Senate Passes the Inflation Reduction Act

Yesterday, the Senate passed the Inflation Reduction Act of 2022 (IRA) (H.R. 5376) on a party-line vote with Vice President Kamala Harris breaking the 50-50 tie on President Biden and Congressional Democrats signature domestic policy legislation focused on energy, climate, health care, and tax provisions. The House of Representatives is expected to take up and pass the IRA without changes on Friday where it will then head to President Biden for his signature.

The IRA was unveiled on July 27 after Senate Majority Leader Chuck Schumer (D-NY) and Senator Joe Manchin (D-WV) announced they had reached an agreement on a budget reconciliation package. See our prior summary of the IRA here.

After a week of negotiating, Senator Kyrsten Sinema's (D-AZ) announced her support for the IRA after a round of changes to the bill were made. At Senator Sinema’s request, the IRA was modified to remove a provision that would have extended the holding period for long-term capital gains tax treatment on carried interest income, to add a new 1% stock buyback excise tax, and to modify the treatment of accelerated depreciation under the new corporate minimum tax.

As part of the budget reconciliation process, Senators were able to offer unlimited amendments to the legislation. Democrats voted to reject most of the amendments, but an amendment to exempt subsidiaries owned by private equity firms or other investment funds from the corporate minimum tax was accepted. To pay for this change, the Senate added a two-year extension on the caps on pass-through losses that can offset non-business income. Despite support from a number of Democrats, the IRA does not provide relief regarding the state and local tax deduction.

The Senate's passage of the IRA ends a year and a half of negotiations that started with the Build Back Better Act, initially proposed as a $3.5 trillion spending package at the start of the Biden Administration. In November 2021, the House of Representatives passed a $2 trillion package, but the bill stalled in the Senate without support from 50 Senators due to objections from Senators Manchin and Sinema. In December 2021, Senator Manchin stated he would be unable to vote for the Build Back Better Act. The IRA is a further scaled back version of the House-passed Build Back Better Act, but draws on a number its provisions.

A summary of the IRA's tax provisions is included below.

• 15% Corporate Book Minimum Tax
• 1% Excise Tax on Stock Repurchases
• Energy Tax Incentives
  • Two-Tiered Incentives and Prevailing Wage and Apprenticeship Requirements
  • Domestic Content and Energy Community Bonuses
  • Narrow Direct Pay Provision
  • Broad Transferability Provision
  • Extension and Modification of Production Tax Credits
  • Extension and Modification of Investment Tax Credits
  • Transition to Technology Neutral Production and Investment Tax Credits
  • Extension and Expansion of Carbon Sequestration Credits
  • New Zero-Emission Nuclear Power Production Credit
  • New Advanced Energy Project Credit Allocation and Advanced Manufacturing Production Credit
  • New Critical Minerals and Battery Component Sourcing Requirements for the Clean Vehicle Tax Credit
  • New Tax Credit for Commercial Clean Vehicles
  • New Tax Credit for Previously-Owned Electric Vehicles

15% Corporate Book Minimum Tax

The IRA imposes a new 15% alternative minimum tax (AMT) based on financial statement income. Specifically, the IRA imposes on "applicable corporations" an AMT equal to the amount by which the "tentative minimum tax" exceeds the corporation’s regular tax plus the base erosion and anti-abuse tax. Tentative minimum tax is equal to 15% of the "adjusted financial statement income" (AFSI) over the AMT foreign tax credit (which can be carried forward five years). The 15% AMT would apply to taxable years beginning after December 31, 2022.

Applicable corporations. An applicable corporation is a C corporation with $1 billion or more in average annual AFSI in the previous three years. For this purpose, the applicable corporation must include the AFSI of all persons treated as a single employer under section 52(a) or (b), as modified. Specifically, AFSI of component members of a controlled group under section 52(a) or trades or businesses under common control under section 52(b) are treated as that of the applicable corporation.

In the case of a US corporation with a foreign parent, the foreign affiliates' income counts towards the $1 billion threshold, but the applicable corporation must also have $100 million or more of average annual adjusted financial statement earnings in the previous three years. If the foreign corporation is engaged in a US trade or business, such trade or business is treated as a separate domestic corporation wholly owned by the foreign corporation, so its income will count towards the $100 million threshold.

An applicable corporation does not include an S corporation, regulated investment company (RIC) or a real estate investment trust (REIT).

Once a corporation qualifies as an applicable corporation, it is always treated as an applicable corporation, unless the corporation has a change in ownership or fails to meet the income threshold for a minimum number of consecutive taxable years, and the Secretary determines that it would not be appropriate to continue to treat the corporation as an applicable corporation. However, if the corporation meets the test again after the Secretary’s determination, it would become an applicable corporation again.

