Guidance Clarifies Requirements for Energy Tax Credits' Domestic Content Bonus
The U.S. Department of the Treasury has issued interim guidance outlining forthcoming proposed regulations regarding the domestic content bonus credit available to clean energy projects under the Inflation Reduction Act of 2022.
On May 12, 2023, Treasury released Notice 2023-38 (the "Notice") providing interim guidance on the 10% tax credit add-on available for projects otherwise eligible for investment or production energy tax credits that use a certain amount of U.S.-produced steel, iron, or manufactured products. The Notice outlines the rules intended to be set forth in proposed regulations and generally may be relied upon until such regulations are issued.
Two Different Tests. For a project to be eligible for the domestic content bonus credit amount, its components must satisfy the steel/iron requirement (the "SIR") and the manufactured product requirement (the "MPR"). The SIR requires nearly all manufacturing processes for steel or iron components that are primarily structural to take place in the United States. All other manufactured components are subject to the MPR. Generally, if the total costs of the U.S.-manufactured products and components divided by the total costs of all manufactured products exceed a designated percentage, the project satisfies the MPR. The applicable percentage is 20% for offshore wind and 40% for other projects, increasing to 55% if construction begins after 2026 (or after 2027 for offshore wind).
Component Costs. Only direct labor and material costs of the manufacturers of U.S.-manufactured components qualify as domestic costs for purposes of the MPR. It is unclear what documentation taxpayers must obtain to substantiate these costs. This is an issue that taxpayers and their suppliers should consider in contract negotiations.
Safe Harbor. The Notice provides a nonexhaustive safe harbor list classifying certain common project components as subject to either the SIR (which is straightforward but an all-or-nothing test) or the MPR (which has more flexibility but also more complexity).
This Notice provides needed clarity for the clean energy industry. The market has appeared to react favorably, as the stock prices of U.S. solar companies have soared upon release of this interim guidance. However, the rules will also mean significant compliance burdens for many market participants as analysis must be done at the component level using the direct costs of manufacturers, and some ambiguities remain to be resolved by further guidance.
