By: Jacob Hartzler
Tax incentives are a powerful tool utilized by the federal government to influence consumer and producer behavior in the United States. Tax deductions and tax credits are two common such examples. Generally, a tax deduction reduces the amount of income attributable to a taxpayer for a taxable year. This thereby reduces that individual’s federal income tax liability by the amount of tax that they would have otherwise had to pay on the deducted amount. A tax credit similarly reduces a taxpayer’s federal income tax liability; however, a tax credit offers taxpayers a dollar-for-dollar reduction of their income tax liability in the amount of the credit. Put simply, a tax deduction reduces an individual’s federal income tax liability by a percentage of the deduction—as determined by their applicable tax rate—while a credit reduces an individual’s income tax liability by the amount of the credit.
The Clean Vehicle Credit seeks to incentivize consumers and producers in a critical way; to combat the effects of climate change. P.L. 117-169, commonly referred to as the Inflation Reduction Act of 2022 (“IRA”), as signed into law on August 16, 2022, modified the available tax credits for electric vehicles and fuel cell vehicles. The law also enacted new tax credits for used and commercial clean vehicles. While this tax credit is designed to influence consumers to purchase electric vehicles, thereby combatting the effects of climate change, new requirements may yield the credit obsolete unless drastic changes occur within the auto industry.
The Qualified Plug-in Electric Drive Motor Vehicle Credit has been around since 2008. The credit allowed consumers who purchased passenger vehicles and light trucks after December 31, 2009, to take advantage of a tax credit starting at $2,500 for vehicles with batteries rated at four-kilowatt hours. The credit thereby increased by $417 for each additional kilowatt hour, maxing out at $7,500. The credit amount began to phase out when a manufacturer had sold 200,000 qualifying vehicles in the United States for the period after December 31, 2009. As a result of this limitation, major manufacturers of electric vehicles, such as Tesla and General Motors, no longer qualify for the credit.
The IRA revamped the Qualified Plug-in Electric Drive Motor Vehicle Credit and renamed it the Clean Vehicle Credit. The congressional facelift to the credit made several key modifications that consumers ought to be aware of when choosing between electric vehicle manufacturers. Primarily, the credit: (1) extends the credit through December 31, 2032, (2) eliminates the production cap of 200,000 vehicles after 2022, (3) bifurcates the $7,500 maximum of the credit into two separate requirements which, if satisfied, each yield a consumer a $3,750 credit, and (4) limits the applicability of the credit for vehicles purchased after August 16, 2022, to vehicles for which the final assembly occurred in North America.
The bifurcated approach of the Clean Vehicle Credit seeks to incentivize not only consumers, but electric vehicle manufacturers as well. The critical minerals requirement and the battery components requirement are two crucial requirements that jeopardize the effectiveness of the Clean Vehicle Credit. Each is discussed in detail below.
Critical Minerals Requirement
Starting in 2023, to qualify for this portion of the credit, at least 40% of the value of the battery’s applicable critical minerals must have been extracted or processed in the United States or in a country in which the United States has a free trade agreement, or recycled in North America. Critically, this includes Canada and Mexico with which the United States currently enjoys a free trade agreement under the United States-Mexico-Canada Agreement (“USMCA”) – formally known as the North American Free Trade Agreement (“NAFTA”). This amount is subject to annual increases to 50% in 2024, 60% in 2025, 70% in 2026, and 80% in 2027 and thereafter.
Battery Components Requirement
Also starting in 2023, to qualify for this portion of the credit, at least 50% of the value of the battery’s components must have been manufactured or assembled in North America. Similar to the critical mineral requirement, this amount increases to 60% in 2024 and 2025, 70% in 2026, 80% in 2027, 90% in 2028, and finally, 100% in 2029 and thereafter.
Starting in 2024, an electric vehicle cannot qualify if any of the vehicle’s battery components were manufactured or assembled by a foreign entity of concern. Additionally, starting in 2025, an electric vehicle cannot qualify for the Clean Vehicle Credit if the vehicle’s battery contains critical minerals that were extracted, processed, or recycled in a foreign entity of concern. Crucially, foreign entities of concern includes both China and Russia.
Going forward, consumers looking to take advantage of the Clean Vehicle Credit will have to be cautious about whether their electric vehicle will satisfy the critical minerals component and the battery components requirement.
While the Clean Vehicle Credit, as amended in the Inflation Reduction Act, eliminated the manufacturer phase-out at 200,000 vehicles contained in its predecessor, the Clean Vehicle Credit has replaced this hurtle with a new one that in the current state of global affairs, is virtually insurmountable. The critical minerals present in the batteries of electric vehicles include battery-grade lithium, graphite, cobalt, and a host of other minerals that China has a near monopoly on. In addition, nickel makes up a large portion of many electric vehicle batteries and often comes from Russia. Thus, for the Clean Vehicle Credit to continue to incentivize consumers to purchase electric vehicles, a dramatic change to the auto industry must occur.
Battery manufacturing is growing in the United States, however, there is a lot of catching up to do. About 80% of lithium-ion battery cells are currently made in China and most of the critical minerals used in the manufacturing of electric vehicle batteries involve China. For example, most of the graphite used for batteries is both mined and processed in China while most lithium, although mined outside of China, is processed in China. Although the United States is ramping up efforts to increase domestic battery production, planning and building new mines can take upwards of seven years. Thus, the dramatic change needed for consumers to benefit from the Electric Vehicle Credit is unlikely to occur by 2024 – the year in which electric vehicles cannot qualify if any of the vehicle’s battery components were manufactured or assembled by a foreign entity of concern, such as China.
Tax credits are a powerful economic incentive for consumers and producers alike. While lessening dependence on foreign entities such as China and Russia may be an admirable goal, a mere $7,500 consumer credit is unlikely to influence the auto industry to shift the supply chain for electric vehicle batteries away from China within the time constraints necessary for consumers to reap the benefit. As a result, the Clean Vehicle Credit is likely to have a minimal, if any, impact on consumer behavior in the near future unless the United States, or countries in which the U.S. has a free trade agreement such as Mexico and Canada, drastically increase their manufacturing, mining, and processing capabilities necessary in the production of electric vehicle batteries.
Student Bio: Jacob Hartzler is second-year law student at Suffolk University Law School. He is a staffer for the Journal of High Technology Law. Jacob received a Bachelor of Science Degree in Legal Studies and History and a Minor in Economics from Roger Williams University.
Disclaimer: The views expressed in this blog are the views of the author alone and do not represent the views of JHTL or Suffolk University Law School.
