What is the Inflation Reduction Act of 2022
The goal of the Inflation Reduction Act (IRA) of 2022 is to “make a historic down payment on deficit reduction to fight inflation, invest in domestic energy production and manufacturing, and reduce carbon emissions by roughly 40 percent by 2030.” But what will it actually do?
We have prepared a content series to give you a summarized insight into what is contained within the Inflation Reduction Act as well as what it means for you! While there are many aspects to the bill – from climate change to corporate tax rates and even energy production, our summary is not meant to be all inclusive, but focus on the items we are best suited to advise you on – your taxes and accounting. If you want to skip ahead and read the entire thing, go to our blog to read more via the link below.
- IRS Funding
- 15% AMT
- 1% Excise Stock Buyback
- Excess Business Loss Limitations Update
- Premium Tax Credit Update
- Energy Efficient Home Improvement Credit
- Residential Clean Energy Credit
- Alternative Fuel Refueling Property
- Preowned Clean Vehicle Credit
- High-Efficiency Electric Home Rebates
Inflation Reduction Act – IRS Funding
While the IRS has been sounding the alarm for years about being underfunded and being unable to deliver on its duties, this may be one of the most controversial pieces of the Inflation Reduction Act (IRA). The IRA increases the IRS budget by roughly $80 billion over 10 years. The money is broken into four main categories:
- enforcement,
- operations support,
- business system modernization,
- and taxpayer services—
- a few other small items such as an exploratory study on the potential of a free-file system.
To contextualize the proposed appropriations amount, the IRS had actual expenditures of $13.7 billion in fiscal year 2021. That number includes supplemental funding so that the agency could handle COVID-19-related expenses. This means that with the IRA, an increase that averages out to roughly $8.9 billion per year would represent a significant boost to the agency’s budget.
Specifically, the IRA provides $3.18 billion for taxpayer services, $45.64 billion for enforcement, $25.33 billion for operations support, and $4.75 billion for business systems modernization. It also provides $15 million for the IRS to deliver a report to Congress detailing the cost and feasibility, among other factors, of developing a free direct e-file tax return system.
The IRA notes that none of the IRS appropriated funds may be used by the IRS to increase taxes on taxpayers with income below $400,000, but how will this work in practice? It is generally known that audit rates increase as income rates also increase, but with the additional revenue to increase the number of staff and improve operations, the number of IRS letters and audits will surely rise across the board. Since 2010, funding for the IRS has been cut by 19% and audits are at their lowest levels in a decade. This additional funding will likely mean more letters and audits for all. The Congressional Budget Office estimates that such measures allow the IRS to raise $124 billion in revenue.
Enforcement funding has several functions: “to determine and collect owed taxes, to provide legal and litigation support, to conduct criminal investigations (including investigative technology), to provide digital asset monitoring and compliance activities, to enforce criminal statutes related to violations of internal revenue laws and other financial crimes, to purchase and hire passenger motor vehicles.”
IRS funding for operations support will support taxpayer services and enforcement programs, including “rent payments; facilities services; printing; postage; physical security; headquarters and other IRS-wide administration activities; research and statistics of income; telecommunications; information technology development, enhancement, operations, maintenance, and security; the hire of passenger motor vehicles.”
If you have tried to call into the IRS or receive any sort of advice, you know how much of an issue this most recent point is. Considering the lack of focus on taxpayer service relative to enforcement, with taxpayer service seeing a 9 percent budget increase while enforcement funding rises by 69 percent, increased compliance costs for taxpayers is a legitimate concern.
The IRS funding increase should raise additional revenue and help shrink the tax gap, while imposing some additional compliance costs along the way. The package has some win-win propositions, such as investment in informational technology, that should reduce the tax gap and reduce compliance costs for taxpayers at the same time.
However, the biggest win-win from the perspective of reducing both the tax gap and taxpayer compliance costs is simplification. A simpler tax code is both easier for taxpayers to follow and the IRS to enforce. And unfortunately, the bill does not take significant steps towards simplification—instead, it adds several credits along with a complicated new corporate book minimum tax that we will go into later.
More information on this here: https://crsreports.congress.gov/product/pdf/IN/IN11977
Inflation Reduction Act of 2022- 15% Corporate Alternative Minimum Tax (CAMT)
The Inflation Reduction Act (IRA) recently passed includes an alternative minimum tax on companies that at first glance may seem like it was inspired by (or at least might be like) the global minimum tax. Both taxes are aimed at large companies, use financial accounting rules for the tax base, and apply a 15 percent rate. That is where the similarities end.