Adjusted Financial Statement Income (AFSI). AFSI is the net income or loss on the corporation's applicable financial statement (as defined in section 451(b)(3)) for the tax year, adjusted for certain items:

• Adjustments are made for differences between the financial statement period and taxable year.
• If the applicable corporation is part of a group that files a consolidated tax return, adjustments must be made so that the consolidated income is comparable for financial statement and tax purposes. The rules for consolidation are different for book and tax purposes. For book purposes, consolidation is based on 50% ownership, whereas for tax purposes, consolidation is based on 80% ownership. For members that are included in both financial statement and tax consolidated groups, the applicable corporation's AFSI includes items allocable to members of the group. However, if a subsidiary of the applicable corporation is not included on the consolidated return, the applicable corporation would exclude the AFSI of the non-member but would add dividends received from the subsidiary (as adjusted by the Secretary, presumably to achieve the equivalent of the dividends-received deduction) and other amounts required to be included in income (such as intercompany interest and royalties, but not Subpart F and GILTI income).
• If the applicable corporation is a US shareholder of a controlled foreign corporation (CFC), the applicable corporation would include its pro rata share of net income or loss of each CFC. If the net amount is a loss, the loss is carried forward to each succeeding taxable year.
• If the applicable corporation is a partner in a partnership, AFSI is adjusted to include only the applicable corporation’s distributive share of AFSI of the partnership.
• If the applicable corporation owns a disregarded entity, AFSI is adjusted to include any AFSI of the disregarded entity.
• If the applicable corporation is a cooperative, AFSI is adjusted to exclude patronage dividends.
• If the applicable corporation is a tax-exempt entity, AFSI is adjusted to include only unrelated trade or business income and income derived from debt-financed property.
• With respect to foreign corporations, principles of section 882, which taxes income effectively connected with a US trade or business on a net basis, apply in determining AFSI.
• The following items are disregarded in calculating AFSI:
  • Federal income taxes and foreign income taxes (to the extent a foreign tax credit is claimed);
  • Credits subject to a direct pay election under section 48(d) or 6417, which are discussed below.
• Certain adjustments are made to AFSI to account for book-tax differences:
  • With respect defined benefit plans, amounts included in income or expense for financial statement purposes are disregarded in calculating AFSI, and AFSI is increased or decreased by amounts includible or deductible, respectively, for tax purposes.
  • With respect to property subject to accelerated depreciation, AFSI is reduced by depreciation deductions under section 167 to the extent they exceed the amount taken for book purposes. This was added after the first draft of the IRA was released to obtain Senator Sinema’s support. This provision makes it less likely that the 15% AMT will apply to large manufacturers.
  • With respect to wireless spectrum acquired by telecommunications companies after December 31, 2007 and before the date of enactment, AFSI is reduced by amortization deductions under section 197 to the extent they exceed the amount taken for book purposes. This provision was also added after the first draft of the IRA.
• Certain losses and credits are allowed for AFSI purposes.
  • Net operating losses (NOLs) are allowed in the same manner as with the regular tax, with loss carryovers limited to 80% of taxable income. Since NOL carryovers do not exist for book purposes, the bill creates a carryover for book NOLs arising after taxable years ending after December 31, 2019. Thus, existing tax NOL carryovers will not reduce AFSI.
  • General business tax credits (such as the R&D credit) are allowed to offset up to 75% of the combined regular and minimum tax.
  • Foreign tax credits are allowed based on the allowance for foreign taxes paid in the applicable corporation’s financial statement.
  • A credit in an amount equal to the AMT paid by the applicable corporation may be carried over to future years to offset regular tax when that tax is higher.

Even though a number of adjustments are made to AFSI to bring the base closer to the income tax base, there are still a number of differences, both temporary and permanent. For example, temporary differences include equity-based compensation, bad debt reserves, warranty expenses, impairment of goodwill, and deferred revenues. Permanent differences include tax-exempt municipal bond interest income, disallowance of deductions for excessive executive compensation, and tax deductions on exercise of employee stock options in excess of the initial fair market value of the option. As a result of the AMT credit carryover, the 15% AMT effectively creates a timing difference, accelerating additional taxes that can offset tax liability in future years. However, where there are permanent differences, the 15% AMT can create a permanent tax increase.

Impact of 15% AMT. The 15% AMT is expected to apply to only about 150 companies each year. However, the $1 billion threshold is not indexed for inflation, so over time, it will likely apply to more companies.

