Understanding clean energy incentives for the automotive industry

ARTICLE | March 15, 2023

Authored by RSM US LLP

Since the enactment of the Inflation Reduction Act of 2022, the automotive industry has been lobbying the Treasury Department for guidance on implementing the changes enacted to clean vehicles. In December 2022, the IRS issued a number of pieces of guidance or varying levels of authority pertaining to the three clean vehicle tax credits. More guidance is expected in Q1 2023.

The government released guidance in a number of forms. The recent guidance includes:

• Notice 2023-1, which provides definitions of terms for the section 30D clean vehicle credit and outlines future guidance to be issued
• Notice 2023-16, which modifies Notice 2023-1 by revising the vehicle classification standards Treasury and the IRS intend to propose
• Notice 2023-9, which provides guidance on the section 45W commercial clean vehicles credit and rules related to incremental cost for 2023
• Fact Sheet 2022-42, which offers guidance regarding qualification for new, previously-owned and commercial clean vehicle tax credits under Internal Revenue Code sections 30D, 25E, and 45W
• Treasury Department white paper on the anticipated direction of forthcoming proposed guidance on critical mineral and battery component value calculation for the new clean vehicle credit.
• Revenue Procedure 2022-42 on requirements and documentation for clean vehicle manufacturers and sellers.

The automotive industry has many legislative changes to evaluate and begin implementing with respect to clean vehicles. The Inflation Reduction Act modified the existing credit for new plug-in hybrid and electric vehicles, renaming it the “clean vehicle credit.” The IRA also created new credits for previously-owned clean vehicles and for qualified commercial clean vehicles. Generally, the clean vehicle credit and previously-owned clean vehicle credits are available for individuals. The qualified commercial clean vehicle credit is available only for vehicles used in a trade or business. Additionally, new incentives for manufacturers of components of electric vehicles are effective in 2023.

This article provides background on the IRA incentives and discusses the new guidance that has been released to date.

Background

Clean Vehicle Tax Credit – Section 30D

The IRA amended the existing 30D tax credit to apply to new clean vehicles placed in service by the taxpayer during the taxable year. The amount of credit is equal to a maximum of $7,500 for a vehicle propelled primarily by electricity, with a battery of at least 7-kilowatt hours, or a hydrogen fuel cell electric vehicle. Eligible vehicles must meet the critical mineral and battery component requirements for the full credit. Vehicles that meet one of the requirements, but not both, are eligible for a credit of $3,750.

To meet the critical mineral requirement, the applicable % of critical minerals contained in the battery must be extracted or processed in a country with which the United States has a free trade agreement or have been recycled in North America. The applicable % is:

• For calendar years prior to 2024, 40%
• For calendar year 2024, 50%
• For calendar year 2025, 60%
• For calendar year 2026, 70%
• For calendar years after 2026, 80%

To meet the battery content requirement, the applicable % of the components contained in the battery used in the vehicle must be manufactured or assembled in North America. The applicable % is:

• For calendar years prior to 2024, 50%
• For calendar years 2024 and 2025, 60%
• For calendar year 2026, 70%
• For calendar year 2027, 80%
• For calendar year 2028, 90%
• For calendar years after 2028, 100%

Clean vehicles must be assembled in North America. For calendar years after 2023, a clean vehicle may not contain any battery components which were manufactured by a foreign entity of concern (as defined in 42 U.S.C. 18741(a)(5)), and, after calendar year 2024, a clean vehicle may not contain any critical minerals that were extracted, processed or recycled by a foreign entity of concern.

Clean vehicles must be sold by a qualified manufacturer. A qualified manufacturer is one that enters into written agreement with the secretary of the Treasury Department to ensure each vehicle manufactured meets the requirements of this provision, labeled with a unique vehicle identification number, and requires the manufacturer to periodically provide such vehicle identification numbers to the secretary in such a manner as the secretary may prescribe.

