EV Production Line on Advanced Automated Smart Factory. High Performance Electric Car Manufacturing. Car Batteries Installation on Electric Vehicles on Assembly line. Automotive Plant.
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The $7,500 EV tax credit was one of many casualties resulting from the One Big Beautiful Bill Act. While this bill was signed into law on July 4, the credit did not expire for several months, according to Forbes. However, as of October 1, these credits are no longer available, leading to questions about the future of this segment of the automotive industry. Most notably, the tax incidence for purchasing these vehicles shifts from the Federal government to the purchasers or the car manufacturers. This article discusses how tax incidence shapes retail consumer decisions and whether the disappearance of this credit will affect the automotive industry, most notably, those companies that have invested heavily in the manufacturing and production of EVs.
EV Tax Credits
The EV tax credit was first introduced in 2005 and greatly expanded in 2011, according to the U.S. Department of Energy. The amount that has been given for these vehicles is up to $7,500, which the dealer removed from the price of the car. In turn, the dealer applied for a rebate from the federal government for the amount of the tax credit.
This tax credit has led to a massive increase in the number of EVS purchased over the past two decades. As discussed by Forbes, EVs were once extraordinarily expensive, and purchasing one meant an undue financial burden on the consumer. Put differently, most purchasers early on acquired these vehicles less because it was a wise financial decision and more because of the non-financial benefits, such as making a positive impact on the environment and fighting global warming.
The EV tax credits changed the calculus for purchasing these vehicles. Many consumers saw the tax incentives as a mechanism to acquire an EV since it substantially lowered the after-tax costs relative to other vehicles. As demand rose due to the lower cost, producers of the EVs ramped up production and enhanced their products. The entire car industry has been upended by newcomers, such as Tesla and Rivian, which offer fully electric vehicle options at prices not much different than their counterparts in gas-powered vehicles. Other manufacturers, like Ford and General Motors, and luxury brand vehicles like Audi and BMW, have increased manufacturing and sales of EVs.
The Tax Incidence Of EV Tax Credits
Within economic theory lies the concept of “tax incidence”. This idea was coined early on by research published in the Journal of Political Economy, stating that the person or entity paying the tax may not necessarily be the person physically paying the tax bill to the government. Other academic research has expanded on this concept, demonstrating that tax incidence can vary substantially across taxpayers, business entities, and governmental regimes.
As an example, according to CBS News, the state of Illinois will now apply a $0.50 tax on every sports gambling bet made via sports betting apps, such as DraftKings, FanDuel, and Underdog. These gambling companies must decide who will ultimately bear the burden of taxation imposed by the State of Illinois. If the companies bear the tax incidence, then they can determine the tax bill based on the number of wagers and pay it, thereby lowering the company’s earnings. However, if the companies want to shift the tax incidence to their customers, then they can add on a $0.50 surcharge to every bet made in the state of Illinois. This addition would make each bet more costly. However, it will be their customer who ultimately bears the burden of taxation. While it may come as little surprise that the gambling companies chose the latter, this example helps illustrate that the tax incidence for new layer of tax fell on the consumers rather than the company.
This same tax incidence example applies to the now disappearing EV tax credit. Effective October 1, the $7,500 EV tax credit will no longer be offered for EV purchases. Consider a Tesla Model Y, which has a standard all-in purchase price of around $47,500. On September 30, the price of this vehicle is $40,000, but that price reverts back to its standard purchase price the very next day. Thus, moving forward, the price of the EV will be $7,500 more expensive that it was before the tax credit’s expiration.
The question now arises whether the company or the taxpayer will bear the incidence of this tax. For instance, Tesla can maintain their price on their vehicles even after the tax credit is no longer offered. However, this decision would come at a risk that consumers may now be less incentivized to purchase the electric vehicles, resulting in a decline in demand at the standard price. On the contrary, Tesla can absorb the costs of the tax credit and continue providing consumers with the same price, even though Tesla will not receive the tax rebates from the government. While the decision by the automobile manufacturers has not yet been made, they will soon need to decide on their pricing strategies now that the EV tax credit is no longer available.
The notion that EV manufacturers will need to decide between decreased demand and decreased profit margin suggests that the automobile manufacturers will take a hit to their earnings one way or another due to the disappearing EV tax credit. Put differently, if demand declines because the price is now higher (without a corresponding increase in after-tax earnings) then earnings will fall. Conversely, if the automobile manufacturers absorb the costs, then their profit margins will also decline. What is key for these companies is that they balance out the tax incidence of the reduced tax incentives.
As discussed by CNBC, the automobile industry is about to establish a new baseline demand for EVs. With the EV tax credit going away starting October 1, this article demonstrates that the auto manufacturers will need to assess their sensitivity for absorbing these diminished tax incentives by lowering their retail prices or passing these diminished tax incentives onto the consumer by maintaining their prices (albeit with a higher after-tax price). Regardless of their decision, the EV auto industry is now facing its toughest battle as it seeks to continue its rise in popularity without federal EV tax credits.