Policies for Securing a Made-in-America Supply Chain Order Part 1 - IRA1
Overview
The Biden Administration is currently proposing a number of policies and bills to reduce its dependency on countries of concern, such as China, Russia, etc., in key sectors such as advanced technology, defense, energy, etc., and secure the U.S.’ position as a world leader in the global economic order. In 2023, it is anticipated that the global economy will be greatly impacted by these policy reforms designed to strengthen U.S. competence in major industries and also affect South Korean companies both directly and indirectly.
This RMG issue report will examine efforts by the U.S. to strengthen the American supply chain in a series of reports. Part 1 will examine the Inflation Reduction Act (the “IRA”), a U.S. federal action to address climate change and build a clean energy economy. Notably, this new law is one of the largest clean energy investments in the U.S. history, having raised a total revenue of approximately US$740 billion (KRW 966.44 trillion). The IRA is to be implemented in three phases: (1) August 2022 to December 2022; (2) January 2023 to March 2023; and (3) March 2023 and after.
Main Content of IRA Regulations
On December 29, 2022, the U.S. Department of Treasury (the “Treasury”) and the Internal Revenue Service (the “IRS”) released clean vehicle provisions of IRA and also announced the anticipated direction for the third phase (to be announced in March 2023) of the revamped New Clean Vehicle Credit. The following is a summary of the major details.
Current Phase (January 2023 to March 2023) Clean vehicle manufacturers may qualify for a maximum credit of US$7,500 if they meet the following requirements.2
(1) Who Qualifies:
• Must acquire for own use, not for resale
• Must not have a modified adjusted gross income (AGI) exceeding certain thresholds3
(2) Qualified Vehicles:
• Meet requirements for gross vehicle weight rating and battery capacity4
• Be made by a qualified manufacturer (Including Hyundai and Kia)
• Undergo final assembly in North America
• Have a manufacturer’s suggested retail price (MSRP) not exceeding US$55,000 (US$80,000 for vans, sport utility vehicles, and pickup trucks)
After the date on which the Treasury and the IRS issue proposed guidance on Critical Mineral and Battery Component Requirements (expected to be issued in March 2023), vehicle manufacturers must certify compliance with (i) the critical mineral requirement (US$3,750), and (ii) the battery component requirement (US$3,750) to be legible for a maximum tax credit of US$7,500.
(1) Critical Mineral Requirement – the percentage of the value of the critical minerals contained in the vehicle’s battery that were extracted or processed in the U.S. or in any country with which the U.S. has a free trade agreement in effect,5 must be equal to or greater than 40%.
(2) Battery Component Requirement – the percentage of the value of the components in the vehicle’s battery that were manufactured or assembled in North America must be equal to or greater than 50%.
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In other words, tax credit eligibility requirements have become extremely restrictive. In the case of a clean vehicle which would have been qualified for tax credits as long as it was finally assembled in the U.S., despite having components manufactured in other countries, like South Korea, starting March 2023, such clean vehicles need to have critical minerals and battery components be extracted and manufactured in either the U.S. or a U.S. FTA partner country to be eligible for tax credits. The rest of this report will examine the forthcoming critical mineral and battery component requirements in detail.
Critical Mineral Requirement and Compliance Measures
On December 29, 2022, the Treasury and the IRS announced specific provisions of the new IRA and released specific guidanceregarding the new EV tax credit requirements based on the procurement chain. These regulations contain the following main points.
Starting from January 1, 2023, the tax credit is only valid if 40% or more of the critical minerals used in EV batteries are:
(1) Critical minerals or natural resources extracted in the U.S. or a U.S. FTA partner country;
(2) Critical minerals or natural resources processed in the U.S. or a U.S. FTA partner country; or
(3) Critical minerals recycled in North America.
This required percentage will increase annually to a percentage equal to or more than: 50% in 2024, 60% in 2025, 70% in 2026, and 80% after 2026.
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Due to the use of various critical minerals when manufacturing batteries, the battery supply chain is most likely to be complex. Therefore, South Korean manufacturers and contractors should take extra caution in ensuring compliance with the new supply chain requirements. The Treasury and the IRS are currently viewing 2023 and 2024 as a transitional period and have emphasized detailed tracking as a requirement for determining compliance. They have proposed the following three-step process to certify compliance.
① The manufacturer must determine the procurement chain for each critical mineral.6
To evaluate whether each critical mineral meets the requirements, the manufacturer must first carefully determine the critical mineral procurement chain for each critical mineral.
② The manufacturer must evaluate whether each critical mineral procured from the chain has been extracted and processed in the U.S. or a U.S. FTA partner country, or recycled in North America.
As the procurement process of critical minerals, which includes extraction, processing, and recycling, is complex, if 50% or more of the value added of the entire critical mineral procurement process occurred in the U.S. or a U.S. FTA partner country, then the critical mineral shall still be treated as qualifying under this second step. In other words, even if a critical mineral was extracted in a country
that is neither the U.S. nor a U.S. FTA partner country (e.g., South Africa), if it was processed in a U.S. FTA partner country (e.g., South Korea) and the value added to the critical mineral was equal to or greater than 50%, the critical mineral will be considered to be procured from a U.S. FTA partner country.
