beneficiaries are taxpayers—both individuals and businesses—who meet specific eligibility requirements set by the government.
Impact on a Business's Finances
Carbon Credits: For some businesses, carbon credits are a compliance cost—an expense required to continue operations. For others who successfully reduce emissions, they can become a source of revenue when they sell surplus credits.
Tax Credits: A tax credit is a direct reduction of a company's tax expense, which increases its net income. It functions as a government subsidy for approved activities.
Carbon Credits vs. Tax Credits
Are you interested in investing in geothermal, carbon credits, wind or solar energy? If yes, you might also be wondering about what kind of monetary incentives are available. Read more below to learn about what kind of credits can be available for each type of renewable energy investment.
Carbon credits and tax credits are both financial incentives that are offered for geothermal, wind, and solar energy development. Carbon credits are tradable permits that represent the right to emit a certain amount of greenhouse gasses, while tax credits are financial incentives offered by the government to encourage specific behaviors or investments.
In the case of residential properties, investing in geothermal, wind or solar panels may make the property eligible for certain tax credits offered by the federal government. For example, the federal government currently offers a tax credit for residential solar energy systems that covers up to 30% of the cost of the system. There are also tax credits available for geothermal systems and other renewable energy technologies.
Residential Clean Energy Credits
According to the IRS, the Residential Clean Energy Credits equal 30% of the cost of new, qualified clean energy devices for your home installed anytime from 2022 through 2023. With the increase in the popularity of energy efficiency, the previous $500 credit has been updated to 30% of the sum of the amounts paid by the taxpayer for certain qualified expenditures. These credits vary in size and availability depending on the state and local governments. For example, some states offer tax credits for installing renewable energy technologies such as solar and geothermal systems, while other states have tax credits for energy conservation projects such as efficient lighting or insulation.
Wind farms can be eligible for tax credits for renewable energy production, such as the Production Tax Credit (PTC) or the Investment Tax Credit (ITC). These tax credits are offered by the federal government to incentivize the development of renewable energy sources like wind power. Some states also offer energy tax credits or incentives for using alternative transportation such as electric vehicles or public transit. In addition, some states offer credits for purchasing energy-efficient appliances or for making energy-efficient improvements to a home. Types of energy-efficient improvements include:
Rooftop solar panels
LED lighting
Adding insulation
Installing an electric heat pump
Landowners With Large Acreage
Carbon credits are typically earned by companies or organizations that are actively reducing their greenhouse gas emissions. There are different types of carbon credits for landowners to take advantage of. While individuals can participate in certain voluntary carbon offset programs, it is unlikely that a residential property owner investing in geothermal energy or solar panels would be eligible to receive carbon credits. This is where it becomes beneficial to landowners with large acreage. Landowners that have a lot of land can benefit from the opportunities their land provides them with. For example, if a landowner has forests, timber farms, or other agriculture on their acreage, they can easily lease their land for carbon credits. Even if you just have grass or open fields, you can lease those carbon credits because land stores carbon!
Wind Farm Potential
If a landowner owns land that is suitable for a wind farm, they may be able to lease the land for wind turbines to a developer and receive a share of the tax credits associated with the project. Alternatively, the landowner may be able to develop their own wind farm on their land and receive the tax credits directly. Wind farms can also potentially generate carbon credits through the reduction of greenhouse gas emissions. Landowners who host wind farms on their land may be able to lease out the carbon credits generated by the project to companies or organizations that are looking to offset their carbon footprint. To receive carbon credits, the wind farm project must be verified and registered with a carbon credit certification organization, such as the Verified Carbon Standard or the Climate, Community and Biodiversity Standards. Once registered, the carbon credits can be sold on the voluntary carbon market or used to meet compliance obligations under certain carbon pricing schemes.
Is My Land Valuable for Carbon Credits?
Landowners are eligible to receive carbon credits at the rate of one per every ton of CO2 their land sequesters. If you're curious about how much your land could be worth for a carbon credits lease, get a free LandApp Property Report and check out the Carbon Value Index Score, which rates your property's carbon sequestration on a scale of 0 to 100:
