Category: Tax

Tax-Loss Harvesting Part III: Investment Strategies

Taxpayers invest to make money and hope to earn a decent return on their investments. Tax-loss harvesting can be used as part of a taxpayer’s overall investment strategy without affecting investment returns, while offsetting tax otherwise due on capital gains.[1] In this part of the series, I look into some popular investment strategies that are often combined with tax-loss harvesting methods.
First, what is meant by “standalone loss harvesting”?
“Standalone loss harvesting” is when a taxpayer sells loss assets to “mop up” tax otherwise due on capital gains but ignores the reinvestment of sales proceeds. Without reinvestment, however, a taxpayer’s portfolio will shrink over time to the point when no securities are left from which the taxpayer can harvest losses.
For these reasons, it is unusual for a taxpayer to engage in standalone loss harvesting. Taxpayers typically reinvest their sales proceeds in accordance with their preferred investment strategies. Two of the most common strategies are “direct indexing” and “long-short portfolios.” These investment techniques support taxpayers who buy securities to replace those they sell from their portfolios, while allowing them to continue to track a specific designated benchmark index (either a public or custom index).
Explain the popular investment strategies taxpayers use in combination with tax-loss harvesting approaches?
The investment strategies available to taxpayers are varied and extensive. For purposes of our discussion, I will focus on four strategies that can be followed separately or combined. First, a taxpayer can invest in a passive fund where the taxpayer simply holds an investment in that fund. Second, a taxpayer can hold, in their own account, a securities portfolio that consists of shares of stock that replicate a broad-based index. Third, a taxpayer can engage in what is referred to as a long-short strategy where the taxpayer holds both a long portfolio and a short portfolio. And fourth, a taxpayer can combine a long-short portfolio and an investment in a passive fund that replicates a broad-based stock index. Each of these approaches have advantages and disadvantages, which I discuss below.
Passive Fund
As a starting point, a taxpayer can invest in a passive fund that replicates a broad-based stock index. This passive investment exposes the taxpayer to general market risk. The taxpayer has no decision-making authority with respect to the stocks held in the fund. The only decision is whether, where, and when to keep or sell the shares in the fund. There is no direct connection between a passive fund investment and tax-loss harvesting, but a taxpayer who sells fund shares can use the capital gain or loss as part of a tax-loss harvesting strategy.
Direct Indexing
A popular variation on passive fund investing is direct indexing. With direct indexing, a taxpayer holds an actively managed securities portfolio that replicates a broad-based stock index or a custom mix of securities. The portfolio is structured to hold enough stocks to track the designated index, but unlike holding shares in a passive fund, taxpayers can control when to buy, sell, or otherwise dispose of individual stocks. The taxpayer has the flexibility to sell gain stocks and mop up the tax on capital gains by selling loss stock. Short-term losses can be used to mop up short-term gains, and long-term losses can be used to mop up long-term gains. When stocks are sold, new stocks are purchased and added to the portfolio, so the portfolio continues to track the specified index.
Long-Short Strategy
Another common investment strategy involves setting up two different portfolios: one long portfolio and one short portfolio. Referred to as the “long-short strategy,” these two portfolios allow a taxpayer to benefit from either a rising or declining market.
Long-Short Portfolio with Passive Direct Index Fund
A related strategy combines long-short portfolios with a passive investment in a broad-based index fund. The taxpayer can benefit from market movements (by holding the index fund) which tracks general market trends. The taxpayer can also benefit from the long-short managed portfolios that provide the taxpayer with a “market-neutral position.”
So, let’s get into some of the details now.
What is direct indexing?
In direct indexing, a taxpayer establishes a “benchmark portfolio,” a diversified portfolio that tracks a custom or benchmark index, such as the S&P 500 or the Russell 1000 (benchmark index). When the taxpayer holds a benchmark index portfolio, the portfolio is exposed to market fluctuations so that portfolio movements basically track general market trends, or those of the particular industry, sector, geographic region, or other factors that the portfolio is modeled after.[2]
The taxpayer sells securities from the benchmark portfolio to generate gains and harvest losses. To ensure that the portfolio continues to track the benchmark index, the taxpayer typically buys another security or securities included in the benchmark index to replace those securities sold. Buying the same security sold at a loss can trigger the wash sales rule, so taxpayers avoid reacquiring substantially identical securities. The wash sales rule was addressed in Part II of this series.
What is a long-short strategy?
With a long-short strategy, the taxpayer establishes two separate investment portfolios: a long portfolio and a short portfolio. The long portfolio holds securities that the taxpayer hopes will benefit from a rising market. The short portfolio holds short positions that the taxpayer hopes will benefit from a declining market. If a taxpayer has a market-neutral strategy, holding the two portfolios in a market-neutral position protects the taxpayer from market movements, regardless of whether the market goes up or down. In other words, such a long-short strategy would establish a market-neutral position. When taxpayers also want to track an index, such as the S&P 500, this portfolio would not be market neutral.
Who invented long-short portfolios?
The first long-short equity fund is said to have been formed in 1949 by Alfred Winslow Jones. His objective was to “hedge investors from downside market swings by shorting certain stocks he expected to perform relatively poorly.”[3] Jones reportedly said, that with long and short portfolios, the taxpayer could “buy more good stocks without taking as much risk as someone who merely buys.”[4]
The long-short market-neutral position means that the portfolios generates investment returns whether the market moves up or down. This is because being both long and short reduces the taxpayer’s sensitivity to market volatility. As a result, long-short strategies “historically generate higher risk-adjusted returns with lower volatility” than simply holding only long positions in the equity markets.[5]
How are long-short portfolios structured?
The long portfolio is typically constructed using “low risk, high quality stocks across a highly diversified long-short global equity portfolio of large and small cap stocks.”[6] The short portfolio is typically constructed using borrowed securities that the taxpayer believes will decrease in value. The borrowed securities in the short portfolio, referred to as “short positions,”[7] typically “are riskier and lower quality”[8] securities than those included in the long portfolio.
The long and short portfolios are not equal in size. To provide the taxpayer with a net “long” market exposure, the long portfolio is generally larger than the short portfolio.[9] A taxpayer with a larger long portfolio is likely to be less sensitive (than equal long-short portfolios) to market movements and better able to withstand a declining market.
How is the short portfolio funded with short positions?
To sell securities short, the taxpayer borrows securities from a securities dealer and uses them to cover the short position by delivering them to a buyer. The taxpayer/borrower then enters into a loan agreement with the securities dealer/lender to return the borrowed shares (delivered to the buyer) at the end of the loan period, paying the lender a fee to borrow the securities plus the value of any dividends received on the borrowed shares (referred to as “in lieu of payments”) while the loan is outstanding. At the end of the loan period, the taxpayer/borrower closes out the short positions by purchasing securities in the open market and repays the loan.
If the taxpayer purchases the securities at a price that is lower than the price the taxpayer initially paid to the lender to borrow the securities,[10] the taxpayer profits from the transaction. If the market value of the borrowed securities has declined in value, the taxpayer/borrower will close out the loan with cheaper securities. Buying cheaper securities allows the taxpayer to generate a profit.[11] If, on the other hand, the market value increases, the taxpayer delivers more expensive securities to the lender, to close out the loan, generating a loss.
What are some benefits of holding long-short portfolios?
Long-short portfolios allow the taxpayer to (1) profit from appreciation in both portfolios; (2) harvest tax losses to apply against gains to optimize net after-tax returns; (3) acquire replacement securities that track the benchmark index; and (4) (properly structured) avoid application of the wash sales rule.
First, when the taxpayer combines tax-loss harvesting with both a long and a short portfolio, the taxpayer levers up, and the leverage increases standard deviation (from the mean), which increases the likelihood that the portfolios might overperform or underperform against the benchmark index.
Second, because the taxpayer holds more positions, holding a long-short portfolio increases the taxpayer’s opportunities to generate more capital gains and losses (which in turn creates more opportunities to loss-harvest losses).[12]
And third, a taxpayer with long and short portfolios can isolate the gains or losses on the portfolio securities from the portfolio’s overall sensitivity to general market movements. Isolating gains and losses on portfolio securities is referred to as “alpha,” while the portfolio’s sensitivity to overall market movements is referred to as “beta.” Holding both a long and a short portfolio—each of which tracks the same benchmark index but with different stocks—provides alpha. Depending on the taxpayer’s investment strategy, the strategy can—but need not—remove beta from the taxpayer’s portfolio.
Explain what you mean by alpha and beta?
“Alpha” and “beta” are the names given to two key investment metrics used to evaluate an investment’s performance and risk profile.
Alpha refers to returns (positive or negative) from the securities in the taxpayer’s investment portfolio when compared to a benchmark index such as the S&P 500. Alpha shows whether an investment is outperforming (positive alpha), or underperforming (negative alpha) compared to the designated benchmark. It is used to assess whether an investment adds value beyond those that would be available if the taxpayer were a passive investor benefiting from or hurting from general market movements. It is an important metric in evaluating whether actively managed funds are performing better than the market as a whole.
Beta refers to portfolio-wide volatility that results from overall market movements. Beta measures how sensitive the investment is to changes in market movements. It helps taxpayers assess risks and manage the volatility of their portfolio in relation to their risk profile. Because beta is based on historical market data, it is not a useful metric in assessing the future performance of the investment. A beta of 1, for example, shows that the investment moves with the market; a beta of less than 1 indicates lower volatility for the investment; and a beta of more than 1 shows the investment has higher volatility than the market as a whole.
Alpha shows how well an investment performs against benchmark expectations. Beta refers to how much the investment fluctuates when compared to market movements. Alpha measures excess returns while beta measures market sensitivities. These metrics are used to evaluate whether an investment meets the taxpayer’s goals for risks and returns.
What is “tax alpha”?
“Alpha” is a measure of portfolio-related performance. Similarly, “tax alpha” is a measure of tax efficiency in how the taxpayer’s investments perform. That is, whether the taxpayer’s after-tax return is improved (or reduced) when they use tax-efficient strategies in conjunction with their portfolio management strategies. In other words, tax alpha is a measure of the extra benefits accrued by an investor who is aware of the tax consequences of their trading decisions.
Can tax alpha be increased through tax-loss harvesting?
Yes. In fact, the desire to increase tax alpha is the raison d’être of tax-loss harvesting. Harvesting tax losses allows taxpayers to sell their depreciated securities to offset capital gains from appreciated securities. Tax alpha can also be increased, for example, when taxpayers hold capital assets for the long-term holding period; which, in turn, can reduce taxable income and increase after-tax returns.
Is there a “tax beta”?
No. As a measure of market volatility in a portfolio—it allows taxpayers to evaluate the additional risks they take on with a given investment—and as such can be used to evaluate tax-loss harvesting opportunities.
Tracking portfolio beta in conjunction with tax alpha can aid taxpayers in understanding the ways in which their investments fluctuate, and thus help them to understand the combined effect of their portfolio management and tax-efficiency strategies.
Digging deeper into this concept; combining long-short portfolios with tax-loss harvesting can provide taxpayers with opportunities to harvest more losses while deferring tax on more gains. It is possible that long-short strategies could result in positive tax alpha because taxpayers may be able to defer short-term gains on long positions until such time as these qualify as long-term gains for tax purposes.[13] This, in turn, could create an additional tax alpha opportunity on a specific investment in different tax years. It is possible that taxpayers who seek to maximize returns might hold portfolios with different securities than those that they might otherwise hold to minimize risk.
As a practical matter, AQR Capital Management (an investment advisory firm that writes about “tax-aware” investing) suggests that a portfolio that focuses on taxes might not be that different from a portfolio that is constructed without a specific tax focus.[14]
You mentioned an investment strategy that adds a passive direct index fund to long-short portfolios. What about that?
According to AQR, a taxpayer can receive additional tax benefits by adding a passive direct index fund to active long-short portfolios. This investment strategy takes alpha and beta into consideration. As AQR notes, “The turnover of a traditional active strategy causes capital gain realizations on both the active and market components of the strategy returns.”[15] On the other hand, AQR also notes that a “strategy that separates alpha from beta is aimed at the active exposures and enables the deferral of capital gain realizations on the passive market exposure.”[16]
Do the tax-loss harvesting opportunities decline over time?
Maybe. Depending on the taxpayer’s investment strategy, the pool of securities from which to harvest tax losses can decline over time. If a taxpayer simply harvests losses without also replacing the securities, available loss securities decline over time so that the taxpayer ultimately runs out of loss securities to sell.
A taxpayer engaged in direct indexing typically has more tax losses in the early years of the investment strategy than in later years. As was noted in The Tax Alpha Insider blog, “Tax alpha starts with a bang especially in volatile years and compounds but ultimately decays as the portfolio basis resets lower and lower following each harvested loss.”[17] This is because a taxpayer typically replaces loss securities with other benchmark securities at a higher tax basis. After all, the taxpayer is anticipating that the overall value of the benchmark index securities they hold in their long portfolio will increase over time. At a future date, a direct indexing taxpayer is likely to hold mostly gain positions.
As a result, a taxpayer who combines tax-loss harvesting with long-short portfolios, as compared to a direct indexing portfolio, is arguably more likely to benefit from tax-loss harvesting over time. Holding both a long and a short portfolio gives the taxpayer more opportunities to generate losses on the front end so that their ability to harvest losses might not decline over time. Decreasing leverage quickly can become difficult, however, because of gains that build up in the short portfolio.
What are some costs and risks associated with tax-loss harvesting and investing?
Some of the following observations on costs and risks are inherent in investing generally; they do not relate to a tax-loss harvesting strategy specifically.
All securities transactions have transaction costs. Obviously, when a taxpayer holds actively managed accounts, they will incur more costs than when they hold passive investments in, say, a broad-based index fund.[18] Direct indexing and long-short portfolios are actively managed portfolios, so they incur management and trading fees, as well as the costs associated with the leverage itself. Direct indexing involves less trading than a long-short portfolio so their associated trading-related fees will be lower than those associated with long-short strategies. Index funds, as passive investments, have minimal transaction costs compared to direct indexing and long-short portfolios.
When a taxpayer’s investment strategy includes short positions, this increases the taxpayer’s overall risk profile. In addition, leverage increases the amount of deviation from the benchmark index, up or down.
Taxpayers with short portfolios enter into short sales, borrowing securities to cover their short positions. They have obligations to return the borrowed securities to their lenders at the end of the loan period. They incur short sale fees and make substitute dividend payments (“in lieu of” payments) to their lenders equal to the amount of any dividends they received on the borrowed securities while the loan is outstanding. If the taxpayer is shorting in one portfolio, they can unintentionally be causing constructive sales, straddles or wash sales in other portfolios—possibly undoing some of the purported tax efficiencies.
Given the additional leverage in long-short portfolios, a taxpayer’s market risks increase. For example, long-short portfolios are likely to generate more capital losses than they would if the taxpayer were simply engaged in direct indexing. Long-short portfolios can underperform or overperform direct indexing[19] because holding both portfolios allows the taxpayer to hold more investment positions.

