By Matthew Gaude & Shawn McGuire
First, let me start off by saying whenever a new bill is proposed in Washington, it’s labeled suggesting an outcome exactly the opposite of the one that would in fact be realized. The Inflation Reduction Act of 2022,” the latest version of President Biden’s signature legislation known as the Build Back Better Act, which has been passed by Congress and signed into law. I think we can all agree that when the government prints and spends $369 billion, this is going to create inflation. That said, this Act does have massive positive implications for certain areas of the markets. This bill has several new changes, and it’s essential to review the updates in order to fully understand if and how your financial plan will be impacted.
We’ve put together an outline of the most significant tax changes to be aware of and what you can do to maximize your plan. This is by no means an exhaustive list, so please be sure to familiarize yourself with the full text here.
What’s Changing?
The Inflation Reduction Act has many key provisions aimed at combating climate change and reducing healthcare prices for American families. The Inflation Reduction Act focuses on energy security and climate change investments is vast.
Half of it, or a $369 billion investment, is set to stream into domestic materials, supplies, and technology.
It will also go toward production, manufacturing, and the upgrading of the U.S. energy space. And remember, this isn’t the only big move the government has made recently to push New Energy and Infrastructure forward.
On November 15, 2021, Washington also passed the $1 trillion Bipartisan Infrastructure Act. The Infrastructure Act included $88 billion in clean energy methods, electric vehicle production, and power grid upgrades, plus $55 billion in investments in clean water. The Inflation Reduction Act adds on to this. It includes another $60 billion for clean energy manufacturing across solar, wind, nuclear, and hydrogen power, as well as electric vehicle (EV) factories.
It also provides funding for technology investments across the supply chain. That includes incentives for the sourcing and production of the U.S. materials needed for the energy transition.
Here are some key features of the law: (1)
- Creates a variety of tax credits aimed at boosting investment in green energy and other sustainable climate-related practices. This includes tax credits for purchasing electric vehicles and making homes more energy-efficient.
- The limitation on pass-through business losses enacted in the Tax Cuts and Jobs Act has been extended through 2028. The provision limits net operating losses that can be taken against income to 80% of taxable income.
- The health insurance premium tax credit outlined in the American Rescue Plan Act has been extended and expanded through the end of 2025. This will allow more higher-income households to qualify and increase the subsidy available for lower-income taxpayers.
- Boosts IRS enforcement funding by $80 billion over 10 years. The hope is that increased funding will improve tax collection and increase government revenue by $202 billion.
- Creates a 15% minimum tax on corporations with profits over $1 billion. This provision would take effect starting in 2023.
- Imposes a 1% excise tax on the value of corporate stock repurchases starting in 2023. This excludes stock contributed to retirement accounts, pensions, and employee stock ownership plans (ESOP).
- Increases Superfund tax on crude oil and imported petroleum to 16.4 cents per barrel. This provision includes other increases in taxes and fees aimed at the fossil fuel sector.
- Creates a 95% excise tax penalty on drug manufacturers in an effort to lower drug prices. The act also caps prescription drug expenses to $2,000 annually for Medicare recipients.
- Allows Medicare to negotiate drug prices directly with manufacturers. Historically, health plans had to negotiate the prices, and Medicare was prohibited from getting involved. The other changes in healthcare are largely related to part D and part D prescription drugs. Specifically, over time we would eliminate the 5% co-insurance on catastrophic instances for part D. We would put a part D cap on out-of-pocket costs of $2,000. On top of that, Medicare would begin to be able to negotiate with drug companies for certain drugs. Now, admittedly, it would start with only 10 drugs and only part D, but it would expand to up to 20 drugs in part D and B by 2029. The hope there of course is that by negotiating Medicare would be able to reduce its cost and be able to reduce the cost to participants.
- The research and development tax credit has been increased to $250,000. Small businesses can claim this credit against payroll taxes starting in 2023.
Most Importantly is What’s Not in the Inflation Reduction Act
Biden originally set out to do the following in the Build Back Better Bill:
- Raise the top tax rate on regular income to 39.6%
- Raise the top tax rate on long-term capital gains and dividends to 39.6% (versus a current 20%).
- He wanted to get rid of the step-up basis at death.
- He wanted to raise the regular corporate tax rate to 28% (versus the current 21%) and tax “carried interest,” as well.
- He wanted to put an end to backdoor Roth conversions by prohibiting voluntary after-tax (non-Roth) contributions from being converted to Roth after-tax contributions
- The Build Back Better Act would also prohibit taxpayers from executing similar backdoor Roth conversions outside of the 401(k) context by rolling over after-tax amounts in traditional IRAs to Roth IRAs.
None of the above items were included in the Inflation Reduction Act.
What Should You Do?
The good news is that most of these changes will not take effect until January 1, 2023, so that leaves time for some creative planning. Here are some things you can do to make the most of the new tax provisions:
- Plan your purchase and home upgrades. Since the new bill creates sweeping tax credits for green purchases and energy-efficient home improvements, consider planning your purchases and upgrades to take advantage of these credits. If you plan to purchase an electric vehicle, make sure you’re aware of the restrictions around which vehicles qualify for the credit. For instance, vehicles with minerals or components sourced from foreign entities of concern, such as Russia or China, will not qualify for the credit. (2)
- Review your investment strategy. Because of the additional taxes and fees imposed on the fossil fuel and oil industries, you may want to review your investment strategy if you have heavy asset allocations in these industries. The taxes could impact the overall profitability of companies in these sectors and may have negative implications for shareholders.
