Final regulations are issued on Section 48D credit

In brief

What happened?

The IRS and Treasury on October 23 published final regulations under Section 48D, the advanced manufacturing investment tax credit. The final regulations apply to property placed in service after 2022 in a tax year ending on or after October 23, 2024.

Why is it relevant?

Section 48D provides an investment credit for the basis of facilities that manufacture semiconductors or the equipment to manufacture semiconductors. A taxpayer may elect to receive a direct payment in lieu of claiming the credit on the tax return.

Action to consider

The final regulations make clarifying changes to the proposed regulations that taxpayers should review, including modifications to the definitions of an advanced manufacturing facility, qualified investment, and qualified property, and to the rules relating to applicable transactions. See the PwC Insight Proposed regulations address Section 48D credit for semiconductor manufacturing for a discussion of the proposed regulations. Final regulations on direct payment of the Section 48D credit were published separately and are discussed in the PwC Insight Regulations finalized on direct payment of energy and advanced manufacturing tax credits.

Advanced manufacturing facility

The proposed regulations defined an advanced manufacturing facility as manufacturing finished semiconductors. The final regulations remove the term “finished.”

The final regulations provide that the primary purpose of a facility is manufacturing semiconductors if more than 50% of its potential output, as measured by cost of production, revenue received in an arm’s length transaction, or units produced, constitutes manufacturing semiconductors or the equipment to manufacture semiconductors. However, only the basis of qualified property is included in determining the Section 48D credit.

The primary purpose test must be satisfied in the year a facility is placed in service. The credit may be subject to recapture under Section 50(a)(1) if the facility fails the primary purpose requirement during the five-year recapture period.

The final regulations provide that a semiconductor is an integrated electronic device or system most commonly manufactured using materials such as silicon, silicon carbide, or III-V compounds and processes such as lithography, deposition, and etching. These devices and systems include analog and digital electronics, power electronics, and photonics, for memory, processing, sensing, actuation, and communications applications.

The final regulations clarify that semiconductor manufacturing includes semiconductor wafer production, semiconductor fabrication, and semiconductor packaging. Semiconductor wafer production includes the processes of growing single-crystal ingots and boules, wafer slicing, etching and polishing, bonding, cleaning, epitaxial deposition, and metrology, but not the production of precursor materials or further upstream production processes. Semiconductor fabrication includes the process of forming devices such as transistors, poly capacitors, non-metal resistors, and diodes, and interconnects between these devices, on a wafer of semiconductor material. Semiconductor packaging is the process of enclosing a semiconductor in a protective container and providing external connectivity for the assembled integrated circuit and includes assembly and testing.

The final regulations provide that semiconductor manufacturing equipment means highly engineered specialized equipment used in manufacturing semiconductors and the subsystems that enable or are incorporated into the equipment. Subsystems include items such as specialty glass lenses, photomasks, lenses and mirrors, lens assemblies for wafer defect inspection following wafer printing, light sources or other major components of photolithography systems, and advanced ceramic products.

Observation: Definitions of “semiconductor” and “semiconductor manufacturing” are relevant to whether a facility is an advanced manufacturing facility for purposes of both credit eligibility and whether a taxpayer has engaged in an applicable transaction with a foreign entity of concern. Rules defining “foreign entity of concern” and “applicable transaction” are provided in Commerce Department final regulations published September 25, 2023. The final regulations adopt definitions of “semiconductor” and related terms from the Commerce regulations, with some modifications.

Beginning of construction

The proposed and final regulations permit a taxpayer to apply a physical work test or a 5% safe harbor to determine when construction begins for purposes of the December 31, 2026, Section 48D termination date. The taxpayer also must satisfy a continuity requirement.

Under the proposed and final regulations, Section 48D does not apply to a unit of property that is part of an advanced manufacturing facility and the property begins construction after the Section 48D termination date. A unit of property may be a single advanced manufacturing facility project or a single item of qualified property. Generally, multiple items of qualified property and multiple advanced manufacturing facilities that are operated as part of a single project are treated as a single item of qualified property, determined as of the tax year that the last property is placed in service.

The proposed and final regulations list items of property that are treated as a single item of qualified property. The final regulations add tooling equipment and semiconductor manufacturing equipment to this list. Multiple properties or facilities are a single project if they are owned by a single taxpayer at any point during construction. Taxpayers that are members of a business under common control are treated as a single taxpayer.

Applicable transactions

The final regulations cross-reference the Commerce Department regulations for the definitions of “foreign entity,” “foreign entity of concern,” and “foreign country of concern.”

Under the proposed and final regulations, an applicable transaction is a significant transaction involving the material expansion of semiconductor manufacturing capacity of an applicable taxpayer in a foreign country of concern. The proposed regulations provided that investments or transactions valued at $100,000 or more are significant and that a significant transaction includes identified transactions engaged in by an entity at least 50% owned by an applicable taxpayer. The final regulations remove the $100,000 threshold and 50% ownership rules.

The final regulations add that, if a taxpayer that has received a semiconductor manufacturing grant enters into an agreement with the Commerce Department that requires repayment if the taxpayer engages in an applicable transaction, the term “significant transaction” has the same meaning for purposes of Section 48D as used in the agreement.

The proposed regulations defined a material expansion of semiconductor manufacturing capacity as the addition of physical space or equipment that has the purpose or effect of increasing capacity by more than 5%. The final regulations add that construction of a new facility is a material expansion and that the 5% rule applies to an existing facility and only to the addition of a cleanroom, production line, or other physical space.

Under the proposed and final regulations, facilities that undergo significant renovations are not existing facilities. The proposed regulations provided that significant renovations increase semiconductor manufacturing capacity by adding an additional line or otherwise increasing capacity by 10% or more. The final regulations define significant renovations as building new cleanroom space or adding a production line or other physical space that increases capacity by 10% percent or more.

The proposed regulations provided that semiconductor manufacturing capacity is measured in wafer starts per month for a semiconductor fabrication facility and in packages per month for a packaging facility. Under the final regulations, semiconductor manufacturing capacity is measured in wafer starts per month for a semiconductor wafer production facility, in wafer starts per year for a semiconductor fabrication facility, and in packages per year for a packaging facility.

The proposed regulations included a detailed definition of “legacy semiconductor.” The final regulations define legacy semiconductor by cross-reference to the Commerce regulations. The preamble to the final regulations explains certain rules that are incorporated into the final regulations as a result.