IRS guidance clarifies domestic content energy credits


The IRS released guidance on May 12 (Notice 2023-38) providing a complicated set of rules for claiming the extra 10% bonus energy credits available under Sections 45 and 48 for projects that source iron, steel and manufactured components domestically.


The bonus credit rates will be important to the economics of many energy projects, and the notice provides guidance for both how to determine whether a project will qualify and how to certify compliance. Qualification can depend on several important determinations, including the direct labor and material costs of producing various components, the location where a component is considered produced, and even how a component or subcomponent will be classified for applying the tests.


Qualifying projects are generally eligible for an additional 10% investment tax credit (ITC) under Section 48 or a 10% increase in the rate for the production tax credits (PTCs) under Section 45. To qualify, projects must separately satisfy requirements on the sourcing of manufactured components and the sourcing of steel and iron components.


The IRS intends to propose regulations based on the notice that would apply to tax years ending after May 12, 2023, but the IRS said it is still actively considering this and soliciting comments. Taxpayers will be able to rely on the version of the rules in the notice for any projects that have already begun construction or will begin construction within 90 days after the final regulations are published.


Grant Thornton Insight

Investments in energy credit projects are increasing dramatically in the wake of the Inflation Reduction Act (IRA). The bonus credits for domestic sourcing could provide a meaningful boost to potential projects. However, using domestic suppliers could also affect costs. The guidance offers some relief for sourcing certain subcomponents, but the capacity for sourcing other affected components through domestic supply chains may be limited. Understanding and complying with the rules can also be complex under the IRS guidance. Taxpayers exploring the possibility of bonus credits may need to obtain detailed manufacturing and supply chain information from suppliers and contractors. Taxpayers who decide to pursue bonus credits should consider adding sourcing and substantiation requirements to agreements with contractors.




Bonus credits


The bonus credits are available for both the Section 45 PTC and the Section 48 ITC, which were enhanced and extended by the IRA. The bonus credits will also apply to the Section 45Y PTC and Section 48E ITC when they replace the current credits for projects beginning construction in 2025 or later.


The ITC offers a base credit of up to 30% of the basis of energy property when it is placed in service if the project complies with or is exempt from prevailing wage and apprenticeship requirements (see our previous story). Bonus credits are available for the following types of projects:

  • 10% for projects located in “energy communities” (see our previous story)
  • 10% or 20% for wind and solar projects on “Indian land” or benefiting low-income communities (see our previous story)
  • 10% for projects meeting the domestic sourcing requirements

The PTC generally offers a credit up to 2.7 cents per kilowatt hour (indexed for inflation) of electricity produced during the 10 years after a facility is placed in service (if prevailing wage and apprenticeship requirements are met or the project is exempt). The PTC rate can be increased by the percentages above for qualifying projects.


There are two tests to satisfy the domestic content bonus credit:

  • All steel and iron components must be produced in the U.S.
  • 40% of the total costs of all components that are manufactured products (including components) must be mined, produced, or manufactured in U.S. (20% for offshore wind facilities). These percentages are scheduled to increase for projects beginning constructions after 2026.
Grant Thornton Insight

The regulations can be complex as there are several different categories and layers of components and subcomponents. At the top level are the three separate types of components that must be domestically sourced under the statute: iron components, steel components, and components that are manufactured products. These are termed “project components” by the guidance, and the rules for steel and iron components are different than those for components that are manufactured products. Manufactured products must be further analyzed to identify their components, which the guidance calls “manufactured product components.” These manufactured product components can themselves have subcomponents that are essentially exempt from the sourcing requirements. Taxpayers will also need to determine how to categorize manufactured products or components that are made of steel or iron. The notice provides a safe harbor for a determining which test applies for a limited number of battery, wind and solar components.     




Steel and iron components


Steel and iron components are defined as construction materials made primarily of steel or iron that are structural in function. The steel and iron requirements do not apply to components and subcomponents of manufactured products, such as “nuts, bolts, screws, washers, cabinets, covers, shelves, clamps, fittings, sleeves, adapters, tie wire, spacers, door hinges,” and other items that are made primarily of steel or iron but are not structural.