Book and tax income serve different purposes. Financial accounting is intended to reflect performance of a company for purposes of conveying information to investors. Tax accounting is intended to provide revenue to the government, but it also reflects various Congressionally adopted incentives and disincentives for certain behavior. The IRA creates yet a third income computation, starting with book income and making various adjustments to retain certain tax benefits. This creates additional complexity because companies will be required to maintain three sets of books. Consolidated groups face particular complexity because they will have to adjust their books to account for different thresholds of consolidation for book and tax purposes. In addition, the AMT provides the Financial Accounting Standards Board (FASB), an independent un-elected body, with authority over the tax base, opening the FASB up to lobbying by taxpayers and Congress.

This isn’t the first time Congress enacted an AMT based on book income. In 1986, Congress enacted a corporate AMT that replaced a previous add-on corporate minimum tax. For taxable years 1987-1989, the AMT included a book income addition that was known as the business untaxed reported profits (or BURP). The BURP was scheduled to be replaced after 1989 with an AMT that was not based on book income. Although the BURP was short-lived, some studies have suggested that taxpayers attempted to manipulate book income to minimize AMT.

The 15% AMT could also have an impact on M&A activity. For example, a net tax savings may result if AMT and non-AMT taxpayers are combined, which may create incentives for an AMT buyer to acquire a non-AMT target or a non-AMT buyer to acquire an AMT target. In addition, an AMT corporation with AMT credit carryovers may be able to use them against the regular tax of a target corporation if section 383 can be avoided. On the other hand, acquisitions may be deterred if they result in a corporation becoming an applicable corporation.

Spin-offs may also alter the AMT position of a corporate group. It may be desirable to separate companies that would not be subject to the AMT on a separate company basis. However, if the separated company was the applicable corporation, it would need the permission of the Secretary to escape the AMT.

The 15% AMT goes into effect for tax years beginning after December 31, 2022, which doesn’t leave much time for the Department of Treasury (Treasury) and the Internal Revenue Service (IRS) to issue guidance implementing this provision. 

1% Excise Tax on Stock Repurchases

The Senate-passed IRA includes the 1% excise tax on the repurchase of corporate stock that was contained in the House-passed Build Back Better Act. Specifically, the IRA imposes a tax equal to 1% of the fair market value of any stock of a "covered corporation" that is "repurchased" by the corporation during the taxable year. The tax is not deductible.

Covered Corporations. A covered corporation is any domestic corporation whose stock is traded on an established securities market. In addition, the excise tax applies to purchases of stock of a covered corporation made by a "specified affiliate" of the covered corporation. A specified affiliate is a corporation that is more than 50% owned (by vote or value), directly or indirectly, by the covered corporation, or a partnership in which the covered corporation holds, directly or indirectly, more than 50% of the capital or profits interests. Thus, for example, if publicly traded corporation P, owns more than 50% of the stock of subsidiary S, and S repurchases P stock from a P shareholder, the excise tax would apply.

Two special rules apply to foreign corporations. First, the excise tax applies to a specified affiliate's purchase of stock of its foreign parent, if the foreign parent’s stock is traded on an established securities market. Second, the excise tax applies to repurchases of stock by (or by specified affiliates of) "covered surrogate foreign corporations," or expatriated entities.

Although the excise tax is imposed on publicly traded corporations (or specified affiliates), the excise tax is not limited to repurchases of publicly traded stock. Thus, for example, if a corporation whose common stock is publicly traded repurchases shares of its preferred stock that is not publicly traded, the excise tax would apply. However, the Secretary is granted authority to issue guidance to address special classes of stock and preferred stock.

Repurchase. The term "repurchase" is defined as a redemption within the meaning of section 317(b). Such a redemption encompasses a corporation's acquisition of its stock from a shareholder in exchange for money or other property (other than stock of the redeeming corporation). The term also includes any transaction determined by the Secretary to be economically similar to a section 317(b) redemption.

The excise tax is imposed on net repurchases. In other words, the fair market value of the stock repurchased is reduced by the fair market value of any stock issued by the covered corporation during the tax year, including any stock issued to employees (whether or not in response to the exercise of a stock option). However, in the case of a specified affiliate’s repurchase of stock of its foreign parent, the offset is limited to the stock issued to employees of the domestic specified affiliate. Similarly, in the case of a covered surrogate foreign corporation, the offset is limited to stock issued by the expatriated entity to its employees. As a result, covered corporations will need to plan ahead to coordinate stock repurchases and stock issuances to fall within the same taxable year.

