OBBB Adds Prohibited Foreign Entity Restrictions to Energy Credits

The One Big Beautiful Bill Act (OBBBA) introduces new restrictions  on the availability of U.S. clean energy tax incentives in connection with prohibited foreign entities (PFE). Generally, these provisions limit several of the energy tax credits from being claimed by an entity that is a prohibited foreign entity or utilizes material assistance from a PFE.

Prohibited Foreign Entities

The OBBBA introduced new categories of PFEs: Specified Foreign Entity (SFE) and the Foreign Influenced Entity (FIE).

Specified Foreign Entity

Specified Foreign Entities are:

• Chinese military companies operating in the United States
• Certain FEOCs under William M. (Mac) Thornberry National Defense Authorization Act for Fiscal Year 2021 (P.L. 116-283)
• Listed entities in Pub. Law 117-78
• Certain specified entities under the National Defense Authorization Act for Fiscal Year 2024 (P.L. 118-31)
• Foreign controlled entities, defined below.

Foreign controlled entities are defined as:

• A government of a covered nation,
• An agency or instrumentality of a covered nation,
• A non-US citizen that is a citizen of a covered nation,
• An entity or qualified business that is organized in a covered nation, or an entity controlled by any of the above.

Specifically, covered nations are defined as North Korea, China, Russia, or Iran.

The term controlled is defined as ownership of more than 50% of the stock in a corporation, more than 50% of the profits or interests or capital interests in a partnership, or more than 50% of the beneficial interests in an entity.

Ownership is determined similar to the Section 318(a)(2) stock attribution rules. Under those rules, attribution occurs for stock ownership from entities such as partnerships, estates, trusts, and corporations to their owners, partners, beneficiaries, or shareholders.

There is an exception if an entity’s securities are publicly traded, so long as:

• the exchange or market is not incorporated or organized under the laws of a covered nation, and
• does not have its principal place of business in a covered nation.

However, the entity will be deemed a foreign-controlled entity if it is controlled by one or more specified foreign entities that are each required to report their beneficial ownership.

For example, if a foreign partnership owns 60 percent of the stock of a U.S. corporation, and a foreign employer owns 50 percent of the partnership, then the foreign employer is considered to own 30 percent (50 percent × 60 percent) of the U.S. corporation’s stock.

Foreign Influenced Entity

An FIE is any entity where, during the year, a SFE has:

• The direct authority to appoint a covered officer,
• A single specified foreign entity owns at least 25% of the entity,
• One or more specified foreign entities own in the aggregate 40% or more of the entity, or
• At least 15% of the debt of the entity has been issued to one or more specified foreign entities.

FIEs also include entities that, during the previous year, made a payment to a SFE pursuant to a contract which entitles the SFE to exercise effective control over any qualified facility  of the taxpayer.

Effective control exists if there is one or more agreements that give one or more contractual counterparties specific authority over key aspects of the production of:

• Eligible components (as defined under Section 45X(c)(1),
• Energy generation in a qualified facility (as defined under Sections 45Y(b)(1) and 48E(b)(3)), or
• Energy storage technology.

The Department of Treasury has been tasked with providing guidance on effective control. In the meantime, effective control means the unrestricted contractual right of the contractual counterparty to:

• Determine the quantity or timing of production of an eligible component produced by the taxpayer.
• Determine the amount or timing of activities related to the production of electricity at a qualified facility of the taxpayer or the storage of electrical energy in energy storage technology (as defined under Section 48E(c)(2)) of the taxpayer.
• Determine which entity may purchase or use the output of a production unit of the taxpayer that produces eligible components.
• Restrict access to data critical to production or storage of energy.
• Exclusively maintain, repair, or operate necessary equipment.

Effective control may also exist with respect to a licensing or other agreements where a contractual counterparty exists. In this sense, effective control can mean:

• A contractual right to specify one or more sources of components, subcomponents, or applicable critical minerals.
• A contractual right to direct the operation of any qualified facility, any energy storage technology, or any production unit that produces an eligible component.
• A contractual right to limit the taxpayer’s utilization of intellectual property.
• A contractual right to receive royalties under the agreement beyond the tenth year of the agreement.
• A contractual right to require an agreement with the taxpayer for a provision of services for a duration longer than two years.
• A contract where the licensee is not provided with all knowledge to produce on its own.

However, these licensing/contractual agreement rules do not apply if there is a bona fide purchase or sale of intellectual property.

Like SFEs, there are exceptions for entities that are either publicly traded or for which not less than 80% of the equity securities of such entity are owned directly or indirectly by an entity that is publicly traded. However, the entity will be deemed a FIE if, during the year, a publicly traded SFE is deemed to have effective control.

Material Assistance

The OBBBA added a prohibition on benefiting from material assistance from a prohibited foreign entity. Material assistance exists when the material assistance cost ratio is less than the applicable threshold percentage.

The Material Assistance Cost Ratio is determined by evaluating all direct costs attributable to all manufactured products, eligible components, or critical minerals that:

• are incorporated into the qualified facilities and energy storage technology and/or
• paid or incurred in the production of eligible components and critical minerals (qualified direct costs).

Next, the direct costs attributed to all manufactured products, eligible components, or critical minerals sourced from a PFE (PFE direct costs) are subtracted from the qualified direct costs. The difference is then divided by the qualified direct costs to determine the ratio.

The threshold percentage that the material assistance cost ratio is measured against varies depending on the year and whether a qualified facility, an energy storage technology, or an eligible component is at issue.

There are a couple of exceptions to the above material assistance requirements. They include:

1. Existing Contract - To use the election, the manufactured product, eligible component, or constituent element, material, or subcomponent of an eligible component must be both acquired by the taxpayer (or manufactured for the taxpayer) subject to a binding contract that was entered into prior to June 16, 2025, and be:

1. Placed in service before January 1, 2030 (or, in the case of an applicable facility under Section 45Y(d)(4)(B), January 1, 2028) in a facility which began construction before August 1, 2025, or
2. In the case of a constituent element, material, or subcomponent, used in a product sold before January 1, 2030.

1. Safe Harbors - The OBBBA has codified its intention that the Treasury will issue safe harbor tables or other necessary guidance to:

1. Identify the percentage of total direct costs of manufactured products attributable to a prohibited foreign entity,
2. Identify the percentage of total direct material costs of eligible components that are attributable to a prohibited foreign entity, and
3. Provide all rules necessary to determine the amount of a taxpayer's material assistance from a prohibited foreign entity.

Until such time that official safe harbors are issued, the OBBBA authorizes taxpayers to rely on the domestic content safe harbor tables included in Notice 2025-8 or on a certification by the product’s supplier. However, if the taxpayer knows or has reason to know that a manufactured product or eligible component was produced by a PFE, all the direct costs are treated as attributable to a PFE.

Anti-Circumvention rules exist to prevent working around these exceptions. Treasury is tasked with prescribing rules to prevent the abuse of the binding contract exception through stockpiling of manufactured products and any evasion demonstrating that the beginning of construction has not in fact occurred.

Further, additional penalty rules exist for substantial misstatements on supplier certifications. The penalty is assessed if the certification supplier provides a certificate for a manufactured product and knows, or should have known, that it would be relied on and knows it is incorrect. The inaccuracy must have resulted in a credit disallowance or understatement of income of at least five percent or $100,000. The statute of limitations for this provision is six years.

Next Steps

The new prohibited foreign entity requirements are complex. The implementations vary by credit and eligible component and the penalties for misstatements are high. We can help you make sense of the new tax legislation and what it means for your energy incentive credits.