No credit is allowed for vehicles by which the manufacturer’s suggested retail price exceeds the applicable limitation, which is as follows:

• Vans: $80,000
• SUVs: $80,000
• Pickup trucks: $80,000
• Any other vehicle: $55,000

Notably, no credit is allowed to a taxpayer with a modified adjusted gross income in excess of the threshold amount of $300,000 for married filing jointly, $225,000 for head of household, and $150,000 in any other case. For a given taxable year, the taxpayer may use modified adjusted gross income for that year or the immediately preceding year, whichever is lower.

The taxpayer may elect to transfer the credit to the vehicle dealer, provided the dealer is registered as an eligible entity with the secretary, discloses the manufacturer’s suggested retail price—or MSRP—credit amount, associated fees, and the amount to be paid to the taxpayer in the form of a down payment or otherwise with respect to the transfer of credit. The Treasury Department is to establish a program to make advance payments to any eligible dealer equal to the cumulative amount of transferred credits.

This provision generally applies to vehicles placed in service after Dec. 31, 2022. The requirement that vehicles be assembled in North America applies to vehicles sold after the date of enactment. Treasury has issued guidance related to this provision. The provision allowing transfers of the credit applies to vehicles sold after Dec. 31, 2023. The credit is not allowed for any vehicle placed in service after Dec. 31, 2032.

Commercial Clean Vehicle Tax Credit – Section 45W

The IRA added a new tax credit for qualified commercial clean vehicles. The credit amount is equal to the lesser of the incremental cost of a qualified vehicle or 30% (15% in the case of certain plug-in hybrid commercial vehicles) of the cost a vehicle not powered by a gasoline or diesel internal combustion engine, up to $7,500 for vehicles that weigh less than 14,000 pounds, and up to $40,000 for all other vehicles.

This provision is effective for vehicles acquired after Dec. 31, 2022, and before Jan. 1, 2033. Other requirements, such as those connected to the vehicle’s battery capacity measured in kilowatt hours and the vehicle’s power source, apply. Certain mobile machinery may also qualify, but the narrow definition of mobile machinery must be carefully considered.

Credit for Previously-Owned Electric Vehicles – Section 25E

The IRA added a new tax credit for qualified previously-owned vehicles. The credit amount is the lesser of 30% of the sale price of the vehicle or $4,000. Notably, no credit is allowed to a taxpayer with a modified adjusted gross income in excess of the threshold amount of $150,000 for married filing jointly, $112,500 for head of household, and $75,000 in any other case. For a given taxable year, the taxpayer may use modified adjusted gross income for that year or the immediately preceding year, whichever is lower. This provision is effective for vehicles acquired after Dec. 31, 2022, and before Dec. 31, 2032.

Production tax credit for advanced manufacturing – Section 45X

The IRA added a new production tax credit, or PTC, for domestic manufacturers of certain energy property including solar, wind energy, and certain battery components. The credit is claimed on a per-item basis for qualifying articles that are produced and sold. Eligible components relevant to the auto industry include electric vehicle battery components (electrode active materials, battery cells, and battery modules) and the critical minerals necessary for production of electric vehicle batteries. This credit allows for a direct pay option for claimants.

New funding allocation for advanced energy projects – Section 48C

The IRA revives the section 48C advanced energy project credit, allowing Treasury to allocate an additional $10 billion in tax credits to qualifying projects beginning in 2023 through 2031. New section 48C provides a base credit amount of 6% and a bonus rate of 30% for construction, re-equipping, or expansion of a manufacturing facility that constructs qualifying property. Included in the definition of qualifying property are:

• Hybrid vehicles with a gross vehicle weight rating of not less than 14,000 pounds, as well as technologies, components, or materials for such vehicles
• Light-, medium- or heavy-duty electric or fuel cell vehicles, as well as technologies, components, or materials for such vehicles, and associated charging or refueling infrastructure
• Fuel cells, microturbines, or energy storage systems and components
• Equipment designed to refine, electrolyze or blend any fuel, chemical, or product which is renewable, low-carbon, and low emission

Also included is property that re-equips an industrial or manufacturing facility with equipment designed to reduce greenhouse gas emissions by at least 20% through the installation of certain property (e.g., low- or zero-carbon process heat systems; carbon capture, transport, utilization, and storage systems; critical materials processing, refining or recycling).

