Tax Credits for Electric Vehicles: What’s Changed with the US IRA?

President Biden signed the Inflation Reduction Act of 2022 (the “IRA”) into law on August 16, 2022. Among other things, the IRA expands the federal income tax credits available to promote the development and use of renewable energy. This Legal Update focuses on the provisions of the IRA relating to clean vehicles, including electric vehicles (“EVs”).

The IRA significantly expands the existing tax credits for clean vehicles under Section 30D and introduces new tax credits for certain used clean vehicles under Section 25E and for clean commercial vehicles under Section 45W.¹ It is important to note that the expansion of the tax credits under Section 30D comes with new eligibility conditions and other requirements that may significantly limit the ability of taxpayers to benefit from the expanded tax credits.

Section 30D Credit for New Electric Vehicles

The IRA substantially revised and extended the tax credit for purchases of new EVs placed in service after December 31, 2022.

Section 30D Extension and Expansions

Extension. The tax credit under Section 30D has been extended for qualifying vehicles placed in service through December 31, 2032.

Credit Amount. Under prior law, the tax credit was up to $7,500, with $5,000 of that amount calculated based on the battery capacity of the vehicle. The IRA does not change the $7,500 amount, but it changes the way to get to that amount: vehicles meeting a critical mineral requirement are eligible for a $3,750 tax credit, and vehicles meeting a battery components requirement are eligible for a $3,750 tax credit, with vehicles meeting both requirements being eligible for the $7,500 amount.

Vehicle Cap Removed. Under prior law, there was a manufacturer-specific phaseout once a manufacturer had sold at least 200,000 EVs in the US after 2009. The IRA eliminates the vehicle cap for vehicles sold after December 31, 2022. Vehicles manufactured by Tesla and General Motors and purchased in 2022 are not eligible for the Section 30D tax credit because these manufacturers exceeded the 200,000 vehicle threshold.

Transfer Option. Beginning in 2024, this tax credit will be transferable to the dealer selling the vehicle, provided the dealer registers with the US Department of the Treasury (“Treasury”) and satisfies certain requirements.

Section 30D New Limitations

MSRP Cap. Beginning in 2023, there is cap on the manufacturer’s suggested retail price (“MSRP”) of a vehicle to be eligible for this credit. Those caps are:

• $80,000 for SUVs, vans and pickup trucks
• $55,000 for other vehicles

Income Limits. Beginning in 2023, the new electric vehicle credit is not available to an individual with a modified adjusted gross income in excess of a specified limit based on the individual’s tax filing status. Those limits are:

• $300,000 for married filing joint and surviving spouse
• $225,000 for heads of household
• $150,000 for others, including single filers

New Clean Vehicle Requirements. In order for a vehicle to qualify for this tax credit, it must meet the following requirements:

• It must be a motor vehicle that is manufactured primarily for use on public streets, roads and highways and which has at least 4 wheels;
• The original use must commence with the taxpayer (that is, it must be new);
• It must be acquired for use or lease by the taxpayer and not for resale;
• It must made by made by a qualified manufacturer;
• It must be treated as a motor vehicle for purposes of title II of the Clean Air Act;
• It must have a gross vehicle weight rating of less than 14,000 pounds;
• It must be propelled to a significant extent by an electric motor that draws electricity from a battery which has a capacity of not less than 7 kilowatt hours and is capable of being recharged from an external source of electricity;
• The final assembly of the vehicle occurs within North America; and
• The seller of the vehicle provides a report with certain information, including the vehicle identification number (“VIN”).

Most of these requirements were unchanged, with the noteworthy addition being the requirement regarding final assembly in North America.

Final Assembly Requirement. The IRA adds the requirement that final assembly of the vehicle must occur within North America for vehicles sold after August 16, 2022. In that regard, the National Highway Traffic Safety Administration (“NHTSA”) maintains a website with a VIN decoder, which allows one to look up the location of a vehicle’s plant of manufacture. In addition, the US Department of Energy maintains a list of model year 2022 and early model year 2023 vehicles with final assembly in North America, based on information submitted by the manufacturer to NHTSA, and thus are likely to qualify for the tax credit. However, that list is not determinative because some models are built in multiple locations.

Battery Components Requirement.

