Inflation reduction Act a modest tax headwind to US corporates
The Inflation Reduction Act’s (IRA) 15% corporate alternative minimum tax (AMT) and 1% excise tax on share repurchases should not materially impact US corporate credit profiles, says Fitch Ratings.
Rating actions precipitated by the new tax provisions are not likely because they do not dramatically alter cash flow or capex priorities. However, operating implications of IRA the for the utility, healthcare and auto sectors differ.
We expect the incremental tax revenues from the AMT to have a modest negative impact on corporate FCF after dividends. As such, select credit protection metrics that utilize after-tax cash flow metrics, such as FFO-based leverage and interest coverage, could also be modestly affected.
The Congressional Budget Office estimates that the AMT will generate $222 billion in tax revenue over 10 years. However, the AMT may not equate to materially higher cash taxes for some issuers, due to exemptions, tax credits, adjustments to book income and the ability to defer tax expenses.
Under the IRA, companies with adjusted financial statement income of $1 billion or more, on average during the prior three years, will pay taxes based on the greater of regular tax liability and a 15% AMT. Certain entities, including S-corporations and REITS, are exempt from the new AMT.
We believe companies are unlikely to alter financial strategies and capital allocation decisions due to the small size of the law’s nondeductible 1% excise tax on net share repurchases. The Joint Committee on Taxation estimates modest incremental revenue of $74 billion over 10 years from this new tax.
Fitch views common dividends as a less flexible capital allocation avenue than share repurchases, as issuers are less likely to cut them. Nevertheless, taxing share repurchases could incrementally increase the relative appeal of common dividends as a means of returning capital to shareholders. In the context of a finite amount of internal-growth investment opportunities and increased scrutiny of mergers from the Federal Trade Commission, external-growth strategies could be challenged.
In terms of sector-specific implications, companies focused on renewable energy stand to benefit from the new law, while the impact on manufacturers, including pharmaceuticals and automakers, could be neutral to modestly negative. The IRA could have positive implications for utilities focused on renewable solar and wind energy, given investments in, and credits for, clean electricity generation.
We view the law as neutral to US automakers in the near term, as new qualification restrictions for the $7,500 tax credit related to buyer incomes and car prices are offset by the removal of the prior 200,000-unit/year cap for eligible vehicles, which many automakers have exceeded this year.
Longer term, we have a slightly less positive view of EV sales growth due to the new restrictions in the IRA, which also includes manufacturing and materials sourcing requirements for tax credit qualification.
Consequences of the IRA for Medicare are modestly negative for pharmaceutical companies. The law allows Medicare to negotiate prices on selected drugs over the next 10 years and requires pharmaceutical companies to rebate price increases exceeding inflation.
Global pharma companies generally maintain diversified product portfolios, which should minimize pricing pressure for any single drug, but sector profitability and cash flow could be affected absent offsets to declining revenue.