Treasury is expected to issue guidance on applications for receiving a credit allocation in February 2023. For taxpayers receiving a credit allocation, the credit is claimed in the year the property is placed in service.

Treasury guidance

The Treasury Department has been issuing implementation guidance on the clean vehicle tax credit since enactment of the IRA in August 2022.  On Aug. 17, 2022, Treasury issued rules on final assembly requirements and use of written binding contracts for credit eligibility for the remainder of 2022.

In December 2022, sticking with its year-end guidance timeline, the IRS issued two notices, a fact sheet, a white paper, and a revenue procedure providing guidance for credits for new, previously owned, and commercial clean vehicles. The guidance offers a mix of new information, definitions, examples for applying taxpayer facts to the law, and more.

Notice 2023-1

Notice 2023-1 provides definitional guidance relevant to credit qualification and confirms the intent of the Treasury and IRS to propose regulations with respect to the section 30D clean vehicle credit. This credit is available for each clean vehicle placed in service during the taxable year.

Pursuant to statutory requirements, until proposed guidance for critical minerals and battery component requirements is released, the requirements are not effectuated. Until such guidance is issued, the credit is computed as a function of a clean vehicle’s battery capacity.

The notice confirms that proposed guidance on the critical minerals and battery components requirements is not included within this batch of guidance, despite a statutory deadline of Dec. 31, 2022, to issue these rules. The guidance indicated these rules would likely be released in March 2023.

In general, amendments made by the IRA to the clean vehicle credit apply to vehicles placed in service after Dec. 31st, 2022. The following amendments to the clean vehicle credit were addressed in this notice:

• Vehicles must undergo “final assembly” in North America to qualify
• The taxpayer’s modified adjusted gross income (MAGI) for the current (i.e., the year the vehicle is placed in service) or prior tax year must not exceed the “threshold amount”
  • The threshold amount is defined as $300,000 in the case of a joint return or surviving spouse, $225,000 for a head of household, and $150,000 for all other taxpayers
  • MAGI is defined as adjusted gross income increased by any amount excluded from gross income under sections 911, 931 or 933
• No credit is allowable under 30D if the manufacturer’s suggested retail price (i.e., MSRP) of a potentially qualifying vehicle exceeds the applicable limitation for such vehicle’s classification
  • Vans, sports utility vehicles and pickup trucks are limited to $80,000
  • All other vehicles are limited to $55,000

The notice also mentions that Treasury and IRS intend to propose regulations with definitions for the following terms. In the meantime, the notice previews the expected content for each term:

• Final assembly
• North America
• Manufacturer’s suggested retail price
• Vehicle classifications for vans, sport utility vehicles, pickup trucks, and other vehicles
• Placed in service

Notice 2023-16

Notice 2023-16 modifies some of the guidance provided in Notice 2023-1, discussed above. The modification provides vehicles are to be classified using a different section of the Code of Federal Regulations.

The change classifies vehicles consistent with the fuel economy labeling regime. The vehicle classification assigned to a vehicle is important because such classification determines the applicable MSRP limitation imposed on the vehicle for purposes of determining a clean vehicle credit.

This update to the classification methodology is expected to be favorable to buyers and the automotive industry, as the classifications will now more closely align with consumer expectations (e.g., compact sport utility vehicles being classified as sport utility vehicles instead of being classified in the “other vehicle” category with a lower MSRP limitation).

