New US Climate Bill Seeks to Onshore Electric Vehicle Supply Chain

On July 27, Senate Majority Leader Chuck Schumer (D-NY) unveiled a budget reconciliation bill entitled the Inflation Reduction Act of 2022 ("IRA"), which would implement core components of President Biden's agenda on healthcare, tax reform, and climate change.¹ The bill includes an estimated $369 billion in expenditures related to "climate change and energy security," including tax and other incentives to promote US production of electric vehicles (EVs), renewable energy technologies, and critical minerals, representing the "single biggest climate investment in U.S. history[.]"² These provisions are intended to put the United States on a path to roughly 40% emissions reduction by 2030, but they also reflect economic and geopolitical objectives, including a desire to "lessen our reliance on China, ensuring that the transition to a clean economy creates millions of American manufacturing jobs, and is powered by American-made clean technologies."³

Consistent with these goals, the IRA would extend and make major revisions to the existing US tax credit for electric vehicles. Eligibility for the revised credit would be contingent on (1) final assembly of the vehicle occurring in North America, (2) specified percentages of the vehicle battery's critical minerals originating from a US free trade agreement (FTA) partner; and (3) specified percentages of the battery's components being manufactured in North America. Moreover, after a short transition period, the IRA would make vehicles ineligible for the credit if the vehicle battery contains "any" critical minerals or components sourced from countries such as China and Russia. These changes would have significant implications for EV producers and supply chains. We provide an overview of the legislation below.

Revised "Clean Vehicle" Tax Credit

Section 13401 of the IRA would revise the existing US tax credit of $7,500 for purchases of "qualified plug-in electric drive motor vehicles" ("qualifying EVs"), codified at Section 30D of the Internal Revenue Code ("Section 30D").⁴ Section 30D currently provides tax credits of up to $7,500 to individuals who purchase qualifying EVs, subject to a limit of 200,000 vehicles per manufacturer (i.e., once a manufacturer has sold 200,000 qualifying EVs, the tax credit begins to phase out with respect to qualifying EVs sold by that manufacturer). The IRA would eliminate the 200,000 vehicle limit (effectively extending the credit indefinitely) and make substantial changes to the types of vehicles eligible for the credit, as follows:

• North American assembly required. The revised credit under the IRA would apply to qualifying "clean vehicles," which the IRA defines to include fuel cell vehicles as well as EVs. In order to qualify as a "clean vehicle" eligible for the revised credit, the "final assembly" of the vehicle must occur "within North America". 
• $7,500 tax credit contingent on sourcing of critical minerals and battery components. Like the current law, the IRA would provide a maximum tax credit of $7,500 for qualifying vehicles. However, the IRA does not include a "base credit" that is available to all qualifying vehicles (whereas the current law includes a base credit of $2,500). Instead, in order to receive credits under the IRA, a "clean vehicle" must meet one or both of the following requirements:
  • Tax credit of $3,750 for clean vehicles that satisfy a "critical minerals" requirement. To satisfy the "critical minerals"⁵ requirement, a certain percentage of the value of the critical minerals contained in the vehicle's battery must be: (1) "extracted or processed in any country with which the United States has a free trade agreement in effect;"⁶ or (2) "recycled in North America." The required percentage would start at 40 percent and increase gradually to 80 percent by 2027. 
  • Tax credit of $3,750 for clean vehicles that satisfy a "battery components" requirement. To satisfy the "battery components" requirement, a certain percentage of the value of the components contained in the vehicle's battery must be "manufactured or assembled in North" America." The percentage would start at 50 percent and increase gradually to 100 percent by 2029. 
• Exclusion of vehicles with inputs sourced from "foreign entities of concern". The IRA would prohibit the application of the above tax credits where a vehicle's battery contains "any" components or critical minerals sourced from countries such as China and Russia. Specifically, a vehicle would be ineligible for the tax credits if either of the following apply:
  • "[A]ny of the applicable critical minerals" contained in the vehicle's battery were "extracted, processed, or recycled" by a "foreign entity of concern" (as defined by the Infrastructure Investment and Jobs Act, (42 U.S.C. § 18741(a)(5)). A foreign entity of concern includes, among other things, any foreign entity that is "owned by, controlled by, or subject to the jurisdiction or direction of a government of a foreign country that is a covered nation" (i.e., China, Russia, Iran, or North Korea). This prohibition would take effect with respect to vehicles placed in service after December 31, 2024.
  • "[A]ny of the components" contained in the vehicle's battery were "manufactured or assembled" by a foreign entity of concern. This prohibition would take effect with respect to vehicles placed in service after December 31, 2023. 

In addition to revising the existing tax credit for new EVs, the IRA would establish a tax credit for purchases of previously-owned clean vehicles. The tax credit would be equivalent 30 percent of the vehicle's sale price or $4,000, whichever is lower. However, the tax credit for previously-owned clean vehicles would not be contingent on regional assembly or sourcing requirements. 

Outlook

The IRA's passage is not yet assured, but the bill enjoys strong support from President Biden and Congressional Democrats, and there is a strong chance that Congress will approve the bill in the coming weeks. If enacted in its current form, the IRA would place EVs assembled outside North America at a competitive disadvantage in the US market, and therefore may prompt trade disputes with countries such as Japan, South Korea, and the European Union. The IRA seeks to avoid disruption of the North American automotive industry by allowing vehicles to qualify based on North American content and assembly (unlike previous versions of the legislation, which would have required US content and assembly). However, even vehicle producers within North America would have to make substantial changes to their sourcing practices to benefit from the IRA's revised tax credit. Many of the minerals and inputs needed to produce EV batteries are not widely available in North America, and this has been cited as a major obstacle to producing batteries that satisfy the regional content requirements of the US-Mexico-Canada Agreement ("USMCA").⁷ The same resource constraints will make it difficult (and potentially costly) to comply with the regional sourcing requirements envisioned in the IRA, absent substantial increases in North American production of critical minerals and battery components.

1 The text of the legislation can be viewed here.
2 "Summary of the Energy Security and Climate Change Investments in the Inflation Reduction Act of 2022," Senate Majority Leader Chuck Schumer, July 27, 2022
3 Id. 
4 26 U.S.C. § 30D.
5 "Critical minerals" subject to this requirement include specified forms of aluminum, antimony, barite, beryllium, cerium, cesium, chromium, cobalt, dysprosium, europium, fluorspar, gadolinium, germanium, graphite, lithium, manganese, neodymium, nickel, niobium, tellurium, tin, tungsten, vanadium, yttrium, and certain other minerals purified to a minimum purity of 99 percent (arsenic, bismuth, erbium, gallium, hafnium, holmium, iridium, lanthanum, lutetium, magnesium, palladium, platinum, praseodymium, rhodium, rubidium, ruthenium, samarium, scandium, tantalum, terbium, thulium, titanium, ytterbium, zinc, zirconium). 
6 The United States currently has free trade agreements in effect with Israel, Canada, Mexico, Jordan, Singapore, Chile, Australia, Morocco, Bahrain, Oman, Peru, Panama, South Korea, Colombia, Costa Rica, El Salvador, Guatemala, Honduras, Nicaragua, and the Dominican Republic.
7 "Report to Congress on the Operation of the United States-Mexico-Canada Agreement With Respect to Trade in Automotive Goods," Office of the US Trade Representative, July 1, 2022, at p 12.

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