Exceptions. Certain repurchases are excepted from the excise tax:

• To the extent that the repurchase is part of a tax-free reorganization under section 368(a), and no gain or loss is recognized;
• If the repurchased stock (or an amount of stock equal to the value of the repurchased stock) is contributed to an employer-sponsored retirement, stock ownership, or similar plan;
• If the total value of stock repurchased during the taxable year is less than $1 million;
• If the repurchase is by a dealer in securities in the ordinary course of business (under regulations prescribed by the Secretary);
• If the repurchase is by a RIC or a REIT; and
• To the extent that the repurchase is taxed as a dividend.

The implications of the excise tax on normal M&A transactions could be significant. The first exception makes it clear that the excise tax applies to certain reorganizations with boot, but it is not clear exactly how the exception should be interpreted. We believe the most appropriate interpretation is that the exception is unavailable only to the extent of the value of boot. However, it could be interpreted to mean that the exception is unavailable if there is any boot paid in the reorganization. Alternatively, it could be interpreted to mean that the exception is unavailable only to the extent of the amount of gain or loss recognized, which would not be administrable by corporations, who are not in a position to determine the amount of gain or loss recognized by the public shareholders. Cash in lieu of fractional shares or the exercise of dissenters' rights could also potentially trigger the excise tax.

Other acquisitions could trigger the excise tax. For example, the first exception does not appear to apply in the context of tax-free split-offs without a preparatory D reorganization, or to reorganizations structured as section 351 transactions unless they also qualified as a reorganization under section 368(a). In addition, acquisitions of public target companies where part of the purchase price is sourced out of the target’s cash, or out of debt assumed by the target would also appear to trigger the excise tax.

Energy Tax Incentives

Two-Tiered Incentives and Prevailing Wage and Apprenticeship Requirements

The IRA would restructure various new and existing renewable energy and energy efficiency

incentives as two-tiered incentives, providing either a "base rate" or a "bonus rate." The bonus rate is equal to five times the "base rate" and generally is applied to projects that meet certain prevailing wage and apprenticeship requirements.

The prevailing wage requirements generally require that, in order to claim the bonus rate with respect to a project, the taxpayer must ensure that any laborers and mechanics employed by contractors and subcontractors are paid prevailing wages during the construction of such project and, in some cases, for the alteration and repair of such project for a defined period after the project is placed into service. The apprenticeship requirements generally require that, in order to claim the bonus rate with respect to a project, the taxpayer must ensure that no fewer than the applicable percentage of total labor hours of the project are performed by qualified apprentices. The applicable percentage for purposes of this requirement is 10% for projects beginning construction in 2022, 12.5% in 2023, and 15% thereafter. The IRA provides for the ability to cure certain discrepancies, and penalties that apply to taxpayers that claim the bonus rate but subsequently fail to satisfy the prevailing wage and apprenticeship requirements.

Responding to industry requests for relief, the IRA generally makes the bonus rate available for certain small projects and for projects beginning construction prior to the date that is 60 days after Treasury and the IRS publish guidance implementing the prevailing wage and apprenticeship requirements, even if such projects do not satisfy the prevailing wage and apprenticeship requirements.

Early industry engagement with the regulatory process for implementing these rules will be critical, as these transitional rules will give Treasury and the IRS a strong incentive to provide guidance quickly.

Domestic Content and Energy Community Bonuses

The IRA provides additional 10% bonus production tax credits under section 45 and investment tax credits under section 48 for taxpayers that meet certain domestic content requirements or when qualifying facilities or energy property are placed in service in an "energy community." The domestic content and energy community bonus credits can apply to facilities or property placed in service after December 31, 2022. Taxpayers can receive both bonus credits if they qualify for both.

Domestic content requirements generally require that, the taxpayer must ensure that steel, iron, or manufactured products that are part of a credit-generating project at the time of completion were produced in the United States (as determined under the Federal Transit Administration's "Buy America" requirements). Manufactured products will be deemed to have been manufactured in the United States if a certain percentage of the total cost of the components and subcomponents across the project are attributable to components which are mined, produced, or manufactured in the United States.

An "energy community" generally means: (i) a brownfield site (as defined under CERCLA); (ii) an area that has (or, at any time during the period beginning after December 31, 1999, had) significant employment related to the extraction, processing, transport, or storage of coal, oil, or natural gas (as determined by the Secretary); or (iii) a census tract in which a coal mine closed after December 31, 1999, or a coal-fired electric generating unit was retired after December 31, 2009 (or a tract that is directly adjoining to any such census tract).