[1] All investment strategies carry some degree of risk. Taxpayers need to be prudent and stay well-informed on all their options, the credentials of their professional advisors, and all aspects of related laws in their jurisdiction.
[2] Matt Levine, “You Want Some Stocks That Go Down,” Bloomberg, (Oct. 28, 2024).
[3] AQR, Capital Management, “Building A Better Long-Short Equity Portfolio,” (Jul. 2013).
[4] Institutional Investor (Aug. 1968), as reported in “Building A Better Long-Short Equity Portfolio,” AQR Capital Management LLC, (Jul. 2023).
[5] “Building A Better Long/Short Equity Portfolio,” Gabriel Feghali, Jacques A. Friedman and Daniel Villalon, AQR Capital Management LLC, (Jul 1, 2013).
[6] “Building A Better Long/Short Equity Portfolio,” Gabriel Feghali, Jacques A. Friedman and Daniel Villalon, AQR Capital Management LLC, (Jul 1, 2013).
[7] “A short, or a short position, is created when a trader sells a security first with the intention of repurchasing it or covering it later at a lower price. A trader may decide to short a security when they believe that the price of that security is likely to decrease in the near future,” available at https://www.investopedia.com/terms/s/short.asp
[8] “AQR Delphi Long-Short Equity: A Defensive and Diversifying Strategy,” AQR Capital Management, LLC, (2022, Q4).
[9] “AQR Long-Short Equity Fund, Seeking Equity-Like Returns with Less Volatility,” AQR Capital Management, LLC, (n.d.)
[10] For a discussion of short sales, see Kramer and Mowbray, Financial Products: Taxation, Regulation and Design (2025), available at https://shoptax.wolterskluwer.com/en/financial-pr-tax-reg-dsgn-2025.html.
[11] SEC v. Hwang, 692 F. Supp. 3d 362. (2d. Cir. Sept. 19, 2023). See also, Overstock.com, Inc., v. Gradient Analytics, Inc., 151 Cal. App. 4th 688. (May 30, 2007).
[12] AQR, “Tax-Aware: Loss Harvesting or Gain Deferral? A Surprising Source of Tax Benefits Of Tax-Aware Long-Short Strategies,”(2024, Summer).
[13] AQR, “Tax Aware: Looking Under the Hood of Long/Short Tax-Aware Strategies,” (Oct. 27, 2023).
[14] AQR, “Tax Aware: Looking Under the Hood of Long/Short Tax-Aware Strategies,” (Oct. 27, 2023).
[15] AQR, Tax Aware: The Tax Benefits of Separating Alpha from Beta,” (May 14, 2018).
[16] AQR, Tax Aware: The Tax Benefits of Separating Alpha from Beta,” (May 14, 2018).
[17] AQR, “Tax-Aware Long-Short Delivers, The Tax Alpha Insider, Issue 9 (June 2, 2024).
[18] AQR, Making VPFs Work Harder For You (Mar 1, 2024).
[19] AQR, Tax-Aware: Beyond Direct Indexing: Dynamic Direct Long-Short Investing (May 3, 2023).