③ The manufacturer must determine if the total value of critical minerals contained in a battery occurred in the U.S. or a U.S. FTA partner country is equal to or greater than 40%.
After the manufacturer identifies the procurement chain of the critical minerals, the manufacturer must determine if the total value of qualifying critical minerals is equal to or greater than 40%. To calculate this, the manufacturer must sum the value of all qualifying critical minerals contained in the battery and divide that amount by the sum of the value of all critical minerals contained in the battery. The manufacturer can also determine the value of the critical minerals by averaging the percentage over any period of time (e.g., year, quarter, or month) after the final processing or recycling of the critical minerals.)
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Battery Component Requirement and Compliance Measures
The battery component requirements that are currently being discussed by the Treasury and the IRS are the following.
(1) Electric vehicles sold from 2023 (after the date on which the Treasury and the IRS issue proposed guidance in March 2023) will be considered to meet the battery component requirement if the value of the components in the vehicle’s battery manufactured or assembled in North America is equal to or greater than 50%.
(2) This required percentage will increase to a percentage equal to or more than: 60% in 2024 and 2025, 70% in 2026, 80% in 2027, 90% in 2028, and 100% after 2028.
(3) However, constituent materials are not considered a type of battery component and are thus excluded from battery component requirements.
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The Treasury and the IRS have proposed the following four steps to determine whether the manufacturing and assembly of battery components comply with the battery component requirements.
① Determine the place of assembly or manufacture of the components, (1) Categorize components that were assembled/manufactured in North America, (2) and components that were assembled/manufactured elsewhere into different groups.
② Determine the incremental value for each component comprising the battery. For example, if the cathode and anode were manufactured in North America, and the electrolytes and separators were manufactured in other countries, when these
components assemble to create a battery cell, and the battery cells combine to form a module, the value for each battery component (cathode, anode, electrolyte, and separator) must be determined to calculate the total added value.
③ Sum the incremental value for all components, regardless of location, contained in the vehicle’s battery.
④ Calculate the percentage of the value of batter y components that were manufactured or assembled in North America for all modules contained in the vehicle’s battery.
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As seen above, EV manufacturers must comprehensively review their manufacturing process of critical minerals and batteries to ensure meticulous compliance with forthcoming regulatory requirements for supply chains to be released by the Treasury and the IRS to be eligible for tax credits.
DR & AJU will continue to closely monitor updates of the U.S. government’s policies on Korea’s EV industry in order to respond expeditiously through close cooperation with businesses when necessary.
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The information contained in this report is in accordance with the data provided by DR & AJU’s Washington, D.C. Liaison Office, D&A Advisory, Inc., and the publications made by the U.S. Department of the Treasury, the U.S. Internal Revenue Service, the White House, and the Korean Ministry of Trade, Industry and Energy.
If all requirements are met, the manufacturer is eligible for tax credits of a maximum of US$7,500. The eligible credit amount per qualified commercial electric vehicle ("EV") is the lesser of 30% of the sales price or the incremental cost of the vehicle. The incremental cost is defined as the difference between the purchase price of the EV and a comparable internal combustion engine vehicle. According to the Ministry of Trade, Industry and Energy, 30% of the sales price or the incremental cost of EV vehicles usually exceed US$7,500. Thereby, most commercial EVs are expected to be eligible for the maximum tax credit of US$7,500.
Taxpayers eligible for credits are the following: (i) married couples filing jointly whose income do not exceed US$300,000; (ii) heads of households whose income do not exceed US$225,000; and (iii) and all other filers whose income do not exceed $150,000.
The clean vehicle credit is calculated as a US$2,500 base amount plus, for a vehicle which draws propulsion energy from a battery with at least 5 kw/h of capacity, US$417, plus an additional US$417 for each kilowatt hour of battery capacity in excess of 5kw/h, up to a total maximum credit amount of US$7,500.
As of now, the Treasury and the IRS announced that “U.S. free trade agreement (FTA) partner countries” encompasses, at minimum, 20 countries, including Australia, Canada, South Korea, etc., and are evaluating the inclusion of additional countries.
Pursuant to the U.S. Internal Revenue Code § 45X(c)(6) (Applicable Critical Mineral), 50 minerals have been deemed as applicable critical minerals: Aluminum, Antimony, Arsenic, Barite, Beryllium, Bismuth, Cerium, Cesium, Chromium, Cobalt. Dysprosium, Erbium, Europium, Fluorspar, Gadolinium, Gallium, Germanium, Graphite, Hafnium, Holmium, Indium, Iridium, Lanthanum, Lithium, Lutetium, Magnesium, Manganese, Neodymium, Nickel, Niobium, Palladium, Platinum, Praseodymium, Rhodium, Rubidium, Ruthenium, Samarium, Scandium, Tantalum, Tellurium, Terbium, Thulium, Tin, Titanium, Tungsten, Vanadium, Ytterbium, Yttrium, Zinc, Zirconium. (Items were added to the critical minerals list to make a total of 50 in 2022. According to a KOTRA report on October 21, 2022, 14 minerals from this list are imported from China.
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