These bonus credits are the same as those contained in the Build Back Better Act. These bonus credits involve several concepts that are new the Internal Revenue Code and the renewable energy incentives provided by the Code. It remains to be seen whether the amount of the bonus credit will provide sufficient incentives to overcome the potential burdens of complying with these new requirements.

Narrow Direct Pay Provision

The IRA includes, beginning in 2023, a so-called "direct pay" provision for certain renewable energy tax credits, but this provision is much narrower than the corresponding provision in the Build Back Better Act. As with the Build Back Better Act, the provision would effectively allow certain taxpayers to treat certain tax credits—including credits for solar, wind, carbon capture, clean hydrogen and others—as automatically refundable overpayments of tax. However, this election is not broadly available to all taxpayers and generally only applies to certain tax-exempt organizations, state or local government entities, the Tennessee Valley Authority, an Indian tribal government, or an Alaska Native Corporation. The election applies to all taxpayers for section 45Q carbon capture credits and to the new credits for clean hydrogen and clean energy manufacturing, but generally only for the first five years of the credit period, after which the credits again become nonrefundable for those taxpayers.

While this provision may help certain tax-exempt entities benefit from renewable energy incentives that were unable to claim them in the past, the narrow range of eligible taxpayers, and apparent limitations on the ability of tax-exempt entities using this election to partner with for-profit entities, appear to drastically limit the impact of this provision, relative to the direct-pay provision included in the Build Back Better Act.

Broad Transferability Provision

In contrast to the narrow direct pay provision described above, the IRA includes a transferability provision with the potential for very broad reach. In general, the IRA would allow credits otherwise allowable to taxpayers that are not eligible for the "direct-pay" election described above to elect to transfer all or a portion of their credits for any taxable year to unrelated taxpayer. Any payment made by the transferee taxpayer would not be deductible to the transferee nor includable in income of the transferor.

Many details regarding the implementation of this transfer provision remain to be worked out, and the transfer would not extend to the depreciation deductions that are often allocated along with tax credits in the tax-equity partnership transactions that play a key role in the current renewable energy tax credit landscape. Nevertheless, this provision has the potential to dramatically increase the effectiveness of a wide variety of renewable energy tax incentives while reducing both transaction costs and the amount of tax risk and uncertainty that currently exists. In order for this potential to be realized, it will be critical for Treasury and the IRS to implement this election in a manner that is sensitive to the realities of on-the-ground transactions. The more that taxpayers and other industry participants can provide thoughtful input in the guidance process, the better the results will be.

Extension and Modification of Production Tax Credits

The IRA would provide a three-year extension of modified production tax credits (PTC) under section 45 for the production of electricity from certain renewable energy technologies for facilities that begin construction before January 1, 2025 (one year less than the extension under the Build Back Better Act). In particular, the extension applies to the following technologies:

_{*All of these credit amounts are adjusted for inflation so that, for example, projects with a 1.5 cent/kWh credit amount should generate 2.6 cents/kWh of credits in 2022.}

_{** The bonus credit amount includes the bonus for satisfying the wage and apprenticeship requirements.}

The modifications to the PTC also include the bonus amounts for domestic content and energy communities described above. Specifically, facilities that meet the domestic content requirements described above would receive a 10% bonus credit. Facilities placed in service in an energy community, as described above, would also receive a 10% bonus credit. In addition, the IRA would make taxpayer-favorable changes that narrow the scope of existing rules that reduce the credit available based on the use of certain grants, tax-exempt bonds, and other subsidized energy financing.

Extension and Modification of Investment Tax Credits

The IRA would provide a one-year extension of modified investment tax credits (ITC) under section 48 for the production of electricity from certain renewable energy technologies for facilities that begin construction before January 1, 2025 (one year less than the extension under the Build Back Better Act). Property placed in service after December 31, 2021 will receive a 2% or 6% base credit rate and a 10% or 30% bonus credit rate, depending on the technology (with the new bonus credit rates generally equaling the credit rates under current law). An eleven-year extension, through the end of 2034 is provided for qualifying geothermal heat pumps, which property would also now qualify for the higher 6%/30% credit rates.

Eligible technologies would be expanded to include energy storage technology, qualified biogas property (not related to electricity generation), microgrid controllers, linear generators, dynamic glass, and the costs of certain interconnection and transmission equipment that is necessary for other eligible electricity-generating energy property and that has a maximum net output no greater than 5 megawatts.

The addition of energy storage technology is a big win for the industry, which has long been hampered by existing rules that limit the ability of standalone energy storage property to qualify for investment tax credits. While the IRA allows an investment tax credit for some qualifying interconnection and transmission equipment, as described above, this provision has a much narrower scope than the standalone energy transmission investment tax credit that had been included in the Build Back Better Act.

