Inflation Reduction Act: What You Need to Know
The recently enacted Inflation Reduction Act of 2022 contains many new environmentally related tax credits, extends and modifies some pre-existing tax credits, and imposes some new taxes on corporations. While the Act includes several provisions we have not discussed below, we wanted to provide a short summary of some provisions that may impact you or your business.
- Extension, Increase, and Modifications of Nonbusiness Energy Property Credit. The Act extends through 2032 the nonbusiness energy property credit and renames it the energy efficient home improvement credit. The credit had expired at the end of 2021. Further, the Act increases the credit for a tax year to an amount equal to 30% (formerly 10%) of the sum of (a) the amount paid or incurred by the taxpayer for qualified energy efficiency improvements installed during that year, and (b) the amount of the residential energy property expenditures paid or incurred by the taxpayer during that year. The credit is further increased, but not by more than $150, for amounts spent for a home energy audit. The Act repeals the lifetime credit limitation, and instead limits the allowable credit to $1,200 per year. In addition, there are annual limits of $600 for credits with respect to residential energy property expenditures, windows, and skylights, and $250 for any exterior door ($500 total for all exterior doors). Notwithstanding these limitations, a $2,000 annual limit applies with respect to amounts paid or incurred for specified heat pumps, heat pump water heaters, and biomass stoves and boilers. Subject to exceptions, these provisions generally apply to property placed in service after December 31, 2022.
- Extension and Modification of Residential Clean Energy Credit. Before the Act, you were allowed a personal tax credit, known as the residential energy efficient property (REEP) credit, for solar electric, solar hot water, fuel cell, small wind energy, geothermal heat pump, and biomass fuel property installed in homes in years before 2024. The Act extends the credit for property installed in years before 2035. The credit is 30% of applicable costs through 2032, 26% for 2033, and 22% for 2034. The Act also makes the credit available for qualified battery storage technology expenditures.
- New Clean Vehicle Credit. The Act enhanced the credit for purchasing an electric vehicle. One of the new rules is in effect right now. To qualify for the electric vehicle credit, final assembly of the vehicle must take place in North America. You can check whether a particular vehicle meets this requirement by entering its vehicle identification number (VIN) into the VIN decoder at the National Highway Traffic Safety Administration website (www.nhtsa.gov). There is also a list of makes and models that generally should meet the requirement, but you should double-check for any particular vehicle by using the VIN decoder.
- Manufacturer limitation. Effective January 1, 2023, the manufacturer limitation is going away. Under the manufacturer limitation, once a manufacturer had sold 200,000 electric vehicles, a taxpayer's ability to take a tax credit for vehicles produced by that manufacturer began to phase out. Taxpayers are currently prevented from taking the electric vehicle credit for automobiles manufactured by General Motors and Tesla. Starting at the beginning of 2023, taxpayers will be able to take the credit for GM and Tesla vehicles once again, but there are manufacturer's suggested retail price (MSRP) limits (see below).
- Calculation of the credit. The way the credit is calculated is changing later this year. We do not know when the rules are changing yet, but it will be as soon as the IRS issues regulations implementing the new rules. Under the previous rules, the base amount of the electric vehicle credit is $2,500 per vehicle. The allowable credit increases to $7,500 per vehicle based on a formula which increases the credit by $417 for every kilowatt hour of battery capacity in excess of five. Under the new rules, the amount of the credit will be based on two separate requirements, each one based on where the vehicle's battery is sourced:
- Taxpayers get a $3,750 credit for meeting the critical minerals requirement (which requires that a minimum percentage of the minerals contained in the battery be sourced in the United States or a country with which the United States has a free trade agreement in effect).
- Taxpayers also can get a $3,750 credit for satisfying the battery component requirement (which requires that a minimum percentage of the value of the components of the battery be manufactured or assembled in North America). Taxpayers can satisfy either or both requirements, for either a $3,750 credit (if only one requirement is satisfied) or a $7,500 credit (if both requirements are satisfied). The new rules are designed to encourage electric vehicle manufacturers to move their battery supply chains from China to North America or countries with which the United States has better relations than China.
- New qualified fuel cell motor vehicle. Effective January 1, 2023, the credit will also be available for new qualified fuel cell motor vehicles. New qualified fuel cell motor vehicles are vehicles propelled by power derived from one or more cells that convert chemical energy directly into electricity by combining oxygen with hydrogen fuel, and that meets certain additional requirements. New qualified fuel cell motor vehicles have to meet the North American final assembly requirement. They can qualify for either a $3,750 or $7,500 credit based on whether they satisfy one or both of the critical minerals requirement and battery components requirements.
