Government Provides Clarification on New EV Tax Credits

Government Provides Clarification on New EV Tax Credits

August 23, 2022 — President Biden signed the Inflation Reduction Act into law a week ago. The new law enacts several changes to the tax credit available for new electric vehicles.

As we noted prior to the law’s signing, many of the changes are confusing and needed clarification from the government. In the last week, the Department of Energy, the Department of Treasury and the Internal Revenue Service have published documents answering several questions about the new credits (See below).

Here’s what we know:

  • Beginning immediately, eligible vehicles must be built in North America (U.S., Mexico, Canada).
  • Effective January 1, 2023, the new law eliminates the 200,000 sales cap that currently disqualifies General Motors and Tesla vehicles.
  • Effective January 1, 2023, the new law enacts salary requirements and pricing levels that have to be met in order for a vehicle to qualify.
  • Effective January 1, 2023, the law requires a percentage of battery components (including minerals) be sourced from the U.S. or one of its free trade partners. This percentage increases each year through 2028. The federal tax credit remains $7,500, but is now split evenly between battery minerals and battery components.
  • Beginning January 1, 2024, used electric vehicles become eligible for up to a $4,000 tax credit.

Despite the new answers, the bill adds several specifications to whether vehicles qualify for the tax credit, and remains confusing. To help offset any potential ire from customers thinking they may qualify, dealers (including sales people and F&I personnel) should understand the basics of the new tax credits and be able to walk through the documents provided below with customers.

Tax Credit FAQs from the Treasury Department: This two-page guide provides a broad outline of the new credits including what is eligible and how customers can claim the credits.

IRS Definition of a Binding Contract, Final Assembly Requirement, & Transition Rule: This document tells how to determine whether an electric vehicle meets the requirement of being assembled in North America (U.S., Mexico, Canada). It also provides guidance on the transition for vehicles purchased before August 16, 2022 and whether they are eligible. The IRS also defines what constitutes a binding contract.

Once the law was signed, several vehicles immediately became ineligible for the federal tax credit because they are built outside of North America. However, customers who had entered into a binding contract prior to August 16 to purchase one of those vehicles, may still remain eligible for the tax credit.

Department of Energy Alternative Fuels Data Center: This handy document removes much of the confusion by providing a list of vehicles that qualify for the credit based upon the North American assembly requirement.

This list is a moving target, though. For example, the Volkswagen ID.4 is not currently eligible because it is manufactured in Germany. But, VW started building it in Chattanooga, TN in July. Those vehicles, hitting dealer showrooms around October, will be eligible.

Salary and Pricing Qualifications

As of now, 21 vehicles still qualify — at least through December 31, 2022, at which point new qualifications kick in, such as salary requirements and vehicle pricing requirements.

  1. Passenger cars must have an MSRP of $55,000 or lower, while SUVs and trucks must be $80,000 or less.
  2. Salary requirements call for a modified adjusted gross income of $150,000 or less for single tax filers; $225,000 for individuals filing as head of household; $300,000 for married couples filing jointly.

Beginning on January 1, 2023, the bill also eliminates the 200,000 sales cap that makes automakers who have sold that many EVs ineligible for the current $7,500 tax credit. As of now, General Motors and Tesla are the only two automakers who are ineligible due to the cap. Toyota reached it last quarter, but still has till the fourth quarter before the credit begins to decrease.

Editor’s Note: A common misunderstanding of the cap is that when an automaker hits the 200,000 number, the $7,500 tax credit immediately stops. But it’s much more complicated. The government established a convoluted formula in which a wind-down conceivably could take 18 months.

The wind-down begins during the second calendar quarter after the calendar quarter in which the automaker hits the magic 200,000 number. The full tax credit will still be available to customers for at least a full quarter or more after the 200,000th sale. It depends on the timing of that sale.

During the second calendar quarter, the wind down begins with a 50% ($3,750 tax credit will still be available) reduction in the tax credit for six months. And then another 50% reduction (or 25% of the original $7,500, meaning, $1,875 will still be available) for another six months. After the second six month period, the tax credit disappears entirely.

The bill also imposes battery qualifications on the tax credit. The battery size no longer factors into the equation. But beginning in 2023, the $7,500 tax credit will be split into separate categories:

Battery Components: Beginning in 2023, $3,750 of the tax credit requires a percentage of the battery to be built in the U.S. or in a country in which a free trade agreement exists with the U.S. That percentage increases each year through 2029.

  • 2023: 50%
  • 2024-2025: 60%
  • 2026: 70%
  • 2027: 80%
  • 2028: 90%
  • 2029: 100%

Battery Minerals: Also beginning in 2023, $3,750 of the credit will require a percentage of the battery’s critical minerals be sourced (recycled, processed or extracted) in the U.S. or any country in which a free trade agreement exists. Similar to the battery components, this percentage increases each year:

  • 2023: 40%
  • 2024: 50%
  • 2025: 60%
  • 2026: 70%
  • 2027: 80%

How Customers Obtain the Tax Credit

Under the current program, customers claim the credit when filing their taxes for the year in which they purchased the vehicle.

The new program allows customers to benefit at the point of sale by electing to transfer their credit to the dealer selling them the vehicle, which then gives the dealer the ability to reduce the price of the vehicle by the amount of the eligible tax credit.

However, that new wrinkle does not become available until 2024.

The Treasury department still has to provide details of how dealers will submit the tax credits for payment, but we do know the following, based on the legislation:

The dealer has to disclose to the customer prior to the customer electing whether to transfer their credit and no later than the sale of the vehicle:

  1. The MSRP
  2. The value of the credit along with any other incentives available
  3. The amount of the transferred credit provided to the customer by the dealer — whether it is in cash or in a reduction of the down payment — which must equal the credit allowed to the customer.

A key point — if the dealer fails to disclose the required information to the customer, their registration of the sale can be revoked.

Dealers can recoup the cash for the amount transferred from their customers either by participating the advance payment program or by offsetting their federal income tax liability via the transferred credits. Details of the advance payment program are not available yet, but should be by December 31, 2022.

It will be critical for dealers to understand the rules governing the credit and the amounts they are allowed to claim. The penalties for overstating the value of the credits owed the dealer includes the amount of the excessive payment plus an additional 20%.

Used Vehicles

Beginning in 2024, a $4,000 credit for used electric vehicles $25,000 or less will be available to buyers whose income is $75,000 or less for single filers and $150,000 or less for married filers.

It is questionable how effective or widespread the used vehicle credit will be due to the strict pricing and salary requirements.

However, none of the battery, or North American assembly qualifications impact the used vehicle credits.

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