QOZ Planning Under the OBBBA

On July 4, President Trump signed into law the “One Big Beautiful Bill Act (OBBBA),” more formally known as “H.R.1 – An Act to provide for reconciliation pursuant to title II of H. Con. Res. 14.”

The OBBBA includes provisions that establish a “second tranche” for the qualified opportunity zone (QOZ) and qualified opportunity fund (QOF) program that generally applies beginning on January 1, 2027. This “second tranche” picks up following the conclusion of the initial QOZ/QOF program on December 31, 2026, which marks the end of the original program’s investment period and the date when deferred gain is recognized under current law (the 2017 Tax Cuts and Jobs Act).
This article addresses the principal features of the second tranche and does so in the context of QOZ planning that implicates estate planning. As further discussed, many of the estate planning-specific rules in the context of QOZs and QOFs under the 2017 Tax Cuts and Jobs Act are effectively unchanged under the OBBBA. Accordingly, careful identification of interests in QOFs, and planning with QOF interests, continues to be required. In addition, investors in QOFs under the 2017 Tax Cuts and Jobs Act need to be mindful of the upcoming inclusion event date of December 31, 2026, and carefully consider their liquidity needs to fund the deferred capital gains tax liability that will soon be coming because of this upcoming gain recognition date.
Opportunity Zones
The 2017 Tax Cuts and Jobs Act included in section 1400Z-2[1] a new tax incentive provision that was intended to promote investment in economically distressed communities, referred to as “Opportunity Zones.” Through this program, investors could achieve the following three significant tax benefits:

The deferral of gain on the disposition of property to an unrelated person generally until the earlier of the date on which the subsequent investment is sold or exchanged, or December 31, 2026, so long as the gain is reinvested in a QOF within 180 days (or 180 deemed days) of the property’s disposition. (Note that there is no interest charge on this deferral.)
The elimination of up to 15% of the gain that has been reinvested in a QOF, provided that certain holding period requirements are met.[2]
The potential elimination of tax on gains associated with the appreciation in the value of a QOF, provided that the investment within the QOF is held for at least 10 years.

An Opportunity Zone is an economically distressed community where new investments, under certain conditions, may be eligible for preferential tax treatment. Localities qualify as Opportunity Zones if they have been nominated for that designation by the state and if the nomination has been certified by the Internal Revenue Service (IRS).
Qualified Opportunity Funds
A QOF, in turn, is an investment vehicle that is established as either a domestic partnership or a domestic corporation for the purpose of investing in eligible property that is in an Opportunity Zone and uses investor gains from prior investments as a funding mechanism.
To become a QOF, the entity self-certifies itself. The entity must meet certain requirements. In particular, a general requirement is that at least 90% of its assets be “qualified opportunity zone property” used within an Opportunity Zone, but no approval or action by the IRS is required. To self-certify, the entity completes Form 8996 and then attaches it to the entity’s timely filed federal income tax return for the taxable year (taking into account extensions).[3]
Deferral of Gain Through Timely Reinvestment in QOFs
To qualify for these tax benefits, the investor’s reinvestment in the QOF must occur during the 180-day period beginning on the date of the sale. Special timing rules apply to, among other things, certain gains from real estate investment trusts, partnerships, and other flow-through entities.
Under IRC section 1400Z-2(a)(2), the taxpayer may elect to defer the tax on some or all of that gain. If, during the 180-day period, the taxpayer invests in one or more QOFs an amount that was less than the taxpayer’s entire gain, the taxpayer may still elect to defer paying tax on the portion of the gain invested in the QOF. If, in contrast, an amount more than the taxpayer’s gain is transferred to the fund (a so-called “investment with mixed funds”), the taxpayer is treated, for tax purposes, as having made two separate investments. One that only includes amounts as to which the investor’s deferral election is made, and a separate investment consisting of other amounts.
Importantly, the law requires only that the gain be reinvested in the QOF and not the total sales proceeds. The final regulations that were issued in 2019 clarified that, in general, only capital gains are eligible to be invested in a QOF. Additionally, in contrast to Section 1031 “like-kind” exchanges (another mechanism of gain deferral through reinvestment), in the QOF context, the cash from the sale does not need to be specifically tracked or escrowed. Instead, the requirement is merely that an amount of cash equal to the gain on the sale be reinvested in a QOF within the relevant 180-day time period.
The taxpayer’s basis in the QOF is initially zero but will be increased by 10% of the deferred gain if the investment in the QOF is held for five years. Under the 2017 Tax Cuts and Jobs Act, it will be increased by an additional 5% (to 15% of the deferred gain in total) if the investment in the QOF is held for seven years. In each case, the determination is made as of December 31, 2026.
Thus, through December 31, 2026, if a gain on the sale of property is timely reinvested in a QOF, the taxpayer may be able to decrease the taxable portion of the originally deferred gain by 15% (through a corresponding basis step-up) if the investment in the QOF is held for at least seven years. The taxpayer makes an election to defer the gain, in whole or in part, when filing the tax return on which the tax on that gain would otherwise be due if it were not deferred.
Exclusion of Gain on Appreciation in the Value of QOF if Held for at Least 10 Years
The tax incentives of this program go well beyond tax deferral (even putting aside the potential basis adjustments discussed above), as subsequent gain on the appreciation in the value of the QOF is capable of being fully excluded from income. To qualify, the investor must hold its investment in the QOF for at least 10 years.
QOF Requirements
An entity must meet certain requirements to qualify as a QOF. Specifically, a QOF must meet the90% Asset Test whereby 90% of its assets, measured every six months and averaged for each year, must be qualifying “QOZ Property.” To meet this requirement, a QOF may (1) directly own “QOZ Business Property” or (2) own an interest in a “QOZ Business” that in turn owns QOZ Business Property. A QOF may not, however, own (as a qualifying asset) an interest in another QOF. A QOZ Business must (1) have “substantially all” of its tangible assets invested in QOZ Business Property, (2) meet certain requirements under Section 1397C regarding permissible assets (including a general prohibition against owning more than 5% nonqualified financial assets such as cash), and (3) comport with certain “sin business” prohibitions under section 144(c)(6)(B).
QOZ Business Property generally means tangible property acquired by the purchase from an unrelated party. This property is either “originally used” in the QOZ by the QOF or QOZ Business, or is “substantially improved” by the QOF or QOZ Business. “Substantially improved” generally means improvements over a period of 30 months that result in a 100% increase to the adjusted basis of the property. “Relatedness,” for this purpose, is generally determined by a 20% or greater common ownership test taking into account certain constructive ownership rules.
Effect of Death
Section 1400Z-2(e)(3) provides that, “[i]n the case of a decedent, amounts recognized under this section shall, if not properly includible in the gross income of the decedent, be includible in gross income as provided by section 691.” Section 691 sets forth the rules that apply to a person’s receipt of income in respect of a decedent (IRD). IRD refers to income earned by a decedent who was a cash basis taxpayer prior to his or her death, but that is not properly includible in income until after the decedent’s death. IRD is not reportable on the decedent’s final income tax return. Rather, it is reportable by the recipient of the IRD item (e.g., by the decedent’s estate or some other person). Importantly, under Section 1014(c), there is no step-up in basis on death in the case of IRD.
Special Rule That Caps Gain at Fair Market Value at Date of Triggering Event
Section 1400Z-2(b)(2) contains a special rule that caps the amount of the gain so as not to exceed the fair market value of the investment as of the date that the gain is included in income. It provides as follows:
1400Z-2(b)(2) AMOUNT INCLUDIBLE.—
1400Z-2(b)(2)(A) IN GENERAL.— The amount of gain included in gross income under subsection (a)(1)(A) shall be the excess of—