As noted above, half of the total possible credit amount depends on meeting a battery components requirement, which requires that a certain percentage of the value of components contained in the battery must be manufactured or assembled in North America. The IRA requires Treasury to issue guidance to administer the changes to Section 30D, including the battery components requirement, with a December 31, 2022, deadline for proposed guidance. The minimum battery component manufacture or assembly percentage is as follows:

• 50% for vehicles placed in service after Treasury issues proposed guidance and during 2023
• 60% for vehicles placed in service in 2024 or 2025
• 70% for vehicles placed in service in 2026
• 80% for vehicles placed in service in 2027
• 90% for vehicles placed in service in 2028
• 100% for vehicles placed in service in 2029 through 2032

Critical Minerals Requirement.

As noted above, half of the total possible credit amount depends on meeting a critical minerals requirement, which requires that a certain percentage of the critical mineral components of the electric vehicle battery be extracted or processed in a country with which the US has a free trade agreement in effect or recycled in North America. The minimum critical mineral component percentage is as follows:

• 40% for vehicles placed in service after Treasury issues proposed guidance and during 2023
• 50% for vehicles placed in service in 2024
• 60% for vehicles placed in service in 2025
• 70% for vehicles placed in service in 2026
• 80% for vehicles placed in service in 2027 through 2032

Foreign Entities. Beginning in 2024, a vehicle may not contain any battery components that were manufactured or assembled by a foreign entity of concern. Beginning in 2025, a vehicle’s battery may not contain any critical minerals sourced from a foreign entity of concern.

Here is a table summarizing by year the battery components and critical minerals requirements:

Section 30D Transition Rule

Determining whether a vehicle purchased in 2022 is eligible for the Section 30D tax credit and the amount of the tax credit is subject to a variety of factors. In general, an EV that was purchased or was subject to a binding written contract for purchase before August 16, 2022 (the date of enactment of the IRA) should qualify for a tax credit up to $7,500 notwithstanding that the EV is not delivered until on or after August 16, 2022. The notable exceptions are vehicles manufactured by Tesla and General Motors, which had exceeded the vehicle caps that were previously part of Section 30D.

For vehicles purchased on or after August 16, 2022, and for which delivery occurs by the end of 2022, the requirement regarding final assembly in North America applies, but otherwise the law prior to enactment of the IRA applies, including the vehicle caps that disallow the tax credit for vehicles manufactured by Tesla or General Motors.

Section 30D Observations

As can be seen from the foregoing, the welcome extension of the tax credits under Section 30D and the elimination of the vehicle manufacturer caps have come at a significant cost in terms of the new limitations on who may get the tax credit, which EVs are eligible for the tax credit, and how much the tax credit may be worth. In particular, the rules regarding battery components and critical minerals, including restrictions relating to a “foreign entity of concern,” will prove challenging to meet and may mean very few EVs are actually eligible for these enhanced tax credits, at least in the near term.

Section 25E Credit for Previously Owned Electric Vehicles

The IRA establishes a new tax credit for purchases of previously owned EVs with a model year at least 2 years earlier than the calendar year in which the taxpayer acquires the vehicle. This credit will be the lesser of $4,000 and 30% of the sales price of the vehicle, which cannot be more than $25,000. The Section 25E credit applies only to vehicles acquired in 2023 through 2032.

Income Limits. This credit is not available to an individual with a modified adjusted gross income in excess of a specified limit based on the individual’s tax filing status. Those limits, which are half the limits for the new EV credit under Section 30D, are:

• $150,000 for married filing joint and surviving spouse
• $112,500 for heads of household
• $75,000 for others, including single filers

Other Limits. Only individuals who have not been allowed a credit for the purchase of a used EV in the 3 years prior to the purchase of the new EV are eligible for the used EV credit. The individual must purchase the vehicle for use and not for resale. In addition, the used EV credit can be claimed only once per vehicle.

Transfer Option. Beginning in 2024, the new EV credit will be transferable to the dealer selling the vehicle, provided the dealer registers with Treasury and satisfies certain requirements.

Section 45W Credit for Commercial Electric Vehicles

The IRA establishes a new tax credit for qualified commercial vehicles acquired after December 31, 2022, and before January 1, 2033. The tax credit under Section 45W shares many similarities with the tax credit under Section 30D, but there are also some very significant differences that may make the tax credit under Section 45W more attractive to taxpayers that acquire clean vehicles for use in their trade or business. However, the IRA directs Treasury to issue such regulations or guidance as it determines necessary to implement Section 45W, and such guidance may have a material commercial impact on the attractiveness of this new tax credit.