The corporate alternative minimum tax in the Inflation Reduction Act provides an exemption for tax credits and costs for capital investments. This means that even if a tax credit or a significant purchase of machinery pushes a company’s tax rate on their financial statement below 15 percent, those credits and deductions would not get clawed back by the minimum tax.
The Corporate Alternative Minimum Tax (CAMT) applies to any corporation (other than an S corporation, regulated investment company, or real estate investment trust) whose average annual AFSI exceeds $1 billion for any three consecutive tax years preceding the tax year.
As most of the businesses we interact with will not be impacted by this tax, we will simply summarize the 15% CAMT, here are a few crucial points to note: The new tax will require companies to compute two separate calculations for federal income tax purposes and pay the greater of the new minimum tax or their regular tax liability. To determine whether the new tax applies, companies must first ascertain whether their “average annual adjusted financial statement income” (AFSI) exceeds $1 billion for any three consecutive years preceding the tax year. Affected companies must make several adjustments to AFSI when determining the new tax.
The Act limits general business credits and AMT foreign tax credits for creditable foreign income taxes paid or accrued by controlled foreign corporations (CFCs). Comprehensive modeling can help applicable corporations consider and plan for any potential increase in their federal income tax liability.
More details on the 15% AMT here: https://www.ey.com/en_gl/tax-alerts/us-inflation-reduction-act-includes-15-corporate-minimum-tax-on-income
Inflation Reduction Act – 1% Excise Stock Buyback
The Inflation Reduction Act calls for a new 1 percent excise tax on stock buybacks, the argument being it would be better for the economy if firms invested their surplus cash in the business, rather than returning this value to shareholders. However, research suggests that buybacks do not hinder investment opportunities, and actually help support a dynamic economy.
When firms have excess cash, they can either retain it or return it to the shareholders. One method of returning this value to the shareholders is through a dividend payment, which is usually paid at a scheduled frequency. However, firms can also repurchase the shareholder’s stock. In general, when firms opt to return value to shareholders, it is because they have exhausted all potential investment opportunities. To put it another way: Firms are not distributing cash in lieu of investment, but rather after they have already made their investments. This is why older, mature firms tend to issue dividends whereas younger, growth-oriented firms are more inclined to reinvest their earnings.
Shareholders that receive income from a stock repurchase can use their cash either for consumption or to pursue new investment opportunities. The latter is what drives economic growth. In this sense, stock buybacks enable investors to fund smaller firms and start-ups where the opportunities for growth and innovation can be much greater than that of established firms. Not all stock buybacks are covered by the tax, and there are a number of exceptions that may apply to limit the impact of the Buyback Tax. The Buyback Tax is effective for transactions occurring in taxable years after December 31, 2022. Overall, the new buyback tax introduces uncertainties and potential downsides in terms of the efficient allocation of capital.
Inflation Reduction Act of 2022 – Excess Business Loss Limitations Update
A pass-through or flow-through business is one that reports its income on the tax returns of its owners. That income is taxed at their individual income tax rates. Examples of pass-throughs include sole proprietorships, some limited liability companies, partnerships and S-corporations. The IRA limits the ability of pass-throughs to use big paper losses to write off costs like salaries and interest. That limit — called the Limitation on Excess Business Losses — is currently already in place. It was scheduled to end starting in 2027, but the new bill would extend the restriction for an additional two years. The limitations can theoretically apply to any pass-through business that runs up a big operating loss each year. But real estate businesses — which can use rules around depreciation to consistently rack up big losses on paper — are likely among the most affected categories. However, the business losses don’t necessarily disappear forever. Owners may be able to defer the tax benefits to future years, if Congress doesn’t extend the limitation again.
Inflation Reduction Act – Premium Tax Credit Update
The favorable premium tax credit rules adopted in the American Rescue Plan Act (ARPA) will now remain in effect through 2025. As background, the Affordable Care Act (ACA) created a refundable premium tax credit, which is available on a sliding-scale basis for individuals and families who are enrolled in an Exchange health plan and who are not eligible for other qualifying coverage or affordable employer-sponsored health insurance plans providing minimum value. ARPA expanded the ACA premium tax credit for taxable years 2021 and 2022. The ACA limits the credit to taxpayers with household income between 100% and 400% of the federal poverty line who purchase insurance through an Exchange. ARPA eliminated the upper income limit for eligibility and increased the amount of the premium tax credit by decreasing, in all income bands, the percentage of household income that individuals must contribute for Exchange coverage. The adjusted percentage ranges from zero to 8.5%. [Indexing was to have resumed in 2023, with the percentage set to range from 1.92% to 9.12%. The new legislation supersedes the previously released indexing adjustments, which instead will continue to range from zero to 8.5% through 2025.]