Notice 2023-9

Notice 2023-9 provides a safe harbor for use in the calculation of the section 45W credit for qualified commercial clean vehicles. The credit is effective for vehicles acquired after Dec. 31, 2022, and before Jan. 1, 2033. Section 45W allows a tax credit for each qualified commercial clean vehicle placed into service during the taxable year. The amount of the 45W credit is the lesser of:

• 30% of the taxpayer’s basis for a vehicle not powered by gasoline or diesel internal combustion engines (15% for all other qualifying vehicles), or
• The incremental cost of the vehicle 
  • The incremental cost of the vehicle is defined as the excess purchase price of such vehicle over the price of a comparable vehicle (i.e., any vehicle that is powered solely by a gasoline or diesel internal combustion engine and is comparable in size and use)

There is an overall per-vehicle limitation for the credit of $7,500 for vehicles with a gross vehicle weight rating of less than 14,000 pounds and $40,000 for all other vehicles.

The notice provides a safe harbor for determining the incremental cost of a qualified commercial clean vehicle. The Department of Energy conducted an incremental cost analysis for the street vehicles that may be eligible for this credit. Taxpayers may rely on the incremental costs in the DOE analysis for calculating a credit amount.

Fact Sheet 2022-42

Fact Sheet 2022-42 provides information on new, previously-owned and qualified commercial clean vehicle credits in the form of FAQs for taxpayers and tax practitioners. The following topics are addressed:

• Topic A: Eligibility rules for the new clean vehicle credit
• Topic B: Income and price limitations for the new clean vehicle credit
• Topic C: When the new requirements apply to the new clean vehicle credit
• Topic D: Eligibility rules for the previously-owned clean vehicles credit
• Topic E: Income and price limitations previously-owned clean vehicles
• Topic F: Claiming the previously-owned clean vehicles credit
• Topic G: Qualified commercial clean vehicles credit

Through FAQs, the fact sheet provides examples to help taxpayers apply to sample facts the many rules that impact a credit claim for a clean vehicle. The fact sheet highlights the importance of the date on which a vehicle is placed in service as a determining factor in the application of the North American assembly requirement, MSRP and AGI limitations, and battery capacity requirements.

To help taxpayers identify vehicles that may qualify for the clean vehicle credit, the fact sheet references the IRS website with an index of qualified manufacturers. The IRS has begun compiling an index of qualified manufacturers and car models for new qualified clean vehicles purchased after Dec. 31, 2022, that may qualify for the clean vehicle credit. Taxpayers must verify other eligibility requirements, but the website provides some parameters for identifying qualified vehicles.

Treasury white paper

Treasury released a white paper on relevant terms and concepts that reflect Treasury’s and the IRS’s preliminary thinking on the critical minerals and battery components requirements. The white paper is not the proposed guidance required by the statute or official published guidance. Treasury and the IRS intend to issue a notice of proposed rulemaking in March 2023.

With respect to the critical minerals requirement, the white paper describes a three-step process for determining a manufacturer’s compliance. This three-step process is intended to be a transition rule for calendar years 2023 and 2024. The three steps outline the analysis each manufacturer would use to identify and measure the source of critical minerals in its procurement chain.

Additionally, the white paper explains that Treasury and the IRS intend to propose definitions for several related terms. The white paper includes preliminary definitions for the following terms:

• Extraction
• Processing
• Recycling
• Constituent materials
• Value
• Value added
• Free trade agreement

With respect to the battery components requirement, the white paper describes a four-step process for determining a manufacturer’s compliance. The process measures the value of battery components by manufacture or assembly location. Treasury and the IRS intend to propose definitions for several related terms. The white paper includes preliminary definitions for the following terms:

• Battery cell
• Battery component
• Constituent materials
• Manufacturing
• Assembly
• Value
• Incremental value

Revenue Procedure 2022-42

This revenue procedure provides requirements for a clean vehicle manufacturer and seller. Because the section 30D and 45W credit requirements are imposed on the vehicle’s manufacturer, seller, and buyer, written reports must be submitted by a vehicle’s manufacturer and seller.  Rev. Proc. 2022-42 provides information on the contents and timing of the following reporting requirements:

• A manufacturer must enter into written agreement with Treasury to become a qualified manufacturer
• A qualified manufacturer must periodically submit written reports on vehicles manufactured that may qualify for a credit 
• A seller of a qualifying vehicle must submit reports to the IRS and to the buyer of such vehicle

Washington National Tax takeaways

The clean vehicle credits that the IRA expanded are a significant change for the automotive industry. The incentives for both personal and commercial uses will increase the demand for these articles.

