On May 12, 2023, the Department of Treasury and the Internal Revenue Service (IRS) released Notice 2023-38 (Notice), stating that they intend to propose regulations to address the requirements taxpayers must satisfy when claiming domestic content bonus credit amounts provided by the Inflation Reduction Act under Internal Revenue Code (IRC) Sections 45, 45Y, 48, and 48E.

Sections 45 and 45Y provide tax credits for the production of clean energy. Under the statute, taxpayers claiming a clean energy production credit under IRC Sections 45 or 45Y may increase the amount of that credit by ten percent for any qualified facility incorporating domestic steel, iron, and manufactured products as components of the facility. Specifically, the statute requires that all steel and iron products be produced in the United States, as well as an “adjusted percentage” of manufactured products incorporated as components of the qualified facility.

Sections 48 and 48E provide tax credits equal to a percentage of a company’s investment in clean energy producing projects. A Taxpayer may receive a bonus credit amount of either 2 or 10 percent if the domestic content requirements are satisfied. To receive the 10 percent bonus credit, the project must meet additional qualifying requirements beyond the domestic content requirements.

Consistent with the statute, the Notice borrows from pre-existing regulations applicable to infrastructure projects funded by the Federal Transit Administration (FTA).  Similar to the FTA’s approach, structural steel and iron components of a qualified facility will count towards the domestic content bonus credit if all manufacturing processes for the steel and iron, from melting forward, occur in the United States.  A manufactured product incorporated as a component of a qualifying facility will count as domestic if it is manufactured in the United States from U.S.-origin components; components qualify as having U.S. origin if they are manufactured in the U.S. irrespective of the origin of any subcomponents.  Products that are primarily made of steel and/or iron but which do not serve a structural function are considered manufactured products and therefore need only satisfy the less onerous requirements applicable to such products.  To assist taxpayers in distinguishing between steel/iron and manufactured products, the Notice includes a representative list of common project components that it categorizes as steel/iron or a manufactured product.  For example, for terrestrial wind facilities, the tower and rebar for any windmill will constitute steel and iron, whereas the turbine itself will constitute a manufactured product component, meaning items such as the nacelle, blades, and rotor hubs will constitute components of the manufactured product that must be domestically produced.     

The Notice and the existing FTA rules have some important differences.  First, while the FTA rules generally apply to “end products,” the Notice applies to “components” of any qualified facility, which the IRS defines as any article, material, or supply that is directly incorporated into a qualified facility.  Second, because the IRS only requires an “adjusted percentage” of manufactured products be of U.S. origin to qualify for the domestic content bonus credit, Treasury and the IRS propose to permit taxpayers to also count U.S.-origin components of manufactured products towards that adjusted percentage, even where the manufactured product itself does not qualify as domestic.  However, in calculating the cost of those components, taxpayers will only be permitted to claim direct material and labor costs, whereas the FTA rules also include allocable overhead.  By statute, the “adjusted percentage” of manufactured products that a qualified facility must incorporate to claim the credit is currently set at 40 percent of all manufactured products (20 percent for offshore wind facilities), with a phased increase to 55 percent for projects beginning in 2027 (2028 for offshore wind facilities).  For retrofitted facilities, the taxpayer may exclude any used property that remains incorporated into the project.

The forthcoming proposed regulations are expected to apply to tax years ending after May 12, 2023. Taxpayers may rely on the rules for the domestic content bonus credit requirements for any qualified facility, energy project, or energy storage technology if the construction of such facility begins before the date that is 90 days after the date of publication of the forthcoming proposed regulations in the Federal Register.

Taxpayers will be able to submit comments to Treasury and the IRS on the forthcoming proposed regulations for 60 days after publication. Please contact us if you have questions regarding the domestic content requirements or are interested in submitting comments to Treasury and the IRS.

Key Takeaway

The Treasury and IRS’s proposed guidance on the domestic content requirements under IRC Sections 45, 45Y, 48, and 48E generally track the Federal Transit Administration Buy America requirements, which represent a long-standing regime applicable to mass transportation infrastructure projects, with some important distinctions for the clean energy industry to consider when planning new projects.

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