(i) the lesser of the amount of gain excluded under paragraph (1) or the fair market value of the investment as determined as of the date described in paragraph (1), over

(ii) the taxpayer’s basis in the investment.

The final regulations modified this rule to potentially limit discounts for lack of control and lack of marketability in determining fair market value.
Gifts and Bequests
Under the final regulations, gifts (other than to a grantor trust) are treated as a disposition of the QOZ investment triggering inclusion of the deferred gain in income. In contrast, gifts to grantor trusts are not treated as a deemed disposition of the QOZ investment, and therefore will not trigger inclusion of the deferred gain in income.
In addition, the final regulations clarified that this treatment also applies to all transactions with grantor trusts, which would include sales or other transactions with grantor trusts, such as swaps. The final regulations further clarified that it does not matter whether the investment or capital gain is by the grantor or the grantor’s grantor trust.
Further, a bequest upon death permits the transferee to step into the transferor’s shoes and continue to hold the QOZ investment as if the transferee were the original investor. There is no step-up in basis upon death with respect to QOF interests. In addition, the five-year, seven-year, and 10-year holding period benefits tack to the transferee in the case of gifts to grantor trusts and bequests upon death.
Pass-Through Entities
The final regulations include special provisions where gain recognized by a partnership may (except to the extent the partnership elects to rollover the gain itself) flow through to the partners and be reinvested by those partners into QOFs. In addition, there is the potential for such partners to have an increased period to reinvest gain into a QOF.
The partnership’s 180-day period begins on the date of its sale, but if the gain flows through to the partners, the partners’ 180-day period begins on the last day of the partnership’s taxable year. Partners may instead elect to use the partnership’s 180-day period if they so desire (e.g., if the desired investment is already lined up).
The final regulations provided an additional option under which investors may elect to start their 180-day period for their share of gain from the pass-through entity on the due date (without extensions) of the pass-through entity’s tax return for the taxable year in which the sale or exchange took place (generally, either March 15 or April 15 of the following year).
The following additional aspects of the final regulations are noteworthy.
No Inclusion Event on Contributions of QOF Interests to Partnerships
The final regulations provide that contributions of QOF interests to entities taxed as partnerships that are not taxable transactions under section 721(a) are not inclusion events.
Meanwhile, Contributions of QOF Interests to Corporations Are Inclusion Events
In contrast, contributions of QOF interests to entities taxed as C corporations or S corporations that would otherwise be tax-free under section 351 are inclusion events.
Transfers of Interests in Partnerships That Hold QOF Interests Are Inclusion Events
In addition, transfers of interests in partnerships that hold QOF interests (i.e., indirect interests in QOFs) are inclusion events (unless they are to grantor trusts). The final regulations provided that the inclusion event rules generally “apply to transactions involving any direct or indirect partner of the QOF to the extent of that partner’s share of any eligible gain of the QOF.” In addition, page 48 of the preamble to the final regulations notes that “[a]n inclusion event is a transaction that reduces or terminates the QOF investor’s direct (or, in the case of partnerships, indirect) qualifying investment for federal income tax purposes … .”
Transfers of Interests in Corporations That Hold QOF Interests Are Not Inclusion Events
In contrast, transfers of interests in corporations that hold QOF interests are not inclusion events. As noted above, the final regulations provide that the inclusion event rules generally apply to transactions involving any direct or indirect partner of the QOF. No similar rule applies to C corporations or S corporations.
QSST and ESBT Conversions
The final regulations confirmed that neither a conversion from a qualified subchapter S trust (QSST) to an electing small business trust (ESBT), nor vice versa, is an inclusion event if the person who is both the deemed owner of the “grantor portion” of the ESBT holding the qualifying investment and the QSST beneficiary is the person taxable on the income from the qualifying investment both before and after the conversion.
There would, however, be an inclusion event upon conversion if the qualifying investment is in the grantor portion of the ESBT and the ESBT’s deemed owner under the grantor trust rules is a nonresident alien.
QOF and QOZ Changes Under the OBBBA
Against this backdrop, the OBBBA includes the following changes pertaining to QOFs and QOZs.
The QOZ Program Has Been Extended Indefinitely With a New Second Tranche Starting on January 1, 2027
The original QOZ program was scheduled to expire for new investments on December 31, 2026. The OBBBA creates a second tranche starting on January 1, 2027. In this second tranche, every 10 years, state governors will propose QOZs, and the Secretary of the Treasury will certify those zones with the effective date for new QOZ designations to be July 1, 2026 (and every 10 years thereafter).
Stricter Eligibility Criteria Will Apply to QOZ Designations
The OBBBA tightens the rules under which census tracks can qualify as QOZs. The definition of a “low-income community” has been tightened. Now, a census tract qualifies if its median family income does not exceed 70% of the state or metropolitan median family income, or if it has a poverty rate of at least 20% and a median family income not exceeding 125% of the relevant median family income.
The OBBBA also repeals the much criticized “contiguous tract” rule, which allowed a census tract contiguous to a “low-income community” to be designated as a QOZ census tract so long as its median family income did not exceed 125% of the median family income of the low-income community to which the tract was adjacent.
In addition, the blanket QOZ designation for all low-income communities in Puerto Rico has been repealed after December 31, 2026.
New Rolling Five-Year Gain Deferral and Permanent 10% Basis Step-Up
For investments made after December 31, 2026, gains deferred through investment in the QOZ program will now be recognized on the fifth anniversary of the investment date (unless there is an earlier sale or exchange), rather than a fixed date.
OBBBA also makes permanent a 10% basis step-up benefit, which takes effect immediately before the end of the five-year deferral period. This means that, after December 31, 2026, all gains that are not prematurely triggered (i.e., through a sale or exchange of an investment in a QOF) will have the benefit of a 10% basis increase. Notably, OBBBA eliminates the additional 5% basis step-up (which previously applied where there was a seven-year holding period) and caps the benefit at 10%.
New Qualified Rural Opportunity Funds With Heightened Benefits
The OBBBA creates a new category of fund knows as a “Qualified Rural Opportunity Fund” (QROF) that provides investors in rural communities with additional tax benefits.
A QROF is a QOF in which its 90% asset test (including with respect to any QOZ Business in which the QOF owns an interest) is comprised entirely of rural area property.
A “rural area” is defined as any area other than(1) a city or town that has a population greater than 50,000 and (2) an urbanized area adjacent to a city or town that has a population more than 50,000.
The tax benefits obtained by QROFs are significantly enhanced relative to those available to “regular” QOFs. Such as:

