Solar Retrofits: Solving the Split-Incentive Problem

Commercial property owners face a persistent challenge when considering solar installations: the split-incentive problem. A landlord invests $200,000 in rooftop solar, but tenants on net leases capture the electricity savings. Alternatively, tenants want solar for sustainability goals and cost reduction but can’t modify a building they don’t own.

The economics of commercial solar are compelling. Systems can typically deliver 15-25% returns over their lifespan with 5–8-year paybacks. Yet these figures mean nothing when the party paying installation costs doesn’t receive the benefits. Companies like Solar Panels Leeds see this challenge across markets: excellent projects stall because landlords and tenants can’t agree on how to split costs and savings. However, successful deal structures exist that align both parties’ interests.

Understanding the Split-Incentive Barrier

In triple net leases, tenants pay utilities directly. A landlord installing solar reduces tenant electricity costs but sees no return beyond property value appreciation. In gross leases where landlords cover utilities, tenants have no incentive to support efficiency investments that don’t reduce their rent.

This blocks mutually beneficial projects. Landlords won’t invest in improvements that only benefit tenants. Tenants won’t pay for upgrades to buildings they’ll eventually leave.

Green Lease Structures

Green leases provide contractual frameworks that distribute solar benefits between parties. The simplest approach involves cost-sharing proportional to expected savings. If a solar installation reduces annual electricity costs by $15,000, the landlord might fund 60% of installation costs and receive 60% of the ongoing savings, with the tenant contributing 40% for 40% of the benefit.

More sophisticated clauses include energy performance requirements and improvement obligations. These establish baseline consumption targets and define who pays for, and benefits from, exceeding those targets.

Clear documentation matters. Green leases should specify how savings get measured, how they’re distributed, what happens when tenants change, and how maintenance costs are allocated.

Rent Adjustment Models

Some landlords install solar at their own expense, then reduce base rent to share savings with tenants. This approach works particularly well in competitive rental markets where lower operating costs provide a letting advantage.

The mathematics are straightforward. A solar system reducing monthly electricity costs by $1,500 might justify a $750 monthly rent reduction. The landlord improves cash flow by $750 monthly while offering below-market rates. The tenant secures lower total occupancy costs and demonstrates a commitment to sustainability for its stakeholders.

Rent adjustments can also operate in reverse. Tenants wanting solar but unable to install it themselves might agree to above-market rent that covers the landlord’s capital costs plus a reasonable return. The tenant still achieves lower total energy costs than without solar, while the landlord receives guaranteed returns regardless of actual system performance.

Property Value and Tenant Retention

Even when landlords don’t directly capture energy savings, solar installations increase asset value. Buildings with solar can command 3-8% premiums in commercial property transactions, reflecting both reduced operating costs and growing investor demand for sustainable buildings.

Tenant retention provides equally tangible value. Corporate sustainability commitments drive demand for green office space. Companies with emissions targets actively seek buildings with renewable energy. Solar-equipped properties experience lower vacancy rates and reduced turnover costs.

For landlords with longer hold periods, the mathematics work. Spending $200,000 on solar that increases property value by $300,000 (a 3% premium on a $10 million asset) delivers positive returns independent of energy savings.

Financial Models Both Parties Understand

Successful negotiations rely on transparent projections that both parties can verify. Simple spreadsheet models should show:

Year-by-year system output based on local solar data and realistic degradation (typically 0.5% annually).

Electricity cost savings using current rates and reasonable escalation assumptions (2-4% annually for most regions).

Maintenance costs, typically 1-2% of system cost annually, including inverter replacements around year 12-15.

Capital cost allocation showing who pays what upfront and how this connects to benefit distribution.

Cash flow scenarios for both parties, demonstrating positive economics for each stakeholder.

Third-party verification helps. Having experienced installers provide performance estimates adds credibility. Independent consultants can validate savings calculations based on similar completed projects.

Making It Work

The split-incentive problem has solutions, but they require upfront clarity and honest negotiation about value distribution. Landlords need to recognise that tenant-captured savings still create property value through lower vacancy risk and higher sale prices. Tenants must accept that landlords deserve returns on their capital.

Commercial properties capturing solar opportunities are those where both parties recognise mutual benefits rather than competing for maximum individual advantage. With solar costs declining and corporate sustainability pressures intensifying, the question isn’t whether commercial properties will add solar, it’s whether stakeholders can structure agreements quickly enough to maximise returns.

The tools exist. Green leases, rent adjustments, and transparent financial models provide proven frameworks. What’s required is willingness from both parties to implement arrangements that work for everyone involved.