The Inflation Reduction Act (IRA) was signed into law in August 2022. It was designed to prevent large corporations from exploiting the tax loopholes that minimize their federal income tax obligations.
Yet there are other provisions of the Act which affect individuals and businesses of all sizes. After all, it also includes tax credits to boost the use of renewable energy, as well as several healthcare reforms. Together, these changes seek to address inflation and economic challenges, while providing relief and promoting financial stability.
This means that the IRA can have significant implications for your tax planning strategy. Below we’ll help you navigate the act, its impact, and how to maximize the benefits.
Understanding the Inflation Reduction Act
When the IRA was signed into law, it was the biggest investment in the economy, energy security, and climate that Congress had ever made.
There are four key components to the Act.
The first is to drive investment and create opportunities in communities, and particularly in previously overlooked or disadvantaged areas. For example, the clean energy tax incentives provide location-based bonuses for businesses investing in low-income communities and those that were previously dependent on fossil fuels.
The second is to encourage businesses using clean energy to meet labor standards. This way, your employees can also benefit. The goal here is to create over a million jobs by 2032. Your business can receive benefits for hiring qualified apprentices from registered programs.
The third component of the Act aims to lower the costs of clean energy or energy-saving property improvements, for businesses and individuals. This helps businesses and families across the country save money, while improving how energy efficient their companies or homes are. In fact, the Act extends the Energy Efficient Home Improvement Credit, the Residential Clean Energy Credit, and the Energy Efficient Commercial Buildings Deduction.
Finally, the Inflation Reduction Act encourages community-based investment, by providing governments and tax-exempt entities the chance to get credits as IRS payments. That way, these entities can continue to support the communities in which they function.
Impacts and considerations
With the four components we’ve just covered, the IRA hopes to achieve a significant positive impact on the economy. In a nutshell, this includes:
- Job creation
- Lower energy costs for businesses and individuals
- Less reliance on fossil fuels, meaning less pollution and climate change
However, the act covers more than just energy. It also has implications for healthcare. The IRA works together with the Affordable Care Act (ACA) to lower the costs of healthcare, which we’ll cover in detail below.
Key Provisions of the IRA
The Inflation Reduction Act includes several key provisions across sectors. These mainly include tax changes, energy incentives, and healthcare cost reductions.
Tax changes
The IRA establishes a 15% minimum tax rate on the adjusted financial statement income (AFSI) for any corporation with profits over $1 billion for three taxable years. This ensures that large corporations pay a baseline level of tax.
There are also changes to corporate excise tax. The Act imposes a 1% tax on the fair market value of any stock repurchased by a publicly traded US corporation during the taxable year. The amount subject to this tax is usually paid by the corporation to its shareholders. However, this change doesn’t apply to repurchases which are treated as dividends, or those that are part of employee stock ownership plans.
From 2023, businesses that work with crude oil and imported petroleum products will also be taxed at a rate of 16.4 cents per gallon. This amount is adjusted annually for inflation.
The IRA also modifies the holding period for carried interest to qualify for long-term capital gains tax treatment. This has been extended from three to five years for any taxpayer with an adjusted gross income of over $400,000.
Finally, a number of new energy tax credits are available. These include the Investment Tax Credit (ITC) and Production Tax Credit (PTC), to boost investments in renewable energy projects.
Energy incentives
Under the Inflation Reduction Act, a huge amount of money – nearly $400 billion – has been allocated to clean energy projects. For example, there are tax credits for electric vehicles (EVs), energy-efficient appliances, and home energy improvements.
Taxpayers who invest in clean energy products can get up to $7,500 in tax credits. Similarly, home improvements like installing heat pumps or solar power can get credits of up to 30% of the total cost, capped at $2,000 annually.
There’s also a provision for environmental justice. Credits are available for projects in low-income areas, promoting equity in the clean energy transition.
Healthcare cost reductions
A key component of the Act is negotiating prices for prescription drugs under Medicare. From 2026, a small number of drugs will be included, and this list will be extended annually. Similarly, it introduces a $35 monthly cap on insulin costs for Medicare recipients.
The IRA also includes a cap on out-of-pocket costs for Medicare beneficiaries at $2,000 per year starting in 2025.
Next, the Act stipulates that drug manufacturers issue rebates if their prices for Medicare-covered drugs increase faster than inflation. This was designed to stop excessive price hikes on medication.