Inflation Reduction Act – Energy Efficient Home Improvement Credit
If you’re planning a few home improvements that will boost the energy efficiency of your house, you may save some money on your projects now that the Inflation Reduction Act has been signed into law. One of the bill’s main goals is to address climate change and slow down global warming. And while the legislation primarily helps businesses adopt more eco-friendly measures and jump-start clean energy production, there are incentives for ordinary Americans to go green and save some green, too.
For example, homeowners can cut their tax bill even more if they install new energy-efficient windows, doors, water heaters, furnaces, air conditioners, and the like. That’s because the legislation extends and enhances two tax credits that reward “green” upgrades to your home.
One of the tax credits that homeowners may be familiar with – the Nonbusiness Energy Property Credit – actually expired at the end of 2021. However, the Inflation Reduction Act brings it back to life, improves it substantially, and even gives it a new name – the Energy Efficient Home Improvement Credit.
The old, expired credit was worth 10% of the costs of installing certain energy-efficient insulation, windows, doors, roofing, and similar energy-saving improvements in your home. You could also claim the credit for 100% of the costs associated with installing certain energy-efficient water heaters, heat pumps, central air conditioning systems, furnaces, hot water boilers, and air circulating fans.
However, there was a lifetime limit of $500 for the credit (e.g., credits taken in previous years counted towards the limit). There was also a $200 lifetime limit for new windows. These limits severely restricted the overall value of the credit. There were also other individual credit limits for air circulating fans ($50); some furnaces and boilers ($150); and certain water heaters, heat pumps, and air conditioning systems ($300).
The credit is revived for the 2022 tax year, and the old rules apply. However, starting in 2023, the credit will be equal to 30% of the costs for all eligible home improvements made during the year. It will also be expanded to cover the cost of certain biomass stoves and boilers, electric panels and related equipment, and home energy audits. Roofing and air circulating fans will no longer qualify for the credit, though. Some of the energy-efficiency standards will be updated as well.
In addition, the $500 lifetime limit will be replaced by a $1,200 annual limit on the credit amount (the lifetime limit on windows will go away, too). So, if you spread out your qualifying home projects, you can claim the maximum credit each year. The annual limits for specific types of qualifying improvements will also be modified – and for the better. Beginning in 2023, they will be:
- $150 for home energy audits;
- $250 for an exterior door ($500 total for all exterior doors);
- $600 for exterior windows and skylights; central air conditioners; electric panels and certain related equipment; natural gas, propane, or oil water heaters; natural gas, propane, or oil furnaces or hot water boilers; and
- $2,000 for electric or natural gas heat pump water heaters, electric or natural gas heat pumps, and biomass stoves and boilers (for this one category, the $1,200 annual limit may be exceeded).
For eligible home improvements after 2024, no credit will be allowed unless the manufacturer of any purchased item creates a product identification number for the item, and the person claiming the credit includes the number on his or her tax return.
Read more here: https://www.kiplinger.com/taxes/605069/inflation-reduction-act-tax-credits-energy-efficient-home-improvements
Inflation Reduction Act 2022 – Residential Clean Energy Credit
The second credit homeowners are eying is the current Residential Energy Efficient Property Credit, which also gets a new name under the Inflation Reduction Act. It’s now called the Residential Clean Energy Credit. The credit, which was previously scheduled to expire in 2024, is extended through 2034 as well. In addition to a name change and extension, the Inflation Reduction Act also boosts the credit amount.
Previously, the credit was worth 26% of the cost to install qualifying systems that use solar, wind, geothermal, biomass or fuel cell power to produce electricity, heat water or regulate the temperature in your home. (The credit for fuel cell equipment is limited to $500 for each one-half kilowatt of capacity.)
The credit amount was also scheduled to drop to 23% in 2023 and then expire in 2024. Under the Inflation Reduction Act, the credit amount jumps to 30% from 2022 to 2032. It then falls to 26% for 2033 and 22% for 2034. The credit will then expire after 2034.
The scope of the credit is adjusted under the Inflation Reduction Act, too. Starting in 2023, it no longer applies to biomass furnaces and water heaters, but it will apply to battery storage technology with a capacity of at least three kilowatt hours.
