Surveying the landscape of Inflation Reduction Act tax credits
How did we get here? Overview of recent legislation
Considerable attention was paid to tax legislation in recent years, with numerous seismic changes proposed. Ultimately, the core tax rules relating to the corporate tax rate, capital gain tax rate, trusts, and estate and gift taxation were left largely intact. However, numerous tax opportunities now exist due to one core bill and two related bills. These opportunities may be especially attractive to businesses that are managing the impact of new capitalization rules for research and development expenses or those seeking to achieve a variety of environmental, social, and governance (ESG) goals.
The Inflation Reduction Act of 2022 (IRA) was signed into law on Aug. 16, 2022, as the culmination of more than a year of negotiations among members of the Democratic Party. The vast majority of tax increases proposed in the Build Back Better Act were excluded, so the primary focus of the IRA is a collection of climate and energy incentives intended to support domestic clean and renewable energy production. The tax credits and incentives included in the IRA generally took effect at the beginning of 2023. Beyond tax programs, the Department of Energy (DOE) was also provided with over $100 billion in funding to advance expansive grant and loan programs. The combination of tax incentives and broader funding are expected to spur adoption of new technology and equipment while shaping the broader supply chain.
Two other bills that were enacted in 2021 and 2022 on a bipartisan basis have some degree of overlap with the IRA. Those were the CHIPS and Science Act of 2022 (CHIPS Act) and the Infrastructure Investment and Jobs Act of 2021, (Infrastructure Act). The CHIPS Act provides a combination of tax incentives and funding to support the domestic semiconductor industry, which is much more targeted than the IRA but fits within the broader push for domestic manufacturing. The Infrastructure Act funds infrastructure improvements across the United States (bridges, roads, airports, ports, etc.) while also paving the way for improvements that support IRA programs (electric transmission, EV charging network, and pipelines for captured carbon, among others).
Key topics and categories of the Inflation Reduction Act
Below is a detailed breakdown of the tax credits and incentives included in the IRA:
How to benefit? New and enhanced monetization options — The IRA provides two new options for the monetization of tax credits. One option, involving sales of credits for cash, is especially useful where projected tax credits are likely to outweigh the current and near-term tax liabilities of those generating the credits. In addition, a second option paves the way for a variety of tax-exempt entities to obtain the cash benefit of tax credits in the absence of traditional tax liabilities.
- Credit computations: Baseline, 5x multiplier, and bonus options — Most of the tax incentives include tiered calculations, with enhanced amounts triggered through compliance with special rules. These rules amplify the available benefits while adding complexity to qualification and documentation.
- Tax credits for manufacturers — The IRA includes two key tax credits for manufacturers. Importantly, those credits are available to businesses that manufacture key components for the green energy sector (e.g., solar, wind, and battery equipment). The CHIPS Act also created a similar tax credit structure for businesses engaging in the production of semiconductors or semiconductor equipment.
- Electricity production from renewable and clean resources — A core component of the IRA is an expansion of tax credits related to the production of electricity from renewable resources. On this front, two existing credits were modified significantly for the near term while two new credits are set to take effect in future years.
- Clean vehicles and refueling equipment — Prior to the IRA, tax credits were available for the acquisition of EVs and installation of charging equipment. Those credits have been modified and expanded significantly. In addition, two new tax credits were created that provide incentives for businesses to purchase EVs and for individuals to purchase used EVs.
- Energy-efficient upgrades and construction — The IRA also expanded tax incentives related to the installation of energy-efficient building upgrades and the construction of energy-efficient homes.
- Residential energy property — Tax credits for individuals have also been expanded for the installation of a variety of energy efficiency and green energy upgrades at their homes.
- Credit for carbon oxide sequestration — The tax credit for the capture and use of carbon oxide was also expanded by the IRA. This provides enhanced incentives for those that either capture carbon as part of an industrial facility or through direct air capture.
- Fuel production and use credits — Finally, the IRA created a new tax credit generated by the production of “clean hydrogen” and modified the tax credits regime related to certain transportation fuels.