On August 16, President Biden signed into law the Inflation Reduction Act of 2022. With a proposed cost of $1 trillion, the act is smaller than its genesis, which was the Build Back Better legislation that was proposed last year with a cost of anywhere from $2 trillion to $3.5 trillion.
Below you can learn about key aspects of the act and how they are expected to impact businesses and individual taxpayers.
Business tax provisions and IRS funding
Corporate alternative minimum tax: A new corporate alternative minimum tax of 15% of adjusted book income, applicable for tax years beginning after December 31, 2022, will be a large revenue raiser for the government. In general, it will apply to C corporations that report financial statement income of over $1 billion. Based on several studies, it is expected to directly impact less than 200 corporations.
The law is complex; the testing of financial statement income is based on aggregating controlled groups of companies, and there are separate rules for U.S. companies owned by foreign parents. In addition, numerous adjustments are required, including one to prevent accelerated tax depreciation deductions from increasing the alternative minimum tax.
While the scope of companies impacted may be limited, it is expected that the IRS will need to issue significant guidance, and these impacted companies will likely spend thousands of hours complying with the law. Additionally, there are serious concerns in the capital markets that companies that may be impacted could look for ways to revise financial statement income reporting.
1% excise tax on certain stock buybacks: This will generally come into play when a publicly traded corporation buys back stock in excess of $1 million during its tax year. The excise tax will apply only to repurchases of stock occurring after December 31, 2022. Time will tell if this provision leads to companies paying out dividends or accumulating cash instead of redeeming stock.
Excess business losses: You may recall that the Tax Cuts and Jobs Act of 2017 added a provision (known as the excess business losses) that limited the amount of business losses that noncorporate taxpayers could claim in a year (generally business losses in excess of $250,000 for a single filer and $500,000 for joint filers). This limitation was scheduled to expire after 2025 but has now been extended through 2028.
Nearly $80 billion of funding for the IRS: This funding is included in the act and is to be provided over a 10-year period. While a large portion of this total is targeted for improvements to operational support and systems modernization (both desperately needed), over 50% ($45.6 billion) is allocated to enforcement. It is expected the IRS will hire an additional 87,000 agents. Time will tell how long it will take for the IRS to hire and train this many agents and how many will be assigned to enforcement, but the IRS could be challenged to meet this enforcement promise as time goes on.
The Biden administration has pledged not to increase taxes on households with income under $400,000, and Treasury Secretary Yellen sent a letter to IRS Commissioner Retting instructing that the IRS is not to use any funding to increase the audit rate on small businesses or households with income under $400,000.
Drug pricing for seniors: The act will favorably affect drug pricing for seniors. Among the changes are a $2,000 annual out-of-pocket maximum for prescription drugs filled under a Medicare Part D plan starting in 2025, and a $35-per-month cap on out-of-pocket costs for insulin medication starting in 2023, but only for Medicare participants.
Negotiating fair prices: The government will for the first time negotiate maximum “fair” prices for 10 Part D drugs in 2026, 15 part B or D drugs in 2027 and 20 in 2029 and beyond. Manufacturers charging more than the “fair” amount can be hit with penalties of up to 10 times the excess.
Rebate formula: Manufacturers of drugs for people on Medicare that increase drug prices faster than the inflation rate will be subject to a rebate formula starting in 2023. The rebates will be paid to the government, not to the individuals who prescribe to the drugs under Medicare. A last-minute change eliminated the benefit of this change for individuals with private insurance.
Medicare Part D premiums: Through 2029, Medicare Part D premiums cannot increase by more than 6% per year. It will be interesting to see how it all plays out in real life, whether this limitation may cause some carriers to drop out of the market, and how it may affect Medicare Advantage plans that bundle-in prescription drug coverage.
Premium tax credit (PTC): The act extends the PTC for three years (through 2026). The PTC was established under the Affordable Care Act to reduce the cost of health insurance for qualifying families buying coverage on one of the exchanges.
Nondeductible excise tax: Starting in 2026, the act imposes a significant nondeductible excise tax on drug manufacturers and producers who sell “designated drugs” and have not entered into drug pricing agreements under Section 1193 of the Social Security Act. Based on the law, this is certain to be a very complicated area for drug companies and the federal government to develop and administer.
Energy and climate incentives
The balance of the act is geared toward providing a vast array of energy and climate tax initiatives. Some of these are extensions and modifications of existing credits, and others are brand-new credits. For several credits, the act provides for a two-tiered credit. There is a lower base credit amount, and then by meeting certain conditions such as prevailing wage, domestic content and specified location, the credit can be increased up to five times over the base amount.
In addition, the act provides for “direct pay” treatment and/or transferability of certain credits. Direct pay will treat the credit as a payment of taxes on a filed return, and transferability allows for the full or partial sale of the credit for cash to an unrelated party on a one time basis.
