Inflation Reduction Act: Considerations for private equity firms

In detail

Corporate book-income AMT

A corporate AMT based on financial statement income (book minimum tax, or BMT) provision imposes a 15% minimum tax on adjusted financial statement income (AFSI) for corporations with average annual AFSI over a three-tax year period in excess of $1 billion. The provision imposes a minimum tax equal to the excess of 15% of an applicable corporation’s AFSI over the corporate AMT foreign tax credit (FTC) for the tax year. This provision is effective for tax years beginning after December 31, 2022.

An “applicable corporation” subject to the BMT is a corporation (other than an S corporation, regulated investment company, or real estate investment trust) that meets an AFSI test in one or more tax years prior to the tax year and ending after December 31, 2021. A corporation meets the AFSI test if its average AFSI (determined without regard to the adjustment for financial statement net operating loss carryovers) over the three tax years ending with the relevant tax year exceeds $1 billion. A corporation’s AFSI is aggregated with the AFSI of all persons treated as a single employer under Section 52(a) or Section 52(b) to determine if the corporation is an applicable corporation. 

Observation: The “Build Back Better” reconciliation bill that the House approved in November 2021 had introduced a provision to amend Section 52(b) to expressly provide that the term “trade or business” includes any activity treated as a trade or business under Sections 469(c)(5) or (6). Such an amendment, if it had been enacted, would have increased the number of business entities treated as being under common control for purposes of Section 52(b). For example, lower-tier operating companies that are majority-owned by a private equity fund could have been deemed to be under common control for purposes of Section 52(b) and therefore treated as a single corporation when determining AFSI for purposes of the AMT. The reconciliation bill recently passed by the House and Senate did not include a similar provision; as a result, Section 52(a) and Section 52(b) are not amended.

Clean energy investment opportunities

The bill reinstates and significantly expands current clean-energy tax incentives by providing an estimated $370 billion of new energy-related tax credits over the next 10 years. The bill also would have a significant impact for companies relying on financing arrangements for energy-related projects, permitting more flexibility with direct-pay and transferable credit options. 

Taken as a whole, these incentives could be of significant interest not only for traditional energy companies but also for a wide range of “business-to-business” (B2B) and “business-to-consumer” (B2C) companies, including those in the transportation, real estate, and manufacturing industries. 

The bill structures many new and existing clean-energy and energy-efficiency tax incentives as two-tiered incentives with a “base rate” and a “bonus rate.” The bonus rate equals five times the base rate and applies to projects that meet certain wage and apprenticeship requirements. A taxpayer must satisfy both requirements to receive the bonus credit rate; otherwise, the taxpayer may claim the relevant credit at the base rate. Some of the credits in the bill also include bonus rates based on the domestic content of the property to which the credit would apply.

Observations: These incentives are intended to encourage additional accelerated investment in lower-carbon technologies. That result would represent a significant step toward adoption and promotion of these technologies by businesses and individuals, by helping to bend their cost curve in light of various climate-related goals adopted by the Biden Administration for accelerating decarbonization of the US economy, including a goal to reduce emissions by 50% by 2030, against a 2005 baseline.

The revised structure of these credits makes it more important for companies to analyze not only what low-carbon investments they are making but also how and where those projects will be built. The bill adds a social benefit lens to environmental credits, and companies will want to consider the entire range of their environmental, social, and governance (ESG) goals and strategies when planning investments to take advantage of these credits. 

Furthermore, companies should apply a tax lens in assessing their ESG goals and strategies for attaining them. These incentives could have a significant effect on the after-tax costs of capital investments or other innovations to achieve those goals. 

Action item: Given the range of potentially significant consequences, businesses should analyze these provisions and model their impact in the broader context of their overall ESG goals. Businesses also should consider potential changes to their manufacturing or operating models to align with the specific tax incentives in the bill, also taking into account the perspective of active stakeholders — both shareholders and customers — increasingly interested in actions a business may be taking or considering in the environmental area. 

Action item: Companies should evaluate whether extended incentives for renewable energy and expanded incentives for electric vehicles may help fund their transition toward cleaner energy and attainment of near-term ESG commitments. In the longer term, new incentives such as those for clean hydrogen, carbon capture, and electric transmission property could drive strategies for capital expenditures. Finally, the return of the Section 48C credit for advanced energy manufacturing property may incentivize companies to locate more such facilities in the United States.

See our Insight, Reconciliation bill includes numerous energy incentive tax proposals, for more information, including effective dates, on the incentives for clean, renewable, and traditional energy sources included in the bill.