President Joe Biden signed the Inflation Reduction Act into law on August 16th, 2022 after it passed in Congress.
This new law is a trimmed-down version of the president’s $1.75 trillion Build Back Better Plan. This act was signed into law amid historically high levels of inflation.
The Consumer Price Index (CPI), the benchmark that measures inflation pegged July inflation at 8.5%. Though the July data suggests that prices appear to be cooling off, US inflation is still at a 40-year high.
The real question on the minds of Americans is the potency of the bill to bring inflation down and lower living costs. In this article, we look at how the newly signed Inflation Reduction Act affects your pocket, and if it brings much-needed relief that consumers need at this time.
What is the Inflation Reduction Act?
The Inflation Reduction Act of 2022 is a law that aims to curb inflation by reducing the deficit, lowering prescription drugs, and investing in domestic energy production while promoting clean energy.
It is a budget reconciliation bill sponsored by Democratic Senators Chuck Schumer and Joe Manchin. The bill was introduced as an amendment to the Build Back Better Act which was reduced and comprehensively reworked from its initial proposal after receiving opposition from Manchin.
The law will raise $737 billion and authorize $369 billion in spending on energy and climate change, $300 billion in deficit reduction, three years of Affordable Care Act subsidies, prescription drug reform to lower prices, and tax reform.
5 Ways the Inflation Reduction Act Will Impact Your Money
1. Inflation
There have been varied reactions to the Inflation Reduction Act, but one stance that many financial analysts appear to agree on is that its title is misleading. By this, the policies enshrined in the law are unlikely to put a lid on rising prices – at least soon.
The bill levies tax hikes and regulations against manufacturers, which will restrain supply, diminish production, and increase prices. The University of Pennsylvania Wharton Budget Model estimates that the Inflation Reduction Act will fail to live up to its name — having no impact on lessening inflation.
The Tax Foundation stated that the bill “may worsen inflation by constraining the productive capacity of the economy.”
The fiscally conservative think tank estimated that the bill would result in a loss of 30,000 jobs and a 0.1% reduction in GDP while resulting in $304 billion of additional revenues, which would go towards deficit reduction.
2. Healthcare
The most publicized benefit of the Inflation Reduction Act is its effect on healthcare spending.
The law aims to lower insurance premiums by an average of $800 a year. The law also caps out-of-pocket spending for prescription drugs at $2,000 per year for Americans insured under Medicare, starting in 2025.
According to a survey, U.S. households in the bottom fifth of income cohorts pay an average of 34% of their income toward health care. Families in the highest income group pay 16% of their income toward health care.
For households in the middle, between 19.8% and 23.3% of their income goes toward health care, according to the study.
Considering that healthcare costs amount to over $12,500 per person (as of 2020), the Inflation Reduction Act may come as a reprieve for many Americans, especially those that have long-term health obligations.
3. Energy
To fight climate change, the new law includes enticements for consumers to add energy-efficient upgrades to their homes.
Depending on your income, you can receive upfront discounts or tax rebates on home energy projects such as heat pumps, rooftop solar panels, or basic weatherization. All told, you may qualify for up to $10,000 in tax breaks and rebates, according to an analysis.
These incentives may also have a trickle-down effect on what you pay for utilities. Between home energy improvements and cheaper commodity prices, the average U.S. household could net roughly $170 to $220 in annual savings, according to an estimate from nonprofit research firm Resources for the Future.
4. Taxes
The most contentious part of the law is the taxes.
Its provisions include a 15% minimum tax rate on the adjusted financial statement income of corporations with an average annual adjusted financial statement income of $1,000,000,000.
The law also includes $3.1 billion to increase IRS taxpayer services, $45.7 billion for IRS enforcement, $25 billion for IRS operations support, and $4.7 billion for IRS technology upgrades.
The law extends and adjusts an existing tax credit on the purchase of “clean” vehicles such as electric cars, plug-in hybrids, and cars that run on hydrogen fuel cells.
The credit, worth up to $7,500 on the purchase of new vehicles, is available through 2032. You won’t qualify, however, if your income or the price of the vehicle you wish to purchase exceeds certain thresholds.
However, there is a growing assumption that the Inflation Reduction Act would see Americans pay more in taxes as seen from the amount of money being budgeted for the IRS and its operations. Also, analysts believe that companies would indirectly pass on parts of the minimum corporate tax to employees.
According to calculations from the Joint Committee of Taxation, the law would lead to an increase of $16.7 billion for taxpayers earning less than $200,000 a year, $14.1 billion for taxpayers earning between $200,000 and $500,000, and $23.5 billion for taxpayers earning over $500,000)
5. Stocks
Just when investors were starting to regain their footing in what has so far been a volatile stock market this year, the Inflation Reduction Act may be forcing them to rethink which stocks to add to their portfolios.
The Inflation Reduction Act contains a 1% tax on stock buybacks and a 15% minimum tax for large companies that pay little or nothing in income taxes. That could hit big names like Amazon, Apple, and Tesla.
The buyback tax, combined with a new minimum 15% tax on corporations, is estimated to lower the 2023 earnings of S&P 500 companies by about only 1.5% per share. It will also create new costs that businesses will “now have to pass on to their customers.”
Theoretically, companies can respond to the proposed stock buyback tax in two ways: increase their dividends or stick to their buyback plans.
Companies that continue to engage in stock buybacks after the new tax is introduced in 2023 will see a reduction in profits as a slightly greater share of the profits would go to Uncle Sam.
If the 1% tax is significant enough for the company to issue dividends instead, investors could face taxes and likely see a lower tax return, rather than having the benefit of deferring those taxes to capital gains status when or if the investor ever sells the share.
Key Takeaways
The new Inflation Reduction Act aims to reduce the effects of inflation on Americans, but it appears this may be a lofty goal. For starters, it can reduce inflation in the short term, which is what most people need.
Though the law gives tax credits and rebates for energy-efficient homes, consumers would have to spend a huge chunk of money to upgrade their homes to energy-efficient levels.
It also has implications for stock performance as companies may want to pass costs from the 15% minimum tax to consumers and 1% buyback tax to investors by way of dividends.
The fact that many resources are allocated for the expansion of IRS activities raises eyebrows. The glimmer of hope however is in reduced healthcare costs by putting a cap on payments for prescription drugs. But this would not take effect until 2025.
As such, despite the law, it appears that Americans would have to continue battling with rising living costs, which the only reprieve comes from the fact that headline inflation is showing signs of cooling off. However, inflation at 8.6% is way off the Fed’s benchmark of 2%.