A 30% basis step up after five years (compared to a 10% basis step up for “regular QOFs”).
A reduced “substantial improvement” requirement. Only in excess of 50% of adjusted basis must be reinvested in property improvements (as compared to in excess of 100% of adjusted basis for “regular QOFs”). (Note that this provision is effective immediately.)

Gain Elimination Frozen After 30 Years
OBBBA eliminates the sunset provision terminating QOZ benefits for QOF investments liquidated after December 31, 2047, and establishes in its place a 30-year rolling horizon on gain elimination with respect to post 10-year dispositions of QOF investments. For investments sold or exchanged before 30 years, the step-up will reflect the fair market value of that investment as of the date such investment is sold or exchanged. In contrast, for investments held 30 years or more, the basis step-up will be frozen at the fair market value on the 30th anniversary of the investment.
New Reporting Requirements and Penalties for Non-Compliance
OBBBA introduces a detailed reporting regime and a new penalty provision.
January 1, 2027, Effective Date for Tranche 2 – However, Rules That Implicate Estate Planning Are Generally Unchanged
Nearly all of the new QOZ provisions take effect after December 31, 2026, which marks the end of original program’s investment period and the date when deferred gain is recognized under current law. It is expected that regulations will be issued by Treasury prior to January 1, 2027, to fill in the legislative gaps.
Very importantly, the estate planning-specific provisions discussed above are effectively unchanged by the OBBBA. So careful identification of interests in QOFs, and planning with QOF interests, continues to be required.
In addition, investors in QOFs under the 2017 Tax Cuts and Jobs Act must be mindful of the upcoming inclusion event date of December 31, 2026. Accordingly, investors in QOFs under the 2017 Tax Cuts and Jobs Act should carefully consider their liquidity needs to fund the capital gains tax liability that is soon coming due to this upcoming gain recognition date.

[1] Unless otherwise stated, references herein to “section(s)” are to the Internal Revenue Code (IRC) of 1986, as amended. References in this memorandum to “§” are to relevant sections of the US Department of the Treasury regulations promulgated under the code.

[2] This is accomplished through basis adjustments. Section 1400Z-2(b)(2)(B)(iii) provides that in the case of any investment in a QOF that is held for at least five years, the basis of such investment shall be increased by 10% of the deferred gain. In addition, section 1400Z-2(b)(2)(B)(iv) provides for an additional 5% increase in the basis of the QOF investment if it is held by the taxpayer for at least seven years.

[3] The IRS Form 8996 and the instructions thereto are set forth at the following links: https://www.irs.gov/pub/irs-pdf/f8996.pdf and https://www.irs.gov/pub/irs-pdf/i8996.pdf.

Budget Reconciliation Law Puts Beginning of Construction in the Spotlight

On 4 July 2025, President Donald Trump signed the Republican budget reconciliation bill, known as the “One Big Beautiful Bill Act” (OBBBA), Pub. L. No. 119-21 into law. Consistent with past law, certain provisions in the legislation require a taxpayer to establish the beginning of construction (BOC) to qualify for tax credits and deductions.1 For example, under the OBBBA, wind and solar facilities that begin construction after 4 July 2026 and are placed in service after 31 December 2027 cannot receive the Section 45Y or Section 48E credit; for the Section 45V credit, construction must begin by 31 December 2027. Rules requiring application of a material assistance cost ratio (MACR) generally apply to those facilities beginning construction after 31 December 2025. Eligibility for the new full expensing deduction for manufacturing facilities requires construction to begin after 19 June 2025. 
Taxpayers have long relied on Internal Revenue Service (IRS) notices to establish BOC. However, changes made by the OBBBA to the statutory framework and an executive order issued closely following enactment have thrown this standard into flux. This alert discusses those changes and how potential guidance from the US Department of the Treasury (Treasury) may impact long-standing BOC principles. 
Legislative References to BOC Guidance 
During congressional consideration of the energy provisions of the OBBBA, competing timelines were put forward regarding the termination of the clean energy provisions. Certain members sought to impose a fixed “placed-in-service” date. Others, together with many industry stakeholders, argued a BOC date was more appropriate, allowing projects already underway to be completed without having to meet an accelerated placed-in-service timeline.
The enacted version of the OBBBA generally relies on BOC rather than placed-in-service dates. Under the MACR rules, the legislation provides that BOC will be determined in accordance with “rules similar to the rules under Internal Revenue Service Notice 2013-29 and Internal Revenue Service Notice 2018-59 (as well as any subsequently issued guidance clarifying, modifying, or updating either such Notice), as in effect on January 1, 2025.”2 These references were, as Sen. Chuck Grassley (R-IA) put it, “intended to grant the wind and solar industries a yearlong transition to confidently move forward with planned projects under the existing continuity safe harbor and the beginning of construction guidance in effect at the time of the law’s enactment.”3 For non-MACR purposes, however, the OBBBA does not reference the BOC rules. While stakeholders assumed that the IRS notices would continue to be the benchmark for determining whether construction had begun, the executive order issued by President Trump on 7 July 2025 has thrown that confidence into doubt.
Long-Standing IRS Principles
Under Notice 2013-29, the IRS established two tests under which a taxpayer might establish that it had begun the construction necessary to qualify for either the production tax credit under Section 45 or the energy investment tax credit under Section 48. The first test requires starting physical work of a “significant nature.” To satisfy this test, which focuses on the nature of the work rather than its cost, the physical work can be completed on- or off-site by the taxpayer (or by a contracted third party). Preliminary work—planning or designing, securing financing, obtaining permits, and the like—does not count. The second test established under Notice 2013-29, the safe harbor test, provides that construction commences when the taxpayer incurs 5% or more of the total cost of the facility. Any cost includable in the depreciable basis of the facility counts toward the 5% threshold, but the cost of the land or any property not integral to the facility does not. 
A taxpayer must only satisfy either the physical work or safe harbor test under Notice 2013-29 to establish BOC. Once the BOC date is established, the taxpayer must “maintain a continuous program of construction” on the project. To ease the administrative burden of tracking these activities, the IRS issued a clarification to Notice 2013-29 offering a safe harbor, which presumes a project satisfies the continuity requirement if it is placed in service within a certain number of years after construction begins, generally four years.4
The IRS subsequently issued Notice 2018-59 in response to changes to Section 48, as modified by the Bipartisan Budget Act of 2018,5 specifically a shift from placing a qualifying facility in service to a BOC standard as the threshold to determine eligibility. Notice 2018-59 closely follows the guidelines set out by its predecessor Notice 2013-29, including the physical work and 5% safe harbor tests. 
President Trump Weighs In 
Despite the IRS notices, an executive order issued by President Trump three days after signing the OBBBA into law has cast considerable uncertainty into the criteria necessary to establish BOC for non-MACR purposes. The executive order directs the Treasury Secretary to, within 45 days from 4 July 2025:
take all action as [he] deems necessary and appropriate to strictly enforce the termination of the clean electricity production and investment tax credits under sections 45Y and 48E of the Internal Revenue Code for wind and solar facilities. This includes issuing new and revised guidance . . . to ensure that policies concerning the “beginning of construction” are not circumvented, including by preventing the artificial acceleration or manipulation of eligibility and by restricting the use of broad safe harbors unless a substantial portion of a subject facility has been built.6 

