What’s the solar panel payback period...is the wrong question to ask
Published on 20 Nov, 2018 by Michael Bishop
Categories: Solar economics
When most people decide whether to invest in solar, the main question is: What will the solar panel payback period be?
It's not the worst question to ask, but, as this article will explain, it doesn't give the full financial picture. Fortunately, there's another simple financial question that does. But first:
What's the typical solar panel payback period?
It varies across the country, but the payback period is typically 7 to 8 years in states with higher electricity rates.
What's the maximum solar panel payback period for most people?
The typical maximum acceptable period in our experience is 9 years. If the system pays for itself in 9 years or less, it's usually considered a good financial decision. If it takes 10 years or longer, then send that solar sales rep to the curb. But consider this:
Solar systems are a long-term investment
Solar systems are designed to last a long time. In fact, most solar panels come with a 25 year warranty. In other words, the solar-panel maker guarantees that, 25 years later, your solar panels will make at least 80% as much energy as they made when they were brand new. And that's just the warranty — most quality solar panels can be expected to rock on for well over 30 years.
The solar panel payback period puts the focus on the early years, when the solar panels are recouping your investment — while ignoring the decades of pure financial savings afterwards.
Twelve years (for example) seems like a really long time to make your money back. But in the context of long-term investments, that solar system could be your best option (we'll explain this below).
The payback period could be immediately with a loan
Are you considering a loan for your solar system? As we discussed in a recent article, your loan payment plus your new much-smaller electricity bill could be lower than your no-solar electricity bill from day 1. Whether this is possible mostly depends on how high your utility's electricity rates are.
If a long-term (e.g. 20 year) solar loan will cover the entire system cost and your new net energy cost is lower from day 1, there is no "payback period" because there isn't an up-front investment to pay back. Instead, you could consider the all-in "cash flow" of your solar system — how much money are you likely to save over the loan term and beyond?
Paying cash? What's the best financial question to ask?
If you're like most of us, you have at least one credit card. Along with the borrowing limit, you probably considered the credit card's "annual percentage rate" or APR (a fancy term for "interest rate"). For context, the national average credit-card interest rate is 14.9%.
Let's pretend you're the credit card company and your solar system is the borrower. And — bear with us — the solar system has offered to pay a specific interest rate over the 25-year financial term.
That interest rate is the "return" on your solar-system investment (fancy term: "internal rate of return" or IRR).
We love the rate of return because it squeezes the entire 25-year financial performance of your solar system into a single percentage. This includes the upfront system cost, the federal tax credit, local and state incentives (where available), the electricity bill savings, and any system maintenance costs. And adding to the magic, the percentage accounts for when these earnings and expenses happen — earlier activity impacts the percentage more than later activity (the logic: we'd rather have $100 now than in 20 years, because we can invest that $100 now — turning it into $250 or more in 20 years).
Most solar installers will be able to estimate your solar system's interest rate (make sure they provide an "internal rate of return" — not a "return on investment" or ROI...the latter lacks the magic). You can connect quickly with well-reviewed local solar installers here.
What's your minimum acceptable earned interest rate?
Credit card companies are able to charge high interest rates; recall the 14.9% average. For the rest of us, the stock market is the standard investment option — and the vast majority of stockmarket investors earn less than the credit card companies.
The average return over 50 years on a popular stock 'index' of 500 major corporations (the S&P 500) is 9.7%.
On the other hand, the return currently offered by the U.S. government for a low-risk 30-year treasury bond is 3.4%.
We'd put the risk of the solar investment somewhere between the low treasury bond risk and the higher stock market risk. I'd personally move forward with a solar system if the projected rate of return is at least 7%. This decision is dependent on the utility guaranteeing my solar system's long-term value through net metering "grandfathering" — you can learn more about net metering here).
We hope this article will help you take a broader financial perspective when considering solar. The solar panel payback period is still worth considering, but there are other sharper arrows in your quiver. For millions of American homes, a solar system is an outstanding investment opportunity ... at least for those who have the knowledge to recognize that.
Use the Cut My Bill calculator to learn how much you’d likely save with solar. If it looks good, ask a solar installer to provide a rate-of-return estimate.