- Modified adjusted gross income limitation. Starting on January 1, 2023, your ability to take the electric vehicle credit will be limited based on your modified adjusted gross income (MAGI). MAGI is adjusted gross income (AGI) with adjustments for income received from U.S. territories. For most taxpayers, MAGI will be equal to AGI. You may not take the credit if your MAGI exceeds the threshold amount. The threshold amount is:
- For married taxpayers filing a joint return or a surviving spouse, $300,000.
- For taxpayers filing as head of household, $225,000.
- For all other taxpayers (single, married filing separately), $150,000.
These amounts are not adjusted for inflation. If your MAGI exceeds this amount, you should buy the qualifying electric car before the first of this year if you are wanting to qualify for the credit.
- MSRP limitation. Also starting on January 1, 2023, vehicles will not be eligible for the credit if they exceed an MSRP limit: $80,000 for vans, pickup trucks, and sport utility vehicles; $55,000 for other vehicles. This means that if you are looking at a higher-end electric vehicle, you need to act by the end of December. Unfortunately, the manufacturer limitation (see above) will not go away until January 1, so you will not be able to claim the credit for higher-end GM and Tesla vehicles that exceed the MSRP limits.
- Transition rule. Finally, if you had a binding contract to purchase an electric vehicle as of August 15, 2022, or earlier, you can choose to apply the old rules.
- Credit for Previously-Owned Clean Vehicles. A qualified buyer who acquires and places in service a previously-owned clean vehicle after 2022 is allowed an income tax credit equal to the lesser of $4,000 or 30% of the vehicle's sale price. No credit is allowed if the lesser of your modified adjusted gross income for the year of purchase or the preceding year exceeds $150,000 for a joint return or surviving spouse, $112,500 for a head of household, or $75,000 for others. In addition, the maximum price per vehicle is $25,000.
- Qualified Commercial Clean Vehicles. This is a new business credit created by the Act that allows for a credit equal to the lesser of 15% (30% for a vehicle with no gasoline or diesel engine) of the basis of the vehicle or the incremental cost of the vehicle. The incremental cost of the vehicle is the amount that the commercial clean vehicle exceeds the cost of a comparable gasoline or diesel-powered vehicle. The credit is limited to $7,500 for vehicles with a gross vehicle weight under 14,000 pounds and $40,000 for all other vehicles. This credit cannot be used in conjunction with the clean vehicle credits mentioned above.
- Additional funding for the IRS. The Act appropriates approximately $79 billion in additional funding for the IRS. The funds are to be split between enforcement ($46 billion), operations ($25 billion), business systems modernization ($5 billion), and taxpayer services ($3 billion). The IRS is to be preparing a plan showing how it expects to use the additional funding. Before the Act was passed, Treasury Secretary Janet Yellen wrote to the IRS Commissioner directing him that the increased IRS enforcement funds should not be used to increase audits of small businesses or taxpayers with household incomes of less than $400,000. The Congressional Budget Office has estimated that the IRS enforcement funding will increase federal tax revenues by approximately $204 billion through 2031.
The two items below that apply to large corporations will not apply to our clients. However, we did want to include a summary on them for informational purposes.
- 1% excise tax on repurchase of corporate stock. The Act imposes on each covered corporation a tax equal to 1% of the fair market value of any stock of the corporation that is repurchased by the corporation during the tax year. A covered corporation is any domestic corporation whose stock is traded on an established securities market. The 1% excise tax applies to repurchases of stock after December 31, 2022, and the tax does not apply when the total value of the stock repurchased during a tax year is $1 million or less.
- New corporate alternative minimum tax. The new corporate alternative minimum tax (AMT) of 15% is imposed on adjusted financial statement income. Thus, the new AMT applies if 15% of the corporation's adjusted financial statement income minus any alternative minimum tax foreign tax credits exceed its regular tax plus its base erosion anti-abuse tax for the year. However, the new AMT applies only to applicable corporations whose average annual adjusted financial statement income for the 3-tax-year period ending with the current tax year exceeds $1,000,000,000 ($1 billion).
Unrelated to the Inflation Reduction Act, the IRS increased the 2022 standard mileage rate to $0.625 per mile as of July 1, 2022. There are two separate standard mileage rates for 2022. The rate for the first six months of 2022 was $0.585 per mile, and the rate for the final six months of 2022 is $0.625 per mile.
Please contact our office with questions.
Written by: YOUNG & ASSOCIATES, LLC