Section 45X of the Inflation Reduction Act: New Tax Credits Available to Battery Manufacturers

The Inflation Reduction Act of 2022 (the “IRA” or the "Act”) introduces several provisions which may well be of interest to battery manufacturers. Most of these are contained in the new “Advanced Manufacturing Production Credit” (“PTC”) provisions of the Act. This is IRC Section 45X.

The climate-related incentive provisions of the IRA fall into two broad categories: those that are related to investment in property and those that are related to production of a product. Unlike the Act’s Qualifying Advanced Energy Project Credit under IRC Section 48C, which provides tax relief on investments in qualifying advanced energy projects, the PTC is based on the quantity of eligible components produced and sold by a taxpayer to an unrelated person in the taxable year. It covers a number of important areas, including the domestic production and sale of qualifying solar, wind, inverter, and battery components. It also provides for a credit equal to 10% of the cost of “critical minerals.” The Congressional Research Service estimates that the tax relief available under the PTC will cost the United States upwards of $31 billion.

Tax Credit for Production of Battery Components and Critical Minerals

The PTC applies to the production of cathode and anode materials used in lithium-ion batteries as well as to critical battery minerals.

Provided production of the battery components occurs in the United States and that the components are sold after December 31, 2022, and prior to January 1, 2030, a 10% credit (measured as a percentage of total cost of production) is available for the production of electrode active materials. The credit begins phasing down in 2030 in increments of 25 percent per year and is not available for components sold after 2032. To qualify for the credit, the sale must be made to an unrelated person.

In the case of integrated components, a person is treated as having sold an eligible component to an unrelated person if the component is integrated, incorporated, or assembled into another eligible component which is sold to an unrelated person. A 10% credit is likewise available for the production of critical minerals. The credit is also measured as a percentage of total cost of production.

What are Critical Minerals?

The following 50 minerals, when converted or purified to the specified purity levels, are considered “applicable critical minerals” for purposes of the new Section 45X tax credits:

Tax Credit for Production of Battery Cells and Battery Modules

A tax credit is also included for the production of battery cells and battery modules in the United States based on the capacity in kilowatt hours of the battery cell or module. The credit in the case of a battery cell is based on the capacity of the cell up to $35 per kWh, and in the case of a module is based on the capacity of the module up to $10 per kWh (or, in the case of a battery module that does not use battery cells, $45 per kWh). For a 75kWh battery pack, this means that there could be a tax credit of up to $2,625 ($35 per kWh) for the maker of the battery cells and up to $750 for the maker of the modules ($10 per kWh). The credit is eligible for direct payment from Treasury and the right to the credit can be sold for cash to third parties (in both cases subject to certain limitations).

Impacts of Credits in the EV Market

The market for electric vehicles ("EVs”) is expected to be greatly expanded under the new clean vehicle tax credits established by the IRA. This expansion, reflected in changes to IRC Section 30D, is expected to positively impact battery manufacturers. Under the IRA, tax credits for EVs are now available, but there are restrictions based on where the batteries are built and where the critical materials in the batteries are mined, recycled, or processed. There is an important exclusion, discussed below, where “foreign entities of concern” are involved in the extraction of materials used in the manufacture of the battery or where the components contained in the battery are manufactured or assembled by a foreign entity of concern. We expect that automobile manufacturers and the Internal Revenue Service will develop certification requirements to ensure compliance with these requirements.

1. To receive the $3,750 critical minerals tax credit, the vehicle’s battery must contain a threshold percentage (in value) of critical minerals that were extracted or processed in the United States or in a country with which the United States has a free trade agreement, or which were recycled in North America.

• The threshold percentage is 40% through the end of 2023, then increasing to 50% in 2024, 60% in 2025, 70% in 2026, and 80% after 2026.

2. To receive the $3,750 battery components portion of the credit, the percentage of the battery’s components manufactured or assembled in North America would have to meet threshold amounts. For vehicles placed in service through the end of 2023, the threshold percentage is 50%. The percentage increases to 60% for 2024 and 2025, 70% for 2026, 80% for 2027, 90% for 2028, and 100% after 2028.

• Neither credit is indexed for inflation.
• In recognition of supply chain vulnerabilities, under the IRA a clean vehicle placed in service after December 31, 2024, will not qualify for the EV tax credit if it contains critical minerals that were extracted, processed or recycled by a “foreign entity of concern.” In addition, the IRA prohibits taking the EV tax credit on any vehicle placed in service after December 31, 2023, with respect to which any of the components contained in such battery were manufactured or assembled by a “foreign entity of concern.” While legislation has been introduced to delay the effect of these provisions, passage of such legislation is not yet assured.

On balance, the Act provides several exciting opportunities for battery manufacturers. The Internal Revenue Service has recently issued a Notice seeking comment on several issues.

Additional guidance from the Internal Revenue Service is likely to be forthcoming.