Inflation Reduction Act – Alternative Fuel Refueling Property Credit
The tax credit for purchasing an electric vehicle was also revamped by the Inflation Reduction Act. However, a related tax credit that may interest certain homeowners was also impacted by the legislation. The Alternative Fuel Refueling Property Credit expired at the end of 2021, but the Inflation Reduction Act gave it life again by extending its application through 2032. For homeowners, the credit is worth 30% of the costs of “qualified alternative fuel vehicle refueling property” installed in the home, up to $1,000.
For most homeowners, the “qualified alternative fuel vehicle refueling property” they might purchase is equipment used to recharge an electric vehicle. (The credit also applies to equipment used to store or dispense an alternative fuel (other than electricity) for motor vehicles.) Starting in 2023, the Inflation Reduction Act also clarifies that the credit applies to the purchase of “bidirectional” charging equipment, which can charge the battery of an electric vehicle and allow you to discharge electricity from the battery back out to the electric grid.
Inflation Reduction Act of 2022 – Preowned Clean Vehicle Credit
One of the provisions of the IRA is to provide tax credits to those who purchase eligible electric vehicles (EVs).
The Department of Energy explained on its website that the act amends the “qualified plug-in electric drive motor vehicle credit” — which will now be known as the “clean vehicle credit” — and adds a new requirement for final assembly to be performed in North America that took effect on Aug. 16, 2022.
The act extends $7,500 in tax credits to EV owners but puts a cap on claimant salaries. For joint returns that cap would be $150,000, for head of household it is $112,500, and for a single taxpayer it is $75,000, according to the text of the bill. It also contains incentives concerning the purchase of used electric vehicles. As of Jan. 1, EV purchasers can receive a $4,000 credit. However, the sale price of the vehicle can’t exceed $25,000, according to the text of the bill.
The Internal Revenue Service (IRS) detailed that consumers can verify whether an EV meets the final assembly requirement by searching the vehicle identification number (VIN) of the vehicle on the VIN decoder website via the National Highway Traffic Safety Administration (NHTSA).
To find out if your vehicle may be eligible for the Clean Vehicle Credit, learn more here: https://www.gobankingrates.com/taxes/tax-laws/inflation-reduction-act-why-isnt-my-car-on-the-clean-vehicle-credit-list/
Buying a used electric car is going to get a lot cheaper for some shoppers in the near future, but not everyone. Starting January 1, consumers may be eligible for a tax credit for used or previously owned cars and businesses may be eligible for a new commercial clean vehicle credit.
Along with an updated federal tax credit scheme for new plug-in car purchases, the recently passed Inflation Reduction Act includes the first credit for used electric car purchases. It doesn’t go into effect until 2024 and won’t apply to a lot of the cars you find on Craigslist or Facebook Marketplace, however.
The credit is only available for vehicles that are sold through a licensed dealer for $25,000 or less and have been in service for at least two years. It is only valid for the first time a vehicle is being resold from new.
The amount of the credit is $4,000 or 30%, whichever is lower, so it maxes out on vehicles priced below $13,500, but income limits also apply and are half of those for the new electric car credit.
Inflation Reduction Act – High-Efficiency Electric Home Rebates
Although not a tax credit, the High-Efficiency Electric Home Rebate Program will also help American families go green. The program, which was added by the Inflation Reduction Act, will provide rebates to low- and middle-income families who purchase energy-efficient electric appliances. To qualify for a rebate, your family’s total annual income must be less than 150% of the median income where you live.
Qualifying homeowners can get rebates as high as:
- $840 for a stove, cooktop, range, oven, or heat pump clothes dryer;
- $1,750 for a heat pump water heater; and
- $8,000 for a heat pump for space heating or cooling.
Rebates for non-appliance upgrades will also be available up to the following amounts:
- $1,600 for insulation, air sealing, and ventilation;
- $2,500 for electric wiring; and
- $4,000 for an electric load service center upgrade.
There are limits on the amount certain families can get, though. For instance, a rebate can’t exceed 50% of the cost of a qualified electrification project if the family’s annual income is between 80% and 150% of the area median income. Each qualifying family will also be limited to no more than $14,000 in total rebates under the program.
The $4.5 billion to be allocated for rebates will be distributed to families through state and tribal governments that establish their own qualifying programs. The funds will be available through September 30, 2031.
Inflation Reduction Act of 2022 Conclusion
If you have questions about your personal circumstances, please give us a call! Tax law is extremely nuanced, and you need to know how these the Inflation Reduction Act of 2022 apply to your individual facts and circumstances. We’d love to help you. Give us a call at 281-440-6279 or email us at info@molentax.com to learn more.
