Executive summary
The Inflation Reduction Act of 2022 (IRA) amended the existing credit for energy efficient home improvements under section 25C and the credit for residential energy property under section 25D of the Internal Revenue Code. In December, the IRS released Fact Sheet 2022-40 detailing the general requirements for both credits available under sections 25C and 25D, as well as several FAQs regarding energy efficient home improvements and residential clean energy property credits. The FAQs and examples provide helpful explanations and sample applications of the law to sample facts.
IRS releases fact sheet regarding residential energy credits
The Inflation Reduction Act modified the two existing individual income tax credits for energy-related residential improvements. Some of the modifications included the extension of both credits, the elimination of a lifetime cap for one credit and the addition of properties eligible for both credits. Each credit is a nonrefundable personal tax credit and may only be used to decrease or eliminate a taxpayer’s liability.
The IRS in December released Fact Sheet 2022-40 containing descriptions of the two tax credits and a series of FAQs to apply the rules to sample facts. The fact sheet covers the following topics:
- Energy Efficient Home Improvement Credit: Qualifying Expenditures and Credit Amount
- Residential Clean Energy Property Credit: Qualifying Expenditures and Credit Amount
- Energy efficiency requirements
- Qualifying residence
- Labor costs
- Timing of credits
- General questions
- Examples
Energy efficient home improvement credit
Prior to Dec. 31, 2023, the energy efficient home improvement credit had a $500 lifetime cap. The IRA amended the credit to allow for an increase of up to $1,200 annually for qualifying property placed in service on or after Jan. 1, 2023, and before Jan. 1, 2033.
There are annual credit caps within the overall $1,200 annual limitation imposed on various qualified properties. There are exceptions where the maximum credit may be up to $3,200 depending on the mix of property installed by the taxpayer during the year.
In general, the credit is equal to 30% of the aggregate amounts paid for qualifying expenditures. Qualifying expenditures include:
- Qualified energy efficient improvements installed during the tax year
- Residential energy property expenditures during the tax year
- Home energy audits during the tax year
The fact sheet uses FAQs and examples to demonstrate the annual credit limitation rules, describe qualifying property and explain other rules for credit qualification.
Residential clean energy property credit
The IRA extended the residential clean energy property credit through 2034 and modified the associated credit rates. In general, the residential clean energy property credit is a 30% credit for certain qualified expenditures made by a taxpayer for residential energy efficient property during a year. The credit rate of 30% now applies to property placed in service after Dec. 31, 2021, and before Jan. 1, 2033.
The residential clean energy property credit percentage now phases down to 26% for property placed in service in 2033, 22% for property placed in service in 2034, and 0% for property placed in service after Dec. 31, 2034 (i.e., no credit is available for property placed in service after the calendar year 2034).
Starting in 2023, the IRA added expenditures for battery storage technology as qualifying for this credit. Several potentially qualifying expenditures are eligible for the credit, including the following:
- Solar electric property expenditures (solar panels)
- Solar water heating property expenditures (solar water heaters)
- Fuel cell property expenditures
- Small wind energy property expenditures (wind turbines)
- Geothermal heat pump property expenditures
- Battery storage technology expenditures
The fact sheet uses FAQs to describe qualifying property and the way the credit’s rules are applied to sample facts.
Washington National Tax takeaways
There are no surprises or revelations of planned additional guidance within the fact sheet. The FAQs and examples provide helpful explanations and sample applications of the law to sample facts.
The elimination of the lifetime credit cap for the energy efficient home improvement credit and the expanded list of qualifying expenditures available for both credits have the potential to incentivize investments in qualifying property. However, taxpayers should carefully consider the annual limitations, credit percentage phaseouts and residential use requirements (e.g., primary or secondary residence) that may apply to credit claims.
In order to prevent invalid claims for various credits, buyers and manufacturers of energy-related residential property must watch for forthcoming guidance that may clarify the process for identifying and certifying qualifying expenditures. Eligible claimants should consult with their tax advisor on the various energy incentives to ensure compliance with the provisions.
