One of the goals of the Inflation Reduction Act of 2022 was to create incentives for U.S. manufacturing of specific components related to renewable energy. One key device for this is the Section 45X Advanced Manufacturing Production Tax Credit that provides generous tax credits for making specific components within the United States, including solar and wind energy components, inverters, qualifying battery components and “critical minerals.”
On Dec. 14, 2023, the U.S. Department of the Treasury and the IRS released guidance to detail the rules under Section 45X and put the credit into practice. This alert summarizes the key points of the Section 45X proposed regulations.
General Rules and Definitions
The first section to the proposed regulations provides detailed guidance and definitions needed to evaluate whether a Section 45X credit may be claimed. The baseline requirement of the law is that a credit-eligible product must be “produced by the taxpayer” in the United States or its territories and sold by the taxpayer to an unrelated party.
The term “produced” is defined to require a significant transformation of the underlying components or raw materials, rather than just engaging in assembly or minor modification. For solar grade polysilicon, electrode active materials and applicable critical minerals, the proposed regulations give a specified definition of produced, which means “processing, conversion, refinement, or purification of source materials, such as brines, ores, or waste streams, to derive a distinct eligible component.” Although production of the credit-eligible component must occur in the United States, the rules do not require U.S.-sourced raw materials or subcomponents — effectively meaning taxpayers will have to scrutinize only the production aspects and can buy materials from the most economic sources.
The proposed regulations also introduce a provision for determining the claimant of the Section 45X credit in contract manufacturing scenarios, based on certifications and contract terms. The default rule states that the party that is directly involved in the transformative production process is the party that may claim the credit. However, in a contract manufacturing arrangement, parties may agree to shift the credit claim if (i) the agreement is entered into before the production of the eligible component is completed, (ii) the contract is not for a routine purchase of off-the-shelf items or for minor modifications, and (iii) all relevant contracting parties provide signed certification statements indicating which person shall claim the credit (without which, the IRS may not respect such credit-shifting).
Finally, the proposed regulations include an anti-abuse rule to deny the Section 45X credit to prevent exploiting the credit system, particularly in cases where components are produced and sold and then subsequently wasted or destroyed. The IRS will evaluate this on a facts-and-circumstances basis, but it is not intended to apply to waste or destruction that occurs honestly. The rule specifies that this is meant to address the odd case where the sale of a credit-eligible component would result in a tax benefit exceeding the cost of producing the component.
Sales to Unrelated Persons
To generate the Section 45X credits, the eligible components must be sold to an unrelated person. In general, the proposed regulations define an unrelated person as a person who is not described under the regulations for Section 52(b) — i.e., a person that would not be treated as a single employer with the credit claimant. However, the proposed regulations provide that, in certain circumstances, a taxpayer may make a “related person election” in the form and manner to be prescribed by the secretary of the Treasury, and for the purposes of the Section 45X credit, a sale of components by the taxpayer to a related person will be treated as if made to an unrelated person.
From the examples in the rules, this appears to be an attempt to provide relief for sales of subcomponents among members of a consolidated group (or other types of commonly controlled entities) for integration into components and ultimate sales to unrelated parties. Treasury and the IRS seem to be aware that taxpayers making credit-eligible subcomponents otherwise could be excluded from this credit altogether unless they engage in an otherwise unnecessary business reorganization.
Eligible Components and Related Credit Values Defined
Section 45X is a production tax credit, so the value a taxpayer may realize depends on both (i) the type of eligible component made and sold, and (ii) volume of sales. The proposed regulations help fill in gaps from the Section 45X statute itself with instructions on how to calculate the credit value for eligible components.
- “Solar Energy Components” include solar modules, photovoltaic cells, wafers, solar-grade polysilicon, torque tubes, structural fasteners and polymeric backsheets — each of which is defined. Several of these receive a credit based on a measurement of size, such as mass or area of the component produced. For others that calculate credit value based on capacity, this is measured in direct current watts under standardized tests prescribed by the International Electrotechnical Commission.
- “Wind Energy Components” include blades, nacelles, towers, offshore wind foundations and related offshore wind vessels — each of which is defined. Offshore wind vessels receive a credit of 10% of the sale price, excluding any part of the price attributable to maintenance, services or other similar items. The remainder calculate credit value based on capacity of the finished wind turbine, certified to the relevant national or international standards.
- “Inverters” include central inverters, commercial inverters, distributed wind inverters, microinverters and residential inverters — as long as these end products are suitable to convert direct current electricity from one or more solar modules or wind energy systems into alternating current electricity. Each inverter has a detailed technical definition, and its credit value is tied to its capacity.
- “Qualifying Battery Components” include electrode active materials, battery cells and battery modules. These three items are included in the Section 45X statute, and the proposed regulations expand the credit’s scope to include additional components such as electrolytes, catholytes, anolytes, separators and various metal salts and oxides. Each component has a detailed technical definition and a credit value tied to its capacity or its production cost. Production costs include direct costs for production of the refined product, items such as labor and electricity consumed, but exclude acquisition or extraction costs of raw materials.
Each section of this detailed part of the proposed regulations includes a need for taxpayers to generate and keep detailed records to establish the eligibility for the credit, including details about the hard and soft costs includable in producing items such as “electrode-active materials.” These credits begin to phase out after Dec. 31, 2029, with the value dropping by 25% each year until the credit elapses fully on Jan. 1, 2033.
Clarity on Credits for Critical Minerals
Section 45X provides a list of 50 critical minerals and their various characteristics needed for eligibility purposes. The proposed regulations do not divert from this, but they do provide additional details on specific requirements for critical minerals such as minimum purity standards. The credit value for these critical minerals is set at 10% of the production cost, which the proposed regulations define to be consistent with production costs for battery materials, i.e., excluding the acquisition and extraction costs of the raw materials, and also excluding expenses incurred after the production of the critical mineral itself or for its integration into another product. Unlike the eligible component credits, the credits for critical materials do not phase out over time.
The advanced manufacturing credit is one of the federal credits eligible for Direct Pay through Section 6417. This applies for Section 45X even if the potential claimant is a taxpayer and not in the select group of non-taxable entities that may broadly seek direct payments for essentially all energy tax credits. This opportunity is available for a taxpayer for a five-year period that may begin in any taxable year after Dec. 31, 2022, in which the electing taxpayer has produced eligible components, and for each of the four subsequent taxable years ending before Jan. 1, 2033.
Notice and Comment on These Proposed and Temporary Regulations
These proposed regulations were published in the Federal Register on Dec. 15, 2023, and may be relied upon for taxable years beginning after Dec. 31, 2022. They are subject to a notice and comment period before they will be made final and interested parties are requested to submit comments by Feb. 13, 2024.
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