Notices 2023-1, 2023-16, 2023-9, Revenue Procedure 2022-42, Fact Sheet 2022-42, and the Treasury white paper begin to provide insight into the definitional guidance as well as the various requirements that will prove crucial to taxpayers upon substantiating and claiming the various credits available for clean vehicles. The industry and taxpayers should be aware of the rules applicable to each of the three vehicle-related credits. Vehicles placed in service after Dec. 31, 2022, must be made by a qualified manufacturer to qualify for any of the three credits. RSM covered the qualified manufacturer requirement in a previous tax alert. Other requirements vary by credit.

With respect to the commercial clean vehicle credit under section 45W, with the release of Notice 2023-9, taxpayers can be sure that Treasury and IRS will accept a taxpayer’s use of $7,500 as the incremental cost for all street vehicles—other than compact car plug-in hybrid electric vehicles, or PHEVs—weighing under 14,000 pounds for the new qualified commercial clean vehicles credit offered under section 45W.

Compact car PHEVs have an incremental cost of $7,000, according to the DOE analysis. Compact car PHEVs could still generate a credit at the maximum rate of $7,500, but this credit could not be claimed with the help of the safe harbor.

In practice, this safe harbor reliance on the DOE analysis could simplify the credit calculation for taxpayers. As long as the product of the credit percentage (i.e., 30% or 15%, depending on the vehicle’s power source) and the taxpayer’s basis in the vehicle is not less than $7,500, taxpayers may rely on the safe harbor to claim the maximum allowable credit per vehicle on qualified commercial clean vehicles weighing less than 14,000 pounds (other than compact PHEVs).

The safe harbor for vehicles weighing 14,000 pounds or more does not provide the same path to a maximum allowable credit per vehicle in all cases. In any event, the incremental cost data provided in the DOE analysis is likely to reduce the administrative burden of quantifying the credit under section 45W in many cases through use of the available safe harbor.

Additionally, Treasury’s guidance to date infers that if an electrical vehicle is leased to an individual, the commercial lessor is the person entitled to the credit under section 45W. This is important because section 45W does not have the same restrictions as section 30D with respect to critical minerals, battery components, limitations on a vehicles manufacturer’s suggested retail price, limitations on the buyer’s modified adjusted gross income, and North American assembly. Thus, more vehicles may be eligible for incentives under the lease rules than if the same vehicle was purchased by the individual consumer. Although the individual end user in a lease situation is not entitled to the credit, that individual may see the benefit of the credit with a price adjustment from the lessor. 

More guidance on critical minerals and battery components requirements will be forthcoming. The effectuation of these requirements is likely to significantly change the landscape of vehicles that may qualify for the section 30D clean vehicle credit.

With respect to the Treasury white paper, it is highly unusual for Treasury to publicly release a white paper stating its initial impressions and intentions on the intended content of future guidance. This white paper is important because it provides direction on the intended guidance. While it is not precedential guidance upon which taxpayers can rely, it is a noteworthy document that provides stakeholders insight into Treasury’s deliberations.

In the interim, taxpayers should stay alert for additional guidance to avoid potentially invalid claims.

In addition to further guidance on critical mineral and battery component value calculations, it is expected that additional guidance will be issued to establish a program to make advance payments to any eligible dealer equal to the cumulative amount of transferred credits.  Further, the industry is awaiting guidance on sections 45X and 48C, which affects not just the automakers but also potentially other manufacturing entities in the automotive manufacturing supply chain. There is much interest in the manufacturing sector with respect to these incentives.

Businesses hoping to take advantage of clean energy incentives can collaborate with an advisor to gain a deeper understanding of how they may apply to their operations.