Property meeting the domestic content requirements described above are eligible for an increased base rate of two percentage points and an increased bonus rate of 10 percentage points. Property placed in service in an energy community, as described above, would also receive a similar increase. Finally, the IRA would modify existing rules for subsidized energy financing to place investment tax credits on a similar footing as production tax credits (after the amendments described above are made to section 45).

Transition to Technology Neutral Production and Investment Tax Credits

Starting in 2025, the IRA would transition the existing section 45 production tax credits and section 48 investment tax credits into two new "technology-neutral" production and investment tax credits under sections 45Y and 48D.

Unlike the current ITC and PTC structure which define the specific qualifying technology for each credit, eligibility for both the section 45Y and section 48D credits would be tied to emissions. Any project used for the generation of electricity that has a greenhouse gas emission rate not greater than zero would qualify for the section 45Y PTC or section 48D ITC. This will allow new technology to immediately qualify for the ITC and PTC as long as such technology meets the greenhouse gas emissions rates rather than having to wait for Congress to act to provide a new credit. Under this new technology-neutral scheme, taxpayers would have the flexibility to choose between either the PTC or ITC. In addition, energy storage technology would also qualify for the section 48D ITC.

Unlike the current PTC and ITC that have been subject to numerous temporary expirations and extensions, the IRA would link the length of these technology-neutral credits with emissions reductions. The IRA would start to phase out the credits in the later of 2032 or the year in which the Secretary determines annual greenhouse gas emissions from the production of electricity in the United States are equal or less than 25% of 2022 levels.

Similar to the modifications provided to the existing PTC by the IRA, the base amount of the section 45Y PTC is 0.3 cents per kilowatt hour credit with a bonus a 1.5 cents per kilowatt hour credit and subject to inflation adjustments. For the section 48D ITC, the base amount is 6% with the option to claim a bonus 30% credit. To claim the bonus credit under either section 45Y PTC or 48D ITC, the projects must meet prevailing wage and apprenticeship requirements.

The technology-neutral credits were included in the Build Back Better Act with previous versions introduced by Senate Finance Committee Chairman Ron Wyden as far back as 2015.

Extension and Expansion of Carbon Sequestration Credits

The IRA would provide an eight-year extension for the credit for carbon oxide sequestration facilities under section 45Q for facilities beginning construction before the end of 2032 (one year longer than the extension under the Build Back Better Act).

The IRA would reduce the base credit but significantly increase the bonus credit amounts under section 45Q for facilities or carbon capture equipment placed in service after December 31, 2022. The IRA provides a base credit rate of $17 or a bonus credit rate of $85 per metric ton of carbon oxide captured for geological storage and a base credit rate of $12 or a bonus credit rate of $60 per metric ton of carbon oxide captured and utilized for an allowable use by the taxpayer. The IRA further provides an enhanced credit for direct air capture facilities at a base rate of $36 or a bonus rate of $180 per metric ton of carbon oxide captured for geological storage and a base rate of $26 or a bonus rate of $130 per metric ton of carbon captured and utilized for an allowable use by the taxpayer.

Taxpayers may be able to claim the higher credit amounts with retrofitted equipment that satisfies the so called "80/20 Rule."

In a major win for the carbon capture industry, the IRA would reduce the size thresholds for qualifying facilities. Under the IRA, to qualify for the credit, direct air capture facilities must capture no less than 1,000 metric tons of carbon oxide per year. Electricity generating facilities must capture no less than 18,750 metric tons of carbon oxide and must have a capture design capacity of not less than 75% of the baseline carbon oxide production of such unit. Policymakers adopted this "design capacity" construct based on feedback from the industry that a more restrictive threshold that had been included in the Build Back Better Act would not be workable. All other facilities must capture no less than 12,500 metric tons of carbon oxide.

The IRA would enact rules similar to those described above for the PTC and ITC for reducing section 45Q credits for projects financed by tax-exempt bonds. Also, as mentioned above, direct pay is available for this credit for all taxpayers but only for the first five years of the credit period.