The IRA offers significant benefits for businesses and individuals, through saving taxpayers money, while creating a healthier environment. But now, let’s take a detailed look at how these changes affect your taxes.
IRA Tax Changes
The Act has significant tax implications for businesses, because of the 15% minimum corporate tax rate and 1% excise tax mentioned above. However, it can also affect your personal income taxes if you have a pass-through business entity like a partnership, SMLLC, or S Corp. This is because it extends the limitation on business losses enacted in the Tax Cuts and Jobs Act (TCJA) until 2028. The TCJA initially introduced a limitation on excess business losses that taxpayers could use to offset other non-business income until 2025. This was set at $250,000 (or $500,000 for married couples filing jointly) annually.
This can seriously affect your tax planning and reporting. Specifically, it can impact investment decisions and expenditures, and should thus be taken into account when you review your tax strategy.
Although with the added benefits offered by the Inflation Reduction Act, it’s possible to make the most of your tax planning to put money back in your pocket.
Credits and deductions
As mentioned above, the ITC and PTC have been extended and expanded for various renewable energy projects. The former allows you to deduct a percentage of the cost of installing renewable energy systems from your federal taxes. The latter offers a per-kilowatt-hour credit for electricity generated by qualified energy resources.
Similarly, the Electric Vehicle Tax Credit for purchasing new or used electric vehicles has been extended to 2032. It also includes income limits and price caps for middle- and lower-income buyers. Even better, you can claim the credit when you make the purchase, instead of waiting to file your tax return.
The Act has also increased the research credit amount that small businesses can use against their payroll from $250,000 to $500,000. At the same time, it increases the deduction amount available under Section 179D for energy-efficient commercial buildings.
Note that some of the tax credits available under the IRA can even be transferred or sold for cash, to give you even more flexibility and liquidity when investing in renewable energy projects.
Impact on Tax Planning
Your tax strategy needs to account for the changes introduced under the Inflation Reduction Act. If your business earns profits over $1 billion, you can no longer reduce your tax liabilities through deductions and credits. As such, you need to carefully consider income calculations and how to manage them.
You may also need to rethink capital return strategies with regard to stock. Instead, consider dividends over buybacks, keeping the timing in mind to minimize the impact of the 1% excise tax.
It’s also worth making the most of available credits and deductions. You’ll need to make the right investments at the right time to maximize your eligibility and make the most of the benefits.
At the individual level, high-income earners should be aware that the Act includes provisions to increase IRS enforcement and auditing. As such, your tax planning needs to emphasize compliance to avoid penalties. One way to do this is through tax-efficient investments.
If you have any doubts about your tax strategy, or need assistance, it’s always best to consult a tax professional. This can help you ensure you remain compliant when submitting your personal or corporate tax returns.
Tax compliance
The IRS has a number of penalties in place for individuals and businesses that do not comply with the changes introduced by the IRA.
For example, corporations that fail to pay the 15% minimum tax or the 1% excise tax can be charged late or underpayment fees, which are subject to hefty interest rates. Similarly, if you misuse the available energy credits, you can be penalized up to 75% of the credit value. And if you no longer meet the eligibility requirements after claiming a credit, you’ll have to repay the amount, with interest.
High-income individuals who fail to report or underreport their income accurately can also face penalties. This includes accuracy-related penalties which are usually 20% of the underpayment attributed to negligence.
To avoid these issues, it’s important to stay up-to-date with tax laws and requirements. You should also ensure you report all transactions accurately, and keep detailed records and documents for any amounts claimed.
We can help!
Tax pros like the team at Fusion CPA can help you with this and so much more. Our subscription-based tax services ensure that you have a great strategy in place, to make tax season stress-free.
If you need additional assistance navigating the Inflation Reduction Act, or help with effective tax planning, schedule a Discovery Call with one of our CPAs.
The information presented in this blog article is provided for informational purposes only. The information does not constitute legal, accounting, tax advice, or other professional services. We make no representations or warranties of any kind, express or implied, about the completeness, accuracy, reliability, suitability, or availability of the information contained herein. Use the information at your own risk. We disclaim all liability for any actions taken or not taken based on the contents of this blog. The use or interpretation of this information is solely at your discretion. For full guidance, consult with qualified professionals in the relevant fields.
