The U.S. Department of the Treasury and IRS have released several pieces of guidance regarding the tax incentives for clean vehicles provided under Sections 30D (new clean vehicle credit), 25E (previously owned vehicle credit) and 45W (commercial clean vehicle credit) as modified and enacted by the Inflation Reduction Act of 2022 (IRA). For further information on this guidance, see Holland & Knight's previous alert, "Eyes on Energy Tax Update: January 2023," Jan. 26, 2023.
Most recently, a long-awaited notice of proposed rulemaking (NPRM) was issued under Section 30D. While comments are being requested from stakeholders, vehicles placed in service on or after April 18, 20231, will be subject to the critical mineral and battery component requirements laid out in the proposed regulations.
Background on the Clean Vehicle Tax Credit at Section 30D
The IRA greatly modified the existing Section 30D credit for consumers purchasing clean energy vehicles. The credit is equal to the sum of $3,750 if the critical mineral requirement is satisfied, plus $3,750 if the battery component is satisfied, equaling a potential total credit of $7,500.
- Under the critical mineral requirement, a certain "applicable percentage" of the battery must comprise critical minerals that were 1) extracted or processed in the U.S. or in any country with which the U.S. has a free trade agreement or 2) recycled in North America.
- The applicable percentage climbs over time: 40 percent if the vehicle is placed in service after April 18, 2023, and before 2024; 50 percent if the vehicle is placed in service in 2024; 60 percent if the vehicle is placed in service in 2025; 70 percent if the vehicle is placed in service in 2026; and 80 percent if the vehicle is placed in service after 2026.
- Under the battery component requirement, a certain "applicable percentage" of the battery components must have been manufactured or assembled in North America.
- The applicable percentage climbs from 50 percent if the vehicle is placed in service after April 18, 2023, and before 2024; 60 percent if the vehicle is placed in service in 2024 or 2025; 70 percent if the vehicle is placed in service in 2026; 80 percent if the vehicle is placed in service in 2027; 90 percent the vehicle is if placed in service during 2028; and 100 percent if the vehicle is placed in service after 2028.
- In addition to these requirements, both of which are focused on ensuring critical minerals and battery components are sourced in the United States or with trusted trading partners, in later years a vehicle will not qualify for the Section 30D credit if a "foreign entity of concern" was involved in the sourcing of the critical minerals or battery components. Specifically, the credit is not available for vehicles:
- placed in service after Dec. 31, 2024, with respect to which any of the applicable critical minerals contained in the battery of such were extracted, processed or recycled by a foreign entity of concern
- placed in service after Dec. 31, 2023, with respect to which any of the components contained in the battery of such vehicle were manufactured or assembled by a foreign entity of concern
The statute states that a foreign entity of concern includes an entity "owned by, controlled by, or subject to the jurisdiction or direction of a government of a foreign country that is a covered nation."2 While it is established which foreign countries are considered covered nations (e.g., China), the statute does not otherwise describe what it means to be owned by, controlled by or subject to the jurisdiction or direction of a covered nation's government.
Thus, the critical minerals and battery components rules under Section 30D can be summarized as follows based on the year the vehicle is placed in service:
2023
2024
2025
2026
2027
2028
2029-2032
CRITICAL MINERAL
Applicable Percentage
40%
50%
60%
70%
80%
80%
80%
Foreign Entity of Concern
N/A
N/A
Yes
Yes
Yes
Yes
Yes
BATTERY COMPONENT
Applicable Percentage
50%
60%
60%
70%
80%
90%
100%
Foreign Entity of Concern
N/A
Yes
Yes
Yes
Yes
Yes
Yes
In addition to the above requirements, there are a few others that must be met for Section 30D credit eligibility. First, the vehicle must have had its final assembly occur in North America. Second, a maximum manufacturer's suggested retail price (MSRP) limit applies per vehicle equal to $80,000 for vans, SUVs and trucks, and $55,000 for other vehicles. Third, a maximum modified adjusted gross income limit applies per individual consumer.3 Those with a modified adjusted gross income in excess of $300,000 for taxpayers married filing joint, $225,000 for taxpayers filing head of household and $150,000 for all others are not eligible for the credit. Finally, no credit is allowed for any vehicle placed in service after Dec. 31, 2032.
Holland & Knight Observation: The changes to Section 30D as a result of the IRA were significant. These changes reflect the sometimes competing goals of encouraging clean vehicle purchase, limiting reliance on foreign sources, encouraging manufacturing and assembly in the United States and North America, limiting the credits only to those consumers who are perceived as needing a credit to incentivize the purchase and then only for certain vehicles.