In the case of facilities placed into service on or after the enactment of the Bipartisan Budget Act

of 2018 (after taking into account an applicable facility election under section 45Q(f)(6)), the IRA permits the taxpayer to elect to have the 12-year credit period begin on the first day in which a credit under section 45Q after date of enactment of the Bipartisan Budget Act of 2018, but only if: (i) no taxpayer claimed a credit under section 45Q with respect to such carbon capture equipment for any prior taxable year; (ii) the qualified facility at which such carbon capture equipment is placed in service is located in an area affected by a federally declared disaster; and (iii) such federally declared disaster resulted in a cessation of the operations of the qualified facility after the carbon capture equipment was originally placed in service. Given the widespread nature of the federally declared disaster relating to the COVID-19 pandemic, it will be interesting to see how broadly Treasury implements this relief provision.

New Zero-Emission Nuclear Power Production Credit

The IRA would establish a new zero-emission nuclear power production tax credit under section 45U for existing nuclear power plants. The legislation would provide a base credit of 0.3 cent per kilowatt hour credit with a bonus credit rate of 1.5 cent per kilowatt hour if the facility meets prevailing wage requirements. Further, the credit will be adjusted for inflation. The legislation also includes a provision that reduces the credit if sales exceed a certain threshold. Specifically, the credit is reduced by 80% of the excess of gross receipts from electricity sold over 2.5 cents multiplied by the number of kilowatt hours of electricity sold.

The IRA draws from similar provisions in the Build Back Better Act. The IRA slightly modifies the definition of a qualifying nuclear power plant to further clarify that advanced nuclear power facilities under section 45J are excluded from the credit and only legacy nuclear power plants are eligible for the credit.

To qualify, the IRA requires the electricity to be produced by a facility that is in service before the IRA is enacted with the credit starting in 2024 and terminating at the end of 2032. This effective date is an extension from what was included in the Build Back Better Act, but also a later start date, as the Build Back Better Act would have terminated the credit at the end of 2027, but would have been effective starting in 2022. The delayed start date will potentially limit immediate relief to struggling legacy nuclear power plants.

New Advanced Energy Project Credit Allocation and Advanced Manufacturing Production Credit

The IRA would provide an additional allocation of $10 billion for the section 48C advanced energy project credits, with $4 billon set aside for projects for areas where a coal mine or power plant has closed. The base rate for the credit is 6% with a 30% credit available for projects that meet prevailing wage and apprenticeship requirements

The IRA would expand the eligibility for section 48C to build, re-equip, or expand facilities for the production or recycling of energy storage systems and components, grid modernization equipment and components, equipment for carbon capture and sequestration, equipment to produce low-carbon and renewable fuels, energy efficiency equipment and technology, and advanced light-, medium-, and heavy-duty vehicles and related components and infrastructure.

In addition to section 48C, the IRA creates a new advanced manufacturing production tax credit under section 45X for the production of eligible components used for clean energy production in a trade or business that are produced in the United States and sold to an unrelated person. Also, as mentioned above, direct pay is available for this credit for all taxpayers but only for the first five years of the credit period.

The IRA defines which technologies qualify for the credit and the amount of the credit varies based on the technology:

The credits would begin to phase out after December 31, 2029 and completely phase out after December 31, 2032. However, the phase out does not apply to the credit for applicable critical minerals.

New Critical Minerals and Battery Component Sourcing Requirements for the Clean Vehicle Tax Credit

The IRA would make a number of significant changes to the existing 30D plug-in electric vehicle tax credit, including changes to the current structure of the 30D credit and stringent new restrictions related to the minerals, battery components, and final assembly location that are designed to encourage a domestic supply chain for qualifying clean vehicles.

The IRA expands the existing 30D credit apply to both plug-in electric vehicles and hydrogen fuel-cell powered vehicles. Addressing concerns from auto manufacturers who have already reached the current 200,000 vehicle per auto manufacturer cap that begins to phase out the credit once the manufacturer reaches the cap, the IRA would eliminate the current 200,000 vehicle cap and instead terminate the credit for vehicles placed in service after December 31, 2032.

The IRA maintains the current $7,500 maximum credit for plug-in electric motor vehicles, but modifies the structure. The current 30D credit provides a base credit of $2,500 and $417 for each kilowatt hour above 5 kilowatt hours of battery capacity up to $5,000. The IRA modifies this structure to provide a two-part credit up $7,500, with a $3,750 credit if the qualifying vehicle meets a new critical minerals requirement and another $3,750 credit if the qualifying vehicle meets a new battery component requirement. The IRA further requires the final assembly of a qualifying vehicle to occur in North America.

To meet the critical minerals requirement, the IRA requires a portion of the materials used to manufacture the battery to be extracted or processed in a country in which the United States has a free trade agreement or from materials recycled in North America. The IRA starts the requirements at 40% and scales up the requirement each year to reach 80% starting in 2027. To meet the battery component requirement, the IRA requires a portion of the battery components to be manufactured or assembled in North America. Similar to the critical minerals requirement, the IRA starts the requirement at 50% of a battery components meeting this requirement with increases each year up to 100% starting in 2029.

