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The Treasury and IRS have released final regulations (TD 10010) on the advanced manufacturing production credit that are intended to incentivize the domestic production of solar and wind components, inverters, battery components and applicable critical minerals. The final regulations adopt the proposed regulations with some modifications, mainly concerning inclusion of certain extraction and production costs when calculating the credit (see Tax Alert 2023-2116).

The final regulations incorporate the 193 written comments and oral testimony received by the IRS. They are effective December 27, 2024, and apply to eligible components for which production is completed and sales occur after December 31, 2022, and during tax years ending on or after October 28, 2024.

Background

IRC Section 45X, created by the Inflation Reduction Act (IRA), provides a production tax credit (PTC) for each eligible component that is produced by the taxpayer in the United States and sold to an unrelated person during that tax year. To qualify, the taxpayer must be in the trade or business of producing and selling the eligible component. The term "eligible component" generally means (1) any solar energy component (such as photovoltaic cells, photovoltaic wafers, solar grade polysilicon, etc.), (2) any wind energy component, (3) an inverter (as described in the Inflation Reduction Act (IRA)), (4) any qualifying battery component (including battery cells and modules) and (5) any applicable critical mineral. Under the related-person election in IRC Section 45X(a)(3)(B), a taxpayer can elect to treat a related person as an unrelated person for purposes of selling eligible components if certain conditions are met.

The IRC Section 45X credit amount varies depending on the eligible component. For eligible components other than applicable critical minerals, the IRC Section 45X credit decreases as follows: (1) 75% of the otherwise available credit for eligible components sold during 2030, (2) 50% of the otherwise available credit for eligible components sold in 2031, (3) 25% of the otherwise available credit for eligible components sold in 2032, and (4) no credit for components sold in 2033 or after. Applicable critical minerals are not subject to the phaseout. The credit amounts are outlined in the statute and unchanged in the final regulations.

Final regulations

Produced by the taxpayer

The final regulations adopt most of the definitions from the proposed regulations, including the definition of "produced by the taxpayer" for both primary and secondary production (primary production involves producing an eligible component using non-recycled materials while secondary production involves producing an eligible component using recycled materials). "Produced by the taxpayer," however, is defined to account for the highly technical nature of the production processes inherent to IRC Section 45X as well as to align with the statutorily enumerated eligible components to which the credit applies; as such, the definition does not align with the standard in IRC Section 263A.

The taxpayer claiming the credit must (1) directly produce the activities bringing about the substantial transformation that results in the eligible component, and (2) sell that component to an unrelated person. If an eligible component is produced under a contract manufacturing arrangement, the parties to the contract may determine by agreement who may claim the IRC Section 45X credit. Absent an agreement, the contract manufacturer would claim the credit.

Treas. Reg. Section 1.45X-1(c) defines "produced by the taxpayer" as "a process conducted by the taxpayer that substantially transforms constituent elements, materials, or subcomponents into a complete and distinct eligible component that is functionally different from that which would result from minor assembly or superficial modification of the elements, materials, or subcomponents, and includes both primary and secondary production."

The definition does not include "partial transformation that does not result in substantial transformation of constituent elements, materials, or subcomponents into a complete and distinct eligible component" or "minor assembly of two or more constituent elements, materials, or subcomponents, or superficial modification of the final eligible component, if the taxpayer does not also engage in the process resulting in a substantial transformation." For certain eligible components, such as solar modules and battery modules using battery cells, the final regulations clarify in the Preamble that the substantial transformation requirement is met by the taxpayer "that assembles the constituent components to produce the solar module or battery module using battery cells."

The Preamble states that determining whether production activities or processes result in substantial transformation for a specific eligible component is highly fact dependent; as guidance, the final regulations include examples adopted from the proposed regulations.

Sale of integrated components

The final regulations clarify that a taxpayer is "treated as having sold" an eligible component to an unrelated person if (1) the taxpayer produced the component, and (2) the component is integrated, incorporated or assembled into another eligible component that is then sold to an unrelated person. This contrasts with the proposed regulations, which included eligible components that the taxpayer did not produce.

