Massive IRA legislation adds a variety of tax implications

A wave of tax changes is coming on the heels of the sprawling Inflation Reduction Act (IRA).

The bill is a significantly downsized version of the original $2 trillion Build Back Better Act that stalled in Congress late last year. The IRA cleared the U.S. Senate and House of Representatives after modifications and has been signed into law by President Joe Biden.

New taxes and a mix of cost-saving measures are sprinkled throughout the IRA, which is projected by the Congressional Budget Office (CBO) to reduce the U.S. deficit by about $90 billion over the next 10 years.

The biggest changes

For starters, how will the government pay for all of it? New taxes are part of the equation, along with savings from lower drug prices and other measures. The bill does not include tax increases for small businesses or taxpayers who earn less than $400,000 per year. Instead, wealthier earners are likely to feel the biggest impacts.

U.S. corporations (other than S corporations) that have more than $1 billion in annual earnings over the previous three years face some of the biggest hikes. While the current corporate tax rate is 21%, companies often utilize deductions and credits to pay little to no federal income tax. The IRA imposes a corporate alternative minimum tax of 15% of financial statement income (also known as book income, as opposed to tax income) reduced by, among other things, depreciation and net operating losses. The new minimum tax is effective for tax years beginning after December 31, 2022.

As a result of late negotiations in Congress, private equity firms and hedge funds are exempt from the minimum tax. They could have been covered by a provision that generally includes subsidiaries when determining annual earnings. The tradeoff is that the IRA will extend the excess business loss limitation for certain businesses for two years.

Although the initial bill language also closed the so-called “carried interest” loophole that permits these interests to be taxed as long-term capital gains rather than ordinary income, the loophole ultimately survived. Instead, the IRA will impose a 1% excise tax on the fair market value when publicly traded corporations buy back their stock.

Here are some of the other highlights of the bill:

More funding for IRS

The IRA provides about $80 billion over 10 years to fund the IRS and improve tax enforcement activities and technology. The IRS budget has been dramatically slashed in recent years, dropping by 20% in 2020, compared to 2010. The CBO estimates that the infusion of funds will help the IRS to collect $203 billion over the next decade from corporations and wealthy individuals.

Climate and energy provisions

The IRA dedicates about $370 billion to combating climate change and boosting domestic energy production. It aims to reduce the country’s carbon emissions by 40% by 2030. The legislation includes new, extended, and increased tax credits intended to incentivize both businesses and individuals to boost their use of renewable energy. For example, the bill provides tax credits to private companies and public utilities to produce renewable energy or manufacture parts used in renewable projects.

Clean vehicle credit

The tax credit for qualified plug-in electric vehicles is now the clean vehicle credit and is subject to critical mineral and battery component requirements. The IRA also contains a tax credit ($4,000 or 30% of the vehicle’s sale price, whichever is less) for a used plug-in electric drive vehicle purchased after 2022. The manufacturer limitation on the number of vehicles eligible for the credit has been eliminated after December 31, 2022.

Home energy improvements

Individual taxpayers can also receive tax breaks for home energy efficiency improvements, such as installing solar panels, energy-efficient water heaters, heat pumps, and HVAC systems. A “Clean Energy and Sustainability Accelerator” will use public and private funds to invest in clean energy technologies and infrastructure.

Health care provisions

The new bill will allow Medicare to negotiate the price of prescription drugs, caps Medicare enrollees’ annual out-of-pocket drug costs at $2,000, caps monthly insulin costs at $35, and provides them free vaccines. Additional provisions to rein in drug costs include a requirement that pharmaceutical companies that raise the prices on drugs purchased by Medicare faster than the rate of inflation rebate the difference back to the program.

The IRA is a complex piece of legislation that will affect millions of employers and individual taxpayers. If you have questions about how the IRA could affect your tax strategy next year, we can help. Just reach out to a member of the KraftCPAs tax team.

© 2022 Kraft CPAs PLLC

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