The executive order may be the product of a deal President Trump struck with fiscal conservatives who thought the final version of the bill was not restrictive enough on clean energy. For instance, members of the House Freedom Caucus met with President Trump before voting to pass the bill. Following that meeting, Rep. Chip Roy (R-TX) reported that “the Murkowski language that got put in there that would put that ‘in construction’ language—the year—that we thought was not particularly helpful or good policy to achieve what we and the president want to achieve. I think there’s going to be some things there that they’re going to be able to do.” Rep. Ralph Norman (R-SC) echoed this conclusion, saying, “We wanted date of service, which means they can’t take a backhoe out there and dig a ditch and say that’s construction. So things like that the president is going to enforce.”
The 45-day period set forth in the executive order expires on 18 August2025. It remains unclear to what extent Treasury will alter the existing BOC guidance and under what format Treasury will choose to do so. Market participants, however, should recognize that any of the standards in those notices, including the 5% safe harbor, the significant construction, and the continuity of construction, could be revised. Changes could include, for instance, increasing the safe harbor percentage rate, imposing stricter standards on site work, and modifying the continuous construction safe harbor. It is also unclear whether any revisions to the BOC rules will be limited to clean energy tax credits. Guidance could take the form of another IRS notice, FAQs, or other means. Whatever the changes, they are expected to make it more difficult to meet the BOC threshold on which many the OBBBA provisions rely. 
Given the brief period provided under the OBBBA to establish BOC and qualify for the relevant tax incentives, taxpayers will need to quickly assess the impact of the guidance on their projects. Please contact any of the authors of this alert and our team of lawyers and policy professionals to assist you in navigating this evolving landscape.
Footnotes

1 While most attention is focused on the application of these rules to wind and solar facilities, the BOC rules implicate a variety of Internal Revenue Code provisions, including, for instance, Sections 45Y, 48E, 45V, and the new Section 168(n) deduction for manufacturing facilities, among others.
2 Pub. L. No. 119-21, Sec. 70512; see IRS Notice 2013-29, https://www.irs.gov/pub/irs-drop/n-13-29.pdf and IRS Notice 2018-59, https://www.irs.gov/pub/irs-drop/n-18-59.pdf.
3 Statement of Senator Grassley, S4618, Congressional Record (July 23, 2025).
4 IRS Notice 2013-60, https://www.irs.gov/pub/irs-drop/n-13-60.pdf. 
5 The Bipartisan Budget Act of 2018, Pub. L. No. 115-123 (2018).
6 Executive Order 14315, Ending Market Distorting Subsidies For Unreliable, Foreign Controlled Energy Sources.

Amendments to Section 1202 Tax Exclusion for Sale of Qualified Small Business Stock Provide to Lift to Startups and Angel Investors

On 3 July 2025, the House passed the Senate’s version of H.R. 1, the budget reconciliation bill known as the “One Big Beautiful Bill Act” (the Act). President Trump signed the Act into law on 4 July 2025. The legislation changed significantly over several iterations from its initial House committee-passed version through the final Senate amendment. Such changes were necessary to generate support, as Republican leaders navigated narrow margins in both chambers and responded to a shifting international tax policy environment.
The Act includes extensions of current tax provisions and makes many significant tax changes. This alert describes one provision of the Act that has been of great interest to the startup ecosystem relating to Qualified Small Business Stock (QSBS). Please see our alert found here if you are interested in learning information on other material changes included in the Act. 
QSBS Background
Over the past several decades, Congress has sought to incentivize investment in small and early stage businesses by allowing taxpayers to exclude from taxation a portion of gains realized in certain small business stock sales. This provision is embodied in Section 1202 of the Internal Revenue Code (along with the related Section 1045). Gradually, Congress increased the percentage of capital gains in QSBS excluded from tax from 50% to 75% and then to 100%, but initially these changes were passed with sunset provisions that required congressional reauthorization. On 18 December 2015, Congress passed the Protecting Americans from Tax Hikes Act, which included a permanent extension of Section 1202 that allowed taxpayer gains on qualifying small business stock obtained after 27 September 2010 to qualify for 100% exclusion. 
Summary of Changes
The Act made certain key changes to the Section 1202 requirements that will allow for expanded opportunities to take advantage of the incentive. 
For QSBS issued on or after 5 July 2025,1 the Act provides that:

The gross asset value cap for QSBS issuers increases from US$50 million to US$75 million (subject to an inflation adjustment beginning in 2027); 
The formula for the per-issuer cap on the QSBS exclusion is amended by increasing the dollar-based limit on excluded gain from US$10 million to US$15 million (also adjusted for inflation beginning in 2027); and 
The holding period required to qualify for any QSBS benefits is shortened, providing a 50% exclusion for gain recognized if the QSBS is held for three years and a 75% exclusion for gain recognized if the QSBS is held for four years.