Notice of Proposed Rulemaking (NPRM)
Key to unlocking the Section 30D credit is ensuring the vehicle meets the rules related to critical minerals and battery components. In December 2022, the Treasury Department and IRS issued a White Paper foreshadowing the rules around the critical mineral and battery component requirements. The NPRM largely tracks the White Paper with respect to these requirements. The NPRM also sheds light on some of the other requirements.
Critical Minerals
As stated above, to meet the critical mineral requirement, the battery must comprise a certain "applicable percentage" of critical minerals that were 1) extracted or processed in the U.S. or in any country with which the U.S. has a free trade agreement or 2) recycled in North America. The applicable percentage through 2024 is 40 percent but increases over time under the law.
Under the guidance, to determine whether the applicable percentage has been met, the manufacturer of the vehicle will need to apply a three-step process to determine which critical minerals – and the value of which critical minerals – get counted towards the meeting the requirements. In sum, the three-step process is a 50 percent value-add test. That is, the process requires manufacturers to look to the location(s) where 50 percent or more value was added to the critical mineral. If 50 percent of the value was added in the U.S. or in a free trade country (or recycled in North America), the value of the critical mineral goes into the numerator, helping the vehicle reach the appliable percentage.
Step One. The manufacturer will have to determine the procurement chain or chains for each applicable mineral in the battery. Applicable minerals are those referenced in Section 45X of the Internal Revenue Code.4
Step Two. The manufacturer will then have to determine which applicable critical minerals are considered qualifying critical minerals. By statute, this requires consideration of applicable critical minerals that were 1) extracted or processed in the United States or any country with which the United States has a free trade agreement or 2) recycled in North America. Under the NPRM, manufacturers look to where the value was added to the critical mineral. An applicable critical mineral becomes a qualifying critical mineral either if:
- 50 percent or more of the value added to the applicable critical mineral by extraction is derived from extraction that occurred in the United States or in any country with which the United States has a free trade agreement in effect
- 50 percent or more of the value added to the applicable critical mineral by processing is derived from processing that occurred in the United States or in any country with which the United States has a free trade agreement or
- 50 percent or more of the value added to the applicable critical mineral by recycling is derived from recycling that occurred in North America
Holland & Knight Observation: While the applicable percentage (40 percent for 2023 and 2024) cannot be modified given its legal underpinnings, the 50 percent value add test is a function of agency guidance. In the NPRM, the Treasury Department and IRS suggest that stricter guidance could be announced and applicable for later years. The Treasury Department and IRS suggest that such stricter guidance could include requiring more value be added to critical minerals in the U.S. or any country with whom there is a free trade agreement (for example, changing the 50 percent value-add test to a 60 percent value-add test).
Holland & Knight Observation: One of the more interesting developments in the notice of the proposed rulemaking is how it addressed those countries with whom the U.S. has a free trade agreement. As stated above, under the statute a "qualifying critical mineral" is an applicable critical mineral that is extracted or processed in the United States, or in any country with which the United States has a free trade agreement in effect, or recycled in North America. As the term "free trade agreement" is not defined in the IRA or in the Code, the NPRM took a more expansive view in defining this term. Rather than define the term more narrowly as those countries with whom the United States has a comprehensive trade agreement (e.g., Australia, Canada and Mexico), the NPRM propose criteria that would be consider in identifying countries. Under such criteria, Japan is included, and the NPRM suggests other countries will be added as well.
Step Three. Once a manufacturer has determined which applicable critical minerals are qualifying critical minerals and which are not, total values are compared to determine whether the percentage requirements have been met.
Battery Components
Similar to the critical minerals requirement, the battery component requirement necessitates the performance of a multi-step process to determine and compare the value of battery components5 manufactured or assembled in North America to all battery components in a battery.
Step One. Manufacturers must determine whether each battery component in a battery was manufactured or assembled in North America. A "battery component for which substantially all of the manufacturing or assembly of which occurs in North America, without regard to the location of the manufacturing or assembly activities of the components that make up the particular battery component" is considered a "North American Battery Component."
Step Two. The manufacturer must determine the incremental value of each battery component, if any. Incremental value is defined as the value of each battery component minus the value of the manufactured or assembled battery components it contains.
Step Three. Total the incremental value for all components contained in the vehicle's battery, regardless of location of assembly and manufacturing.
Step Four. Divide the total incremental value of all North American Battery Components by total incremental value of all battery components. The result of this step is used to determine if the applicable percentage required has been met.