Electric and clean vehicles: The act extends or adds four credits related EV industry and consumers:
- Purchasing a new electric vehicle: The act extends and modifies the credit of up to $7,500 for the purchase of new qualified electric drive motor vehicles. The credit has been extended to vehicles placed in service before January 1, 2033, and there is no longer a limit on the number of eligible vehicles per manufacturer. The credit will not apply for vehicles with a MSRP in excess of $55,000 for sedans and $80,000 for SUVs, vans and trucks. In addition, the credit does not apply where a taxpayer’s lessor AGI amount for the current or preceding tax year exceeds $300,000 for married filing jointly taxpayers, $225,000 for head of household taxpayers and $150,000 for all other taxpayers.
- Purchasing a previously owned clean vehicle: Those purchasing a used electric vehicle before January 1, 2033, that is at least two years old will now be able to claim a tax credit equal to the lesser of 30% of the sale price or $4,000. This credit will not be available if the sale price exceeds $25,000 or if the car was not purchased from a dealer. In addition, the credit does not apply where a taxpayer’s lessor AGI amount for the current or preceding tax year exceeds $150,000 for married filing jointly taxpayers, $112,500 for head of household taxpayers and $75,000 for all other taxpayers. Additional requirements may apply, so it will be important to look at all the requirements outlined in the law and other relevant IRS guidance.
- Purchasing commercial clean vehicles: This is a new vehicle category, and it will be eligible for a credit of 15% of its cost (30% if not powered by a gas or diesel internal combustion engine) with a maximum credit of $7,500 for vehicles with a GVWR of less than 14,000 pounds and $40,000 for all other qualified vehicles. This is for eligible vehicles placed in service before January 1, 2033. Note that the credit is further limited by the amount that the basis in the vehicle exceeds what the purchase price would have been for a comparable vehicle powered solely by a gasoline or diesel internal combustion engine.
- Installing a qualified alternative fuel vehicle refueling property: If your business has previously installed a qualified alternative fuel vehicle refueling property, you may already be aware of the credit available for doing so. The new law greatly expands the potential benefit of this credit — increasing the maximum credit amount from $30,000 to $100,000 and calculating it based on number of units, not per location, expanding it to include charging equipment, and providing a direct pay option or the ability to sell the credit.
Nonbusiness energy property credits: Modified and expanded nonbusiness energy property credits will now be available for certain qualified energy property. The rate of the credit has increased from 10% to 30%, and the lifetime cap on the credit has been replaced with a $1,200 annual limitation ($2,000 for heat pumps and biomass stoves). Product identification numbers for the eligible products are now required to be disclosed, and the aggregate annual limit is $600 per item of eligible property, $600 aggregate total for all exterior windows, $250 per exterior door, and $500 in the aggregate for exterior doors.
Energy generation, manufacturing and efficiency credits and clean fuel credits: There is a smorgasbord of additional green-related credits and incentives that will be available for certain targeted groups of eligible taxpayers, including:
- Expanded Energy Efficient Commercial Buildings deduction (§179D) and Energy Efficient Home Credit (45L), with an even larger deduction or credit available if prevailing wage and apprenticeship requirements are met
- Extension of Residential Clean Energy Credits for qualified energy-efficient property purchases
- Extension of renewable energy production tax credit and tax credit for business’s investment in renewable energy projects
- Significant direct investments in programs across more than a dozen federal agencies. Among other things, the act targets funding for “environmental justice” — presumably for solar and wind facilities in connection with low income, disadvantaged communities that may be disproportionately exposed to toxic pollution
- Other miscellaneous provisions provide new or expanded incentives for the following:
- Investments in energy efficiency across buildings and industries to reduce emissions and to save money for consumers and businesses
- Agricultural conservation investments
- Conservation programs
- Domestic manufacturing and energy infrastructure
- Renewable energy investments
- Domestic manufacturing of clean energy technologies
Federal agencies receiving this funding may need to build an infrastructure to help funnel the grants and other assistance through state and local agencies, many of which may also not yet have the necessary infrastructure or programs in place.
Once the programs start to take shape, manufacturers, builders, architects, energy producers, etc. may need to modify expansion plans in the hopes of qualifying for grants or other funding. Quite an industry of professional advisory groups is likely to emerge to help businesses maximize their available benefits.
Even though the over-arching goals and objectives have likely been in place and known to relevant stakeholders (and their lobbyists) for a while, detailed guidance will certainly be required to determine the practical application of these changes. Agencies may either be quick to release funds as evidence that they are doing their part in improving the environment, or they may be slower and more careful to ensure the funds are being well spent. Regardless, additional guidance will be needed on a timely basis from the IRS and other agencies to allow individuals and businesses to make informed spending decision and investment in capital projects.
Lastly, as you may be aware, whenever tax law uses the word “qualified,” it means that you need to take a look at all of the requirements outlined in the law and other relevant IRS guidance to fully understand the meaning. This article did not touch on any qualifications, but if you have questions about any part of the Inflation Reduction Act and how it may impact you, reach out to Wipfli.
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