The statutory language provides that the determination of where steel and iron components are produced must be applied consistent with Section 661.5 of Title 49, which contains the “Buy America” rules from the Department of Transportation for infrastructure projects. Consistent with these rules, the notice provides that the requirements are met if all manufacturing processes with respect to steel and iron take place in the U.S. with an exception for metallurgical processes involving refinement of steel additives.


Manufacturing processes are defined to include any process that alters the form or function of materials or elements of a product in a way that adds value and transforms the material or element so it is functionally different from that which would result from mere assembly.




Manufactured products


To determine whether 40% of the total costs of all manufactured products are mined, produced, or manufactured in the U.S., taxpayers must identify what is considered a manufactured product, what will be considered the components of that manufactured product, and what will be considered the subcomponents of those components.


A manufactured product is defined as an item that is produced as a result of the manufacturing process (defined above), and its components include “any article, material, or supply, whether manufactured or unmanufactured, that is directly incorporated” into the manufactured product.


A manufactured product is considered produced in the U.S. if all the manufacturing processes for the product take place in the U.S. and all its components are of U.S. origin. A component of a manufactured product is considered to be of U.S. origin if it is manufactured in the U.S., regardless of the origin of its subcomponents.


Grant Thornton Insight

It will be critical to determine whether components are considered direct components of a manufactured product or are subcomponents of another component of the manufactured product because the sourcing of subcomponents will not affect the calculation. The notice provides little explicit guidance on how to group or divide components or subcomponents apart from the general definition of a component. There is also a safe harbor that provides the classification of certain components common in utility-scale projects for solar, wind, and battery storage. It identifies 20 specific components as either steel/iron components or manufactured products, and then lists many of the components for the manufactured products that will also be subject to the rules.


The 40% threshold is calculated by totaling the cost of domestic manufactured products (when the products and all components meet the domestic tests) and the domestic components of products that are not themselves domestic (either because the product itself is not manufactured in the U.S. or one of its components is not of U.S. origin). This amount is divided by the total cost of all domestic products.


The cost of a manufactured product or component includes only the direct costs as defined under Treas. Reg Sec.  1.263A-1(e)(2)(i), which are generally the direct material and labor costs paid or incurred under Section 461 to produce or acquire the product or component. Direct costs, including direct labor costs, of incorporating the manufactured products into the project are excluded. The manufacturer of the product is the person who performed the manufacturing process, and the rules of Section 263A for determining whether a taxpayer is engaged in production or resale activities do not apply for this purpose. 


Grant Thornton Insight

The guidance also makes clear that refurbishment projects that qualify for credits because the fair market value of new property represents at least 80% of the total value can qualify for the domestic bonus credits if the new property satisfies the sourcing rules.






Taxpayers claiming a domestic content bonus credit must certify compliance with the tests by attaching a certification statement to Form 8835 (for the PTC) or Form 3468 (for the ITC) for the annual return in the first year a bonus credit is claimed. On any subsequent returns claiming PTC bonus credits for the project, the taxpayer must re-attach the original certification. The certification statement must include specific information about the project and must be signed under penalties of perjury by a person with legal authority to bind the taxpayer.


Grant Thornton Insight

The IRS declined to provide any additional specific record-keeping requirements to substantiate bonus credits, instead providing only that the general record-keeping requirements under Section 6001 apply. Treas. Reg. Sec. 1.6001-1 provides general rules on the record-keeping requirements for substantiating any item on a return.




Next steps


The IRA created unprecedented energy credit opportunities, making energy projects more attractive on a variety of scales. The types of qualifying property have been expanded and the credits can now be monetized more easily. The bonus credit amounts for domestic sourcing could provide a substantial benefit but could also increase the costs of projects. Taxpayers should model the potential impact of sourcing the required components domestically along with other factors, such as whether the PTC or ITC will provide a greater return. Taxpayers seeking to claim a bonus credit may need to obtain significant information from suppliers and contractors, and should consider adding sourcing requirements and substantiation procedures into contracts. 



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