The White Paper provides a visual of this stepped test on page 8, which remains accurate in the NPRM.
Holland & Knight Observation: Unlike the critical minerals requirement, the Treasury Department and IRS did not announce in the NPRM their intent to impose stricter rules in later years. However, similar to the critical minerals requirement, the battery component requirement still necessitates tracking of battery components.
Manufacturers were given some flexibility in the proposed regulations on the dates on which the values can be calculated. Specifically, they can chose a date for a specific vehicle, or they can average across a group of similar vehicles. However, for the critical minerals requirement, the date must be after the final processing or recycling step.
Foreign Entity of Concern
Notably absent from the NPRM is how the Treasury Department and IRS will define what is a foreign entity of concern. As discussed above, vehicles placed in service after Dec. 31, 2023, are subject to these rule as it relates to battery components, followed one year later by effective date for critical minerals.
The NPRM states that guidance on this topic is forthcoming.
Holland & Knight Observation: The Treasury Department and IRS recently released a NPRM under Section 48D – the new credit available to advanced manufacturing facilities of semiconductors or semiconductor equipment – which defines foreign entity of concern and may be instructive as to how the term will be defined under Section 30D.6
Vehicles That Qualify with NPRM
Vehicles placed in service on or after April 18, 2023, must meet the critical minerals and battery sourcing requirements to claim the credit. Manufacturers of these vehicles will have to certify that they meet these requirements. Consumers interested in the credit can rely on these manufacturers to determine if the vehicle qualifies; however, to aid consumers in determining whether the vehicle they purchased meets these requirements, IRS maintains a list of qualifying vehicles.
Holland & Knight Observation: IRS has taken significant steps educate consumers to help ensure they are making informed decisions on whether the vehicle they are purchasing qualifies for the credit. Nevertheless, the various effective dates make this challenging. For example, for a consumer entering into a binding contract to purchase a vehicle prior to April 18, 2023, the vehicle need not meet the critical mineral and battery component rules announced in the NPRM, regardless of when the purchaser takes delivery of the vehicle.
Conclusion
The NPRM provided clarity on the critical minerals and battery component requirements. While the NPRM solicits comments, it appears the Treasury Department and IRS have weighed the various stakeholder interests and come to near-final rules as related to vehicles placed in service in 2023 and 2024. Unfortunately, these rules require significant changes for manufacturers to track procurement chains in order to confirm whether a vehicle meets the requirements. The Treasury Department and IRS have also announced their intent to impose stricter rules in future years on the critical minerals requirement, perhaps increasing the 50 percent value-add test discussed above. The possibility of additional stricter rules and the open issues that remain looming under Section 30D, e.g., what is the definition of a foreign entity of concern, requires that all stakeholders monitor the evolving landscape.
Notes
1 The effective date is tied to when the NPRM will publish in the Federal Register.
2 The IRA references the Infrastructure Investment and Jobs Act (42 U.S.C. 18741(a)(5)) for the definition of foreign entity of concern. To date, guidance has not further clarified this definition.
3 The Section 30D credit is available for businesses and individuals. The Treasury Department and IRS have clarified that the income limit only applies to individuals, not corporations. (In the case of a clean vehicle placed in service by a partnership or S corporation, where the Section 30D credit is claimed by individuals who are direct or indirect partners of that partnership or shareholders of that S corporation, the income limit will apply to those partners or shareholders.) Despite Section 30D being available to businesses, the IRA created another tax credit – found at Section 45W – that incentivizes business to purchase electric vehicles (EVs) and machinery. Importantly, however, Section 45W does not include rules regarding critical minerals or batteries, and therefore it is anticipated that many businesses will pursue the Section 45W tax credit rather than the Section 30D tax credit, and many individuals indirectly may seek to benefit from the Section 45W credit by leasing a clean energy vehicle.
4 See I.R.C. §45X(c)(6). See also Congressional Research Report (Aug. 29, 2022), the critical minerals used in EV batteries that are in short supply were identified as lithium, cobalt, manganese, nickel and graphite.
5 Consistent with the White Paper issued in December 2022, the NPRM draws a distinct line between what is considered a critical mineral and what is considered a battery component. Examples of a battery component include a cathode electrode, anode electrode, battery cell and battery module, i.e., any piece of the assembled battery that contributes to the electrochemical energy storage. Such battery components may or may not include critical minerals.
6 Notice of Proposed Rulemaking, 88 FR 17451 (March 23, 2023).