Credit Amount. The credit for qualified commercial clean vehicles is equal to the lesser of (i) 15% of the basis of the vehicle (30% in the case of a vehicle not powered by a gasoline or diesel internal combustion engine) and (ii) the “incremental cost” of the vehicle. The “incremental cost” is the excess of the purchase price of the vehicle over the price of a comparable vehicle, which is a vehicle powered solely by a gasoline or diesel internal combustion engine and which is comparable in size and use. The credit is capped at $7,500 per vehicle for vehicles with a gross vehicle weight rating of less than 14,000 pounds and $40,000 for other vehicles. Unlike the tax credit under Section 30D, the credit amounts under Section 45W are not subject to satisfying the critical minerals or battery component requirements and are not subject to income limits or MSRP caps.

Qualified Commercial Clean Vehicles Requirements. To qualify for the tax credit under Section 45W, a vehicle must meet the following requirements:

• It must be made by a qualified manufacturer;
• It must be acquired for use or lease by a taxpayer and not for resale;
• It must be treated as either (i) a motor vehicle for purposes of title II of the Clean Air Act and manufactured primarily for use on public streets, roads and highways (not including a vehicle operated exclusively on a rail or rails) or (ii) “mobile machinery” for purposes of the federal excise tax on heavy trucks;
• It either (i) is propelled to a significant extent by an electric motor that draws electricity from a battery which has a capacity of not less than 15 kilowatt hours (or, in the case of a vehicle that has a gross vehicle weight rating of less than 14,000 pounds, 7 kilowatt hours) and is capable of being recharged from an external source of electricity or (ii) is propelled by power derived from certain fuel cells (or meets certain emission standards established by the Environmental Protection Agency); and
• It must be subject to the allowance for depreciation. There is an exception to this requirement for any vehicle that is not subject to lease and that is placed in service by a tax-exempt entity other than a foreign person or entity. As discussed below, this exception means that the tax credit under Section 45W is available for vehicles owned by certain tax-exempt entities, which can monetize the credit using the “direct pay” option.

VIN Requirement. A taxpayer claiming the tax credit for any vehicle must include the VIN of that vehicle on its tax return.

Other Things of Note. We note two important distinctions in the vehicle eligibility requirements under Section 45W compared to the vehicle eligibility requirements under Section 30D. First, the requirements under Section 45W are significantly less burdensome and do not require assembly in North America or original use to commence with the taxpayer. Second, the universe of eligible vehicles has been expanded by including “mobile machinery” in the qualified commercial clean vehicle requirements, as well as certain fuel cell vehicles. Mobile machinery is generally understood to include many more types of vehicles than motor vehicles for purposes of title II of the Clean Air Act, including forklifts and commercial lawn mowers, and suggests that the tax credit under Section 45W may be available for taxpayers that acquire such vehicles even though these vehicles would not be eligible for a tax credit under Section 30D. However, it is difficult to reconcile this expansion of the eligibility requirements to include such vehicles with the requirement that these vehicles also have a VIN since mobile machinery traditionally has a serial number but does not typically have a VIN. This inconsistency should be addressed by Treasury in any guidance it issues.

No Double Benefit. No tax credit is available under Section 45W with respect to any vehicle for which a credit was allowed under Section 30D.

No Transfer Option. Unlike the tax credits under Section 30D and Section 25E, the tax credit under Section 45W may not be transferred to any other party.

Direct Pay Option. Prior to the IRA, tax-exempt entities were typically excluded from claiming renewable energy tax credits as both a practical matter and a technical matter. As a practical matter, a non-refundable tax credit has no value to a tax-exempt entity. As a technical matter, there are specific rules that deny renewable energy tax credits and accelerated depreciation to property that is owned, in whole or in part, by a tax-exempt entity. The IRA solved the technical issue with respect to Section 45W by allowing vehicles placed in service by tax-exempt entities, other than foreign persons or entities, to meet the qualification requirements under Section 45W. In addition, the IRA added a “direct pay” option under Section 6417, which solves the practical issue by substituting a cash payment for the tax credit under Section 45W for such tax-exempt entities. However, the IRA did not eliminate the restriction on tax-exempt entities with respect to accelerated depreciation. Thus, “direct pay” does not allow a tax-exempt entity that owns a qualified clean commercial vehicle to fully monetize the tax benefits of owning such a vehicle.

¹ Unless otherwise specified, all “Section” references are to the Internal Revenue Code of 1986, as amended (the “Code”).