* Italy plans to extend timeframe for solar subsidies
* Effective cut to help slice 10 pct off power bills
* Industry warns will deter investors, spark litigation
By Stephen Jewkes and Massimo Gaia
MILAN, June 23 (Reuters) - Italy's plans to cut subsidies for solar power producers risk alienating investors and triggering costly legal battles, undermining Prime Minister Matteo Renzi's drive to attract foreign capital to bolster a fledgling economic recovery.
Renzi's centre-left government has pledged to cut power bills by 10 percent to help struggling households and small firms, and has tabled a set of measures that include spreading incentives for solar power producers over a longer timeframe.
Draft legislation seen by Reuters - which is set to be signed into law soon but which could still be subject to change - says larger solar power operators will have to extend the term of their subsidised tariffs from 20 to 24 years, effectively thinning them out, or accept a straight 8 percent cut.
The government says the solar industry has already profited from one of Europe's most generous incentive schemes, paid for by consumers through their bills, and should now do its part in bringing end-user prices down.
But solar firms and investors say the move changes the rules on which they based their decisions and so could scare off long-term foreign capital and trigger costly legal action, while generating only minimal savings.
"You can't penalize operators halfway through their investments; they won't come back," said Pietro Colucci, CEO of Italian-based renewable energy company Kinexia.
Renzi, nicknamed Mr Demolition Man, has committed to clean up and streamline Italy's ways of doing business and has introduced a raft of laws to try to make the country more competitive. But critics say the government is too rushed and has not thought things through.
The new rules will apply to solar plants of over 200 kilowatts, affecting around 8,600 operators that receive about 60 percent of subsidies.
In a newspaper editorial on Friday, Michael Bonte-Friedheim, the CEO of Nextenergy Capital Group, a merchant bank to the renewable energy sector, said Renzi probably believed his proposal was easier than tackling inefficiencies in the Italian energy sector and cutting high taxes on energy users.
"Maybe he's right, but good luck in attracting foreign investors in the future. Don't come knocking on my door," he said.
Italy's solar power market - which has drawn private equity firms such as Terra Firma and First Reserve as well as bank-owned investment firms and pension funds - took off at the end of 2010 when new rules sent production subsidies skyrocketing: from 750 million euros in 2010 to 3.8 billion euros in 2011 and 6.7 billion euros in 2013.
In the last five years, investors have poured more than 50 billion euros into Italian renewable energy, building around 17 gigawatts of solar capacity.
In an attempt to curb costs and stop power bills rising, Rome capped incentives, but they will still cost Italians more than 200 billion euros over the next 20 years.
"That's a lot of money for consumers to pay. Retroactive cuts have happened in Spain, Greece and Bulgaria. The operators can't not have seen this coming," said a manager at a top energy trading association.
In its present form, Renzi's plans to extend the subsidy timeframe could force many investors to renegotiate project finance debt with banks and rental contracts with landowners.
"Renzi is destroying a whole industry and causing problems for the banks which will find themselves with more non-performing loans to write off or else take over plant," said the Italian head of a bank-backed European infrastructure fund.
A bigger potential headache for the government is litigation. Retroactive regulatory change by Rome could contravene Italian law and the EU's Energy Charter Treaty, some lawyers and people in the solar industry believe.
Last year, Spain attempted a similar move with renewable tariffs, triggering a wave of multi-billion euro compensation claims by investors.
"Some operators will probably sue in the courts while others could go to international arbitration courts," said Rosella Antonucci, a partner at law firm Legance.
A source at Italy's renewable energy association AssoRinnovabili told Reuters many foreign investors were already on a war footing and that some had even sounded out their embassies to bring pressure on Rome.
But for the government, the 350-400 million euros in savings the measure is estimated to raise are a key part of its plans.
"If it doesn't intervene on solar subsidies, electricity bills can't realistically be cut by 10 percent," said Donatella Bobbio, analyst at thinktank Ref-E.
Yet she warned the current measures could undermine credibility. "The perception of country risk by foreign investors is rising," she said.
($1 = 0.7366 Euros) (Editing by Mark Potter)