Further, any vehicle that contains critical minerals or battery components that are extracted, processed, or recycled by a “foreign entity of concern” as defined by section 40207(a)(5) of the Infrastructure Investment and Jobs Act would not qualify for the clean vehicle credit. As a result, critical minerals or battery components that are sourced from an entity that is owned by, controlled by, or subject to the jurisdiction or direction of a government of a foreign country that is a covered nation under 10 U.S.C. 2533c(d), such as China and Russia, would not be eligible for the clean vehicle credit.

These changes were added by Senator Manchin to encourage the development of a North American critical minerals and battery manufacturing supply chain to limit China’s influence. However, with a significant amount of the battery and mineral supply chain located in China, auto manufacturers have expressed concern with their ability to manufacture vehicles that will qualify for the new credit. In the short term, these new requirements could potentially impact the use of the credit and the adoption of electric vehicles. In particular, General Motors stated the changes regarding the mineral and battery sourcing included in the IRA are “challenging and cannot be achieved overnight.”

In addition to the battery and mineral sourcing changes, the IRA would place new income thresholds and price restrictions for taxpayers claiming the credit. Taxpayers with a modified adjusted gross income exceeding $300,000 for joint filers, $225,000 for head of household filers, and $150,000 for individual filers are no longer able to claim the credit. Vans, SUVs, and pickup trucks with a manufacturer’s suggested retail price exceeding $80,000 and any other vehicle with a manufacturer’s suggested retail price exceeding $55,000 are no longer eligible for the credit.

To encourage the use of the Clean Vehicle Credit by taxpayers who otherwise would not have enough tax liability to fully utilize the credit, the IRA would allow the taxpayer to transfer the credit to the vehicle dealer, provided the dealer is registered with the Treasury Department, to allow for a rebate equal to the amount of the credit to lower the taxpayer’s cost at the point of sale. The IRA specifies that any payment from a dealer would be tax-free to the recipient.

New Tax Credit for Commercial Clean Vehicles

The IRA would create a new business tax credit under section 45W to incentivize the purchase of medium and heavy-duty clean vehicles. The IRA would provide a credit for the lesser of 15% or the cost of the commercial clean vehicle or the incremental cost of commercial clean vehicle over the purchase price of a comparable vehicle powered solely by a gasoline or diesel fuel internal combustion engine. The credit would be increased to 30% for vehicles that are not powered by an internal combustion engine.

The IRA subjects the credit to a $40,000 limit, with a $7,500 limit for vehicles weighing less than 14,000 pounds. The IRA requires a qualifying commercial clean vehicle be made by a qualified manufacturer and the vehicle can only receive either the section 30D or section 45W credit.

The credit applies to vehicles acquired after December 31, 2022 and expires on December 31, 2032.

New Tax Credit for Previously-Owned Electric Vehicles

The IRA would create a new credit for previously-owned clean vehicles under section 25E to allow taxpayers to claim a credit for the purchase of a previously-owned clean vehicle that is equal to the lesser of $4,000 or 30% of the sale price of the vehicle. The IRA places similar income thresholds for taxpayers with a modified adjusted gross income exceeding $150,000 for joint filers, $112,500 for head of household filers, and $75,000 for individual filers unable to claim the credit. To qualify as a previously owned clean vehicle, the model year must be at least two years older than the current calendar year, but the vehicles are not subject to the new assembly or sourcing requirements in section 30D. Further, the credit can only be used on first sale of the car. The IRA also includes similar transferability provisions for this credit as included for the new section 30D credit.

The credit applies to vehicles acquired after December 31, 2022 and expires on December 31, 2032.

Funding the IRS

The IRA would provide $78.89 billion in additional funding to the IRS over the next 10 years, a slight decrease from the $78.93 billion included in the Build Back Better Act, but the same as in the first draft of the IRA.

The IRA also includes a provision that would direct the IRS to establish a task force on the design of an IRS-operated free “Direct Efile” tax return system and report to Congress within nine months. However, the IRA deleted the provision contained in the first draft of the IRA that would require the IRS to develop a multi-year operational plan and submit quarterly updates to Congress on how the additional funding included in this legislation will be spent.

The Senate-passed IRA also added a provision that was not contained in the first draft of the IRA that provides that it is not intended to increase taxes on any taxpayer or small business with a taxable income below $400,000 or increase taxes on any taxpayer not in the top 1%.