Gain recognized on QSBS held for five years is eligible for a 100% exclusion, similar to the pre-Act approach for QSBS issued after 27 September 2010.
What Gains Are Excluded?
100% of gains recognized on the sale of stock issued by a “qualified small business corporation” (QSBC) on or after 5 July 2025, and held for more than five years prior to sale, up to US$15 million (or, if greater, 10 times the amount of the taxpayer’s investment in the stock), can be excluded under Section 1202. Prior to the Act, the taxpayer must have held the stock for more than five years prior to sale to be eligible for any gain exclusion. Under the Act, there is now a phase in allowing for partial gain exclusion starting at three years (allowing 50% gain exclusion) and four years (allowing 75% gain exclusion). The exclusion applies not only to federal income taxes, including the alternative minimum tax, but taxpayers may also be able to exclude gains from state income taxes (depending on state law). 
Eligibility Requirements
Below is a high-level summary of the Section 1202 eligibility requirements.
A QSBC Must Issue the Stock
A QSBC is an entity classified as a C corporation that engages in a qualifying active business, excluding any trade or business involving services in health, law, engineering, architecture, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, or any trade or business where the principal asset is the reputation or skill of one or more employees. To be clear, partnerships, limited liability companies that have not elected to be taxed as corporations and S corporations do not qualify. Additionally, banking, investing, insurance, financing, leasing, and other similar businesses are excluded, along with farming businesses, and any business operating a hotel, restaurant, or similar business. The Act did not make any changes to these requirements. 
Size Limitation of the QSBC
At all times between 10 August 1993, and the date the QSBC issues the stock to a qualified stockholder (including the amount invested in connection with the qualified stockholder’s purchase), the value of the corporation’s aggregate gross assets must not exceed US$75 million (an increase from US$50 million under the prior rules). 
Taxpayer Eligibility
The taxpayer must be an individual, estate, or trust, and must have purchased the stock in exchange for cash, property, or services on or after 5 July 2025, directly from the QSBC and not from another stockholder.
Exclusion Applies Only to Appreciation in Stock Value
The exclusion does not apply to so-called “built-in gain.” Accordingly, if the taxpayer transfers property other than cash to a QSBC in exchange for stock issued by the QSBC, the exclusion does not apply to the appreciation on that property prior to the transfer of the property to the QSBC. However, if the contribution is not taxed because of Section 351, the tax on the appreciation will not be assessed until the QSBC stock is sold. 
Holding Period
The taxpayer must now hold the shares for at least three years before the sale to begin to take advantage of the gain exclusion. However, subject to certain restrictions, a stockholder may sell stock prior to the three (or five) year period and not recognize gains from the sale provided that the stockholder uses the proceeds to acquire newly issued QSBC stock (a Section 1045 Rollover). When QSBC stock is sold and reinvested in a Section 1045 Rollover transaction, the holding period of the old shares is credited to the holding period of the new shares.
Planning Considerations
Section 1202 provides investors opportunities to capture greater gains in their investment portfolios through the exclusion of qualifying gains from income taxes. Accordingly, investors and businesses alike may wish to consider some of the following when planning to invest or create a start-up.
Formation and Funding of Start-Up Companies
Those organizing a start-up, early stage company that will otherwise meet the eligibility requirements for a QSBC should consider organizing as a C corporation instead of an S corporation, partnership, or limited liability company taxed as a partnership. The potential for gain exclusion under Section 1202 is one of various tax factors that should be considered in determining the form and tax characterization of a start-up entity.
Shorter-Term Investments
In some situations where the holding period is not met, taxpayers may be able to convert their shares without losing the benefits of Section 1202’s 100% exclusion by reinvesting in a Section 1045 Rollover transaction.
Sales of Operating Divisions and Assets
Businesses interested in selling a division or other assets that on their own would constitute a qualified trade or business should consider marketing the tax benefits of the 100% exclusion to potential buyers who are eligible taxpayers.
Conversion of Pass-Through Entities
Existing pass-through tax entities (i.e., S corporations, limited liability companies, and partnerships) may consider reorganizing as a QSBC to allow their eligible owners to obtain the benefit of the 100% exclusion for shares issued after the reorganization or restructuring. This type of conversion may allow for the exclusion of gains on future appreciation in the value of those businesses after the date of the reorganization (but not built-in gain). Importantly, a converted entity must meet the size limitation on the date of conversion not the date of creation. 
Estate Planning Opportunities
The QSBS exemption can be incorporated into an estate plan and allow for the transfer of appreciated QSBS eligible stock to be passed on to heirs who can also take advantage of the gain exclusion. In some circumstances, taxpayers may be able to effectively increase the US$10 million or US$15 million gain limitation via transfers to estate planning vehicles.
Practical Considerations 
It is important to note that taxpayers claiming the exclusion must be able to substantiate that the eligibility requirements are met, including the corporation’s gross asset value at the time of issuance. Accordingly, investors should ensure they receive appropriate representations from the issuer at the time of investment and have contractual rights to obtain substantiating information from the companies at the time of exit. We advise clients on the appropriate representations and covenants investors should seek when investing in potential QSBCs.
Conclusions
While the benefits and costs of the provision can be debated, the provision provides a clear incentive to invest in early stage companies. The tiered gain exclusion allows investors to access tax benefits sooner, potentially increasing the appeal of QSBS investments, and allows for investors (particularly angel investors) to recycle investment capital–further benefitting the startup ecosystem. The higher asset threshold and per-issuer cap make QSBS more attractive to a wider range of startups and investors, particularly in capital-intensive industries. 
The recent expansion of the QSBS incentive provides tax-planning opportunities for start-ups, investors in early stage ventures, and small and middle-market businesses. If you are interested in exploring the possibilities presented by the QSBS legislation, we urge you to contact a member of the firm’s tax or emerging growth and venture capital groups.

Footnotes

1 QSBS issued before 5 July 2025, will remain subject to the prior Section 1202 provisions, including the minimum five-year holding period and limit of US$10 million of gain exclusion (or 10X investment amount).

California AG Confirms OTA May Decline to Apply Conflicting Tax Regulations in Individual Appeals

On July 31, 2025, the California Attorney General (AG) issued Opinion No. 23-701 (Opinion) in response to an Office of Tax Appeals (OTA) request regarding the scope of its adjudicatory authority. Specifically, the OTA asked whether it may decline to apply a tax regulation—promulgated by the Franchise Tax Board (FTB) or California Department of Tax and Fee Administration (CDTFA)—if it determines that the regulation, as applied, conflicts with governing state statutes. The AG concluded that OTA does have this authority, so long as the panel gives appropriate deference to the issuing agency. However, OTA’s authority is limited to the matter at hand; it does not have the authority to invalidate a regulation or to enforce its interpretation outside the context of the appeal before it.
Background: From BOE to OTA
Historically, and among its other functions, the State Board of Equalization (BOE) served as the adjudicative body for California tax appeals, including appeals involving taxes administered by the FTB and CDTFA. In that capacity, the BOE routinely heard taxpayer challenges and, at times, arguments asserting that specific regulations conflicted with statutory law. The BOE, in several published decisions, declined to apply tax regulations when it found them inconsistent with statutory authority.
In 2017, the California Legislature transferred the BOE’s adjudicatory function to the newly created OTA as part of a broader reorganization. The OTA was vested with all duties and powers “necessary or appropriate to conduct [tax] appeals hearings.” This included any authority the BOE had to resolve conflicts in deciding the matters before it. While OTA panels operate within the executive branch, their jurisdiction and procedures largely mirror those previously followed by the BOE.
The Janus Appeal and OTA’s Proposed Regulation
In Appeal of Janus Capital Group, Inc. (OTA 2023), the taxpayer argued that a specific FTB regulation, as applied, conflicted with a particular statute in the Revenue and Taxation Code. OTA, holding that it lacked the authority to independently evaluate the validity of FTB regulations, held that it could not decline to apply the regulation. In dicta, OTA further concluded that the regulation was consistent with the statute.
Following Janus and other similar cases, OTA proposed a new regulation in 2023 (Proposed Rule 30104(d)) that would have barred taxpayers from challenging the validity of any tax regulation in an OTA proceeding unless an appellate court had already invalidated it.
The proposed regulation was met with strong opposition from taxpayers and industry professionals, who argued that the rule conflicted with both administrative law principles and OTA’s statutory authority to determine the validity of a regulation as applied to a taxpayer. In response, OTA withdrew the proposed rule and submitted a formal request to the AG for an opinion on the scope of its authority.
The AG’s Opinion: OTA May Decline to Apply Conflicting Regulations
In the Opinion, the AG affirmed that OTA panels may, in the course of adjudicating individual appeals, evaluate whether the application of a tax regulation conflicts with a governing statute and may decline to apply the regulation on that basis. Key points from the Opinion include:

OTA inherited the BOE’s authority to adjudicate challenges on the basis that a tax regulation conflicts with a governing statute when applied to a particular taxpayer; 
This authority derives from both OTA’s enabling statute and California Government Code § 11342.2, which provides that no regulation is valid or effective if inconsistent with a statute; 
Any such OTA determination would be quasi-adjudicative in nature and would not constitute improper rulemaking under the Administrative Procedure Act; 
OTA must afford appropriate deference to the issuing agency (FTB or CDTFA) when interpreting the regulation, consistent with Yamaha Corp. of America v. State Bd. of Equalization, 19 Cal. 4th 1 (1998); and 
The effect of any decision to disregard a regulation is binding only in the context of the specific taxpayer’s appeal and does not result in the repeal or invalidation of the regulation generally.

The AG rejected OTA’s assertion that such authority violates the separation-of-powers doctrine or the constitutional limits imposed by Article III, § 3.5 of the California Constitution (which bars state agencies from refusing to enforce statutes on constitutional grounds absent a court ruling). Because OTA panels adjudicate statutory—not constitutional—challenges to regulations, the opinion concludes that no constitutional concerns are implicated.
Implications for Future Tax Appeals
The Opinion reaffirms and clarifies the scope of OTA’s authority. While OTA may not invalidate regulations wholesale, the AG has now confirmed that OTA may refrain from applying regulations in certain situations. Panels must still afford appropriate deference to the promulgating agency’s interpretation, but the Opinion confirms that OTA is not merely a rubber stamp when agency rules are at odds with the statutory law as applied in a given situation.
Taxpayers and practitioners considering appeals to OTA should carefully evaluate whether regulations relied upon by FTB or CDTFA are consistent with the governing statutes and be prepared to preserve such challenges in briefing and at hearing.