Replacement of an eligible component that was originally produced and sold to an unrelated person in the normal course of a trade or business would not be treated as a new sale and would therefore not be eligible for an additional tax credit. One scenario where this might be applicable is replacement of eligible components under a warranty claim. If the original eligible component was sold to an unrelated person, then the replacement component might not be eligible for the tax credit because there might be no new sale being recorded.

Interaction between IRC Sections 45X and 48C

A facility receiving an IRC Section 48C investment tax credit for advanced energy projects generally cannot also receive an IRC Section 45X tax credit. However, a facility with different independently functioning production units could claim the IRC Section 45X tax credit for units that are not receiving the IRC Section 48C credit.

Under the final regulations, property that would otherwise qualify as an eligible component is generally only an eligible component if the property is produced at an IRC Section 45X facility and no part of that facility is also an IRC Section 48C facility.

Anti-abuse rule

The final regulations clarify that a "facts and circumstances" test should be applied when determining if the taxpayer has violated the anti-abuse rule. Under this rule, the IRC Section 45X credit is unavailable in "extraordinary circumstances" if it is shown that the primary purpose of producing and selling the eligible component is to obtain the benefit of the IRC Section 45X credit in a "wasteful" manner, such as discarding, disposing of or destroying the eligible component without putting it to productive use.

Sale to unrelated persons

Among other things, the IRC Section 45X credit requires the eligible component to be sold to an unrelated person. For purposes of IRC Section 45X, however, a taxpayer can make a related-person election to treat the sale of an eligible component to a related person like a sale to an unrelated person, if the component is sold to the unrelated person by a person who is related to the taxpayer.

The final regulations adopt the proposed regulations' provision that treats a taxpayer as having produced and sold an eligible component to an unrelated person if the component is integrated, incorporated or assembled into another eligible component that is then sold to an unrelated person.

The proposed regulations would have defined the term "eligible component" as any solar energy component, wind energy component, inverter, qualifying battery component and applicable critical mineral. The final regulations adopt the definitions of these terms and refine the definition of "eligible component" for photovoltaic cells, photovoltaic wafers, solar grade polysilicon and solar modules.

Extraction and production costs

The final regulations allow taxpayers to include the costs of extracting raw materials in the United States or a US territory for electrode active materials and applicable critical minerals. These costs can only be included, however, if they are paid or incurred by the taxpayer that claims the IRC Section 45X credit.

In addition, taxpayers that produce electrode active materials and applicable critical minerals may include direct and indirect materials costs (as described in the IRC Section 263A regulations) in production costs if certain conditions are met, but only if those costs do not relate to the purchase of materials that are an eligible component at the time of acquisition (such as an electrode active material or applicable critical mineral).

The final regulations have new substantiation requirements for electrode active materials and critical minerals, including certifications from the supplier and recordkeeping requirements as well as a preference for documentation to be prepared by an independent third party. Additionally, taxpayers claiming the IRC Section 45X credit based on production costs must attach the required certifications and other documentation along with their tax returns.

Implications

The final regulations provide welcome changes to the definition of production costs for purposes of calculating the 10% credit for electrode active materials and applicable critical minerals. Certain limitations may still require excluding certain extraction or material acquisition costs, so taxpayers will need to carefully examine their supply chains to determine eligibility on a cost-by-cost or material-by-material basis. Additionally, taxpayers will need to carefully document that the included materials or subcomponents were not eligible components at the time of acquisition and obtain certification statements from applicable suppliers. Taxpayers seeking to include these costs should work with suppliers early in the process to begin obtaining the necessary documentation.

Taxpayers should also confirm the eligibility of their produced components as the final regulations slightly modified the definitions of some components. While most of these modifications are minor, it will be important for producers to evaluate if those modifications affect their current calculations or whether additional components they produce would be eligible for the credit under the expanded definitions.

While not directly impacting the ability to monetize the IRC Section 45X credit through direct-pay elections under IRC Section 6417 and/or transfers under IRC Section 6418, the final regulations will likely impact the amount of the IRC Section 45X credit otherwise available to a taxpayer; as such, they will impact the amounts available to be monetized (see Tax Alerts 2024-0624 and 2024-0933).