- Stay up to date on your taxes. With all the changes and increased IRS funding, it’s more important than ever that you stay up to date on your tax situation. Not only can this help you avoid making costly mistakes, it can also ensure you’re taking advantage of any and all tax credits available to you. Working with a qualified financial advisor or tax professional is a great place to start.
How Can We Take Advantage of This From an Investment Perspective?
Losers of the Inflation Reduction Act
Off the top, any large corporations that have been able to use accounting to sidestep or reduce their tax load will get dinged. That’s because the bill imposes a 15% minimum tax on companies earning at least $1 billion a year.
As a few examples, if you own Nike, Salesforce.com, Archer Daniels Midland, or FedEx, this means your bottom-line earnings will be taking a hit. In 2021, a report by the Center for American Progress found that 19 companies in the Fortune 100 alone paid little or no tax. If we narrow that to companies that paid 6% or less, we’d be looking at Amazon, Exxon Mobil, AT&T, Bank of America, and both Ford and General Motors.
The Biggest Winners From the Bill
It would appear that electric-vehicle companies would get a huge tailwind from the Inflation Reduction Act. That’s because the bill includes tax-credit incentives for electric-vehicle purchases – $4,000 for the purchase of a used EV, and $7,500 for a new one.
But there’s some fine print to be aware of. The bill caps the price of eligible new cars at $55,000, which excludes Tesla’s most popular version of the Model 3 (plus all Model S and X vehicles). This also means that most or all of the EVs from Lucid and Rivian won’t qualify.
In fact, if we look at the entire EV sector, many cars are priced out since the average electric-car cost in the U.S. hit $66,000 in June. EV manufacturers with average June 2022 transaction prices above $55K include BMW, Daimler, Rivian, Tesla, and Volkswagen. Ford is right at the cusp, with its average EV coming in at $54,602. The EV manufacturers more likely to benefit include: GM ($50,357), Honda ($37,699), Hyundai ($36,161), and Mazda ($29,953).
The Backdoor Way to Play EV Credits in the Inflation Reduction Act
To set the stage, let’s turn to CNBC for more about what’s in the bill:
More crucially, the bill includes requirements for domestic manufacturing of EVs and their battery components to qualify for the extended credit.
As written, the law requires that 40% of battery components be sourced from factories in the U.S. or its free trade agreement partners; that batteries be U.S. made by 2029; and that Chinese components and minerals be phased out beginning in 2024.
This is setting the stage for a massive “picks ‘n shovels” investment play courtesy of something that is critical to EV batteries: Lithium. You can’t have an electric car without an electric battery, and our latest, cutting-edge batteries require lithium. Unfortunately, we’re facing a shortage of lithium today. Earlier this summer, The Wall Street Journal highlighted Rivian Automotive CEO RJ Scaringe’s warning that the shortage of battery supplies for EVs could be worse than the semiconductor shortage. From Scaringe:
Put very simply, all the world’s [battery] cell production combined represents well under 10% of what we will need in 10 years.
Other Winners in the Bill
Utility companies that use renewable energy are also likely to get a boost. That’s because nearly 1/3rd of the tax breaks in the bill go to tax credits for renewable-electricity plants.
We can expand this bullishness to clean energy, solar, and renewable companies in general.
How We Can Help
At Live Oak Wealth Management, we’re here to discuss how your financial situation could be impacted by the recent tax law changes. Whether you want to take advantage of new tax credits or discuss your investment strategy, we will help you navigate these changes and more, so that you can feel confident and prepared in your plan for the future. Call our office at 770-552-5968 or email [email protected]. Or, if you prefer, you can simply click here to schedule an appointment online.
About Matthew
Matthew Gaude is an *investment advisor representative and the co-founder of Live Oak Wealth Management, a financial services firm in Roswell, Georgia. He serves the planning and investment needs of corporate employees, those approaching or in retirement, and 401(k) plan sponsors. Working first as a commodity broker and then as a Business Development Manager for a national broker-dealer in previous jobs, he has the insight and experience to help clients understand the complexities of the market and implement strategies to minimize risk. To learn more about Matthew, connect with him on LinkedIn or visit www.liveoakwm.com.
About Shawn
Shawn McGuire is a financial advisor and the co-founder of Live Oak Wealth Management, a financial services firm in Roswell, Georgia. He serves the planning and investment needs of corporate employees, those approaching or in retirement, and 401(k) plan sponsors. He has worked in financial services since 2002 in positions ranging from financial advisor to stock broker and portfolio manager. As a CERTIFIED FINANCIAL PLANNER™ professional, he is trained to help clients with virtually all their financial needs. To learn more about Shawn, connect with him on LinkedIn or visit www.liveoakwm.com.
Securities offered through American Portfolios Financial Services, Inc., member FINRA/SIPC. Investment advisory services offered through *American Portfolio Advisors, Inc., a SEC Registered Investment Advisor. Live Oak Wealth Management, LLC is independently owned and not affiliated with APFS or APA.
Any opinions expressed in this forum are not the opinion or view of American Portfolios Financial Services, Inc. (APFS) or American Portfolios Advisors, Inc. (APA) and have not been reviewed by the firm for completeness or accuracy. These opinions are subject to change at any time without notice. Any comments or postings are provided for informational purposes only and do not constitute an offer or a recommendation to buy or sell securities or other financial instruments. Readers should conduct their own review and exercise judgment prior to investing. Investments are not guaranteed, involve risk, and may result in a loss of principal. Past performance does not guarantee future results. Investments are not suitable for all types of investors. Seek tax advice from a tax professional. Neither APFS nor its Representatives provide tax, legal or accounting advice.
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