Tariffs and Your Contracts: Why Do Pricing and Tax Provisions Matter?

President Trump’s shakeup of U.S. trade policy with its approach to tariffs is costing companies billions of dollars. In fact, in June of this year, importers paid the U.S. government customs duties (of which tariffs are a part) of nearly $27 billion[1], which is a dramatic shift from just over $6 billion paid in June of 2024 (before Trump returned to office).[2]

See footnotes 1 and 2.

With the drastic increases in the costs of production due to tariffs, suppliers are looking to their contracts to see who bears tariff responsibility, and if it is the supplier, they are looking for ways to increase the price of their products to pass that burden on to the buyer. Meanwhile, buyers are looking to avoid being saddled with the additional tariff responsibility.
Contract Pricing Provisions
In conducting a review of your contracts to determine how increased tariffs will affect your business, one of the first places to check is the pricing provision. The pricing provision of a contract often indicates what is and is not included in the price.  While sifting through the laundry list of expressly included items or excluded items (think freight, handling costs, packaging costs, insurance, or other similar charges), keep an eye out for an explicit reference to tariffs.  Even if “tariffs” are not listed specifically in a pricing provision, whether the price includes tariffs or not could hinge on whether “taxes” are listed specifically, because tariffs are a type of tax.
If a supplier has agreed to fixed pricing in a contract and the pricing includes tariffs or taxes, the supplier would not be permitted under the contract to increase pricing of the product to pass on the tariffs, absent another mechanism (an example of such a mechanism is if the tariffs are imposed on the supplier’s raw materials, and the contract has pricing adjustment provisions for raw material cost increases, then this may be another avenue to pass along the tariff costs, as discussed below). 
Pricing Adjustments and Economic Surcharges
Whether a supplier is contractually permitted to increase its pricing in the event of tariff hikes depends on the contents of the applicable contract as a whole. However, when determining who bears the risk of any increased tariffs, it is very important to examine the pricing adjustment and economic surcharge provisions. 
A pricing adjustment provision sets forth how the price of a product changes during the term. Pricing adjustment provisions can be drafted very narrowly to identify a few certain reasons in which a supplier can increase price.  On the other hand, pricing adjustment provisions are sometimes drafted broadly to include an extensive list of triggers that allow the supplier to raise prices—for example, increases in input costs, tariffs, or taxes.
Similarly, a contract may contain an economic surcharge provision instead of or in addition to a pricing adjustment provision. An economic surcharge provision is typically a temporary price increase to account for a changed circumstance, which like the pricing adjustment provision, could be increases in input costs, which would likely include the tariffs imposed on the sale of the raw materials to the supplier depending on how the provision is drafted.
Taxes Clause
Finally, the taxes clause is a key area of a commercial contract that the contract reviewer checks to determine which party is on the hook for increased tariffs, because this clause tends to clearly identify which party to the contract will be responsible to pay the taxes on the sale of the product.
The taxes clause of a contract is typically found in a stand-alone taxes section, but it could also be set forth as part of a broader pricing section.  The construction of the taxes clause may specifically identify allocation of tariff costs, but it is possible that the clause will gloss over this targeted mention and simply state that taxes and other similar charges are the responsibility of a particular party.  Given that tariffs are a form of tax, allocation of taxes will implicate tariff payment responsibility.
A common misconception about the taxes clause is that it addresses all the tax costs applicable to the product.  In all actuality, the taxes clause usually only addresses taxes on the sale of the product at issue.  As such, if increased tariffs are imposed on the raw materials or components used to make the product, the taxes clause may fail to address this cost increase, and a supplier’s profit could be squeezed if the contract also fixes product pricing, even if the taxes clause requires that payment of taxes on the product are solely the buyer’s responsibility.  
In conclusion, with billions of dollars at stake, it is worth a careful review of your contracts to determine which party bears responsibility for the tariffs on the sale of the product itself, as well as for the tariffs on the sales of the inputs used to produce the product.

[1] Monthly Treasury Statement: Receipts and Outlays of the United States Government for Fiscal Year 2025 Through June 30, 2025, and Other Periods. U.S. Department of the Treasury, Bureau of the Fiscal Service, https://fiscal.treasury.gov/files/reports-statements/mts/mts0625.pdf.
[2] Monthly Treasury Statement: Receipts and Outlays of the United States Government for Fiscal Year 2024 Through June 30, 2024, and Other Periods. U.S. Department of the Treasury, Bureau of the Fiscal Service, https://fiscal.treasury.gov/files/reports-statements/mts/mts0624.pdf.

New 25 Percent Additional Tariffs on Imports from India

Key Takeaways

New 25 Percent Tariff on Indian Imports: Starting August 27, 2025, the U.S. will impose a 25 percent tariff on certain products from India, in addition to existing duties.
Justification Cites National Security: President Trump stated that this duty will address India’s direct or indirect importation of Russian Federation oil and the national emergency relating to the Russian Federation described in Executive Order 14066.
Exemptions: Specific goods are exempt, and shipments in transit may qualify for relief.
Potential Extension to Other Countries: Imports from other foreign countries directly or indirectly importing Russian Federation oil could be subject to the same additional rate of duty in the future.

On August 6, President Trump signed an Executive Order imposing an additional ad valorem duty of 25 percent on imports from India, effective August 27, 2025, to address India’s direct or indirect importation of Russian Federation oil. This new duty will be imposed in addition to any other duties and fees applicable to imports from India with certain exceptions.
Applicability: President Trump stated that this new duty would address the national emergency relating to the Russian Federation described in Executive Order 14066, which was previously issued to prohibit the importation of certain products of Russian Federation origin, among other articles, into the United States. The new additional ad valorem duty of 25 percent will be imposed in addition to any other duties and fees, including the reciprocal duties recently announced in Executive Order 14326 of July 31 (For further details on the reciprocal duties, please see here).
Exemptions: There are certain exceptions to the applicability of this duty. This duty will not apply to:

Products subject to existing or future duties imposed under Section 232 of the Trade Expansion Act of 1962 — currently impacting articles of steel, aluminum and copper, and potentially excluding critical minerals, pharmaceuticals, lumber, semiconductors and other such products in the future.
Products listed in Annex II to Executive Order 14257 of April 2, 2025, as amended. These products are not subject to either the recently increased reciprocal duty of 25 percent on imports from India, or this new duty.
Products excepted by 50 U.S.C. § 1702(b), i.e., communication, which do not involve a transfer of anything of value; informational materials, including publications, films, posters, photographs, etc.; and importation of accompanied baggage for personal use.
Goods that are both (1) loaded onto a vessel and in transit on the final mode of transit prior to entry into the U.S. before August 27, 2025, and (2) entered for consumption or withdrawn from warehouse for consumption before September 17, 2025.

Modifications: The Executive Order provides that this new duty action could be subject to modifications. If a foreign country impacted by this Order (i.e., India and Russia) retaliates against this duty action or takes other significant actions to address the U.S. national emergency, the Order may be modified.
Pharmaceuticals: With this new action, certain pharmaceutical ingredients on products of India previously subject to 10 percent duties will now be subject to a five-times higher tariff rate. Active pharmaceutical ingredients listed in Annex II of Executive Order 14257 continue to be excepted for now, pending the outcome of the Section 232 investigation, which could result in duties as high as 200 percent.
Other Countries: Under this Executive Order, imports from other foreign countries could be subject to the same rate of duty in the future. In the order, President Trump directed the Secretary of Commerce, in coordination with other related federal agencies, to determine whether any other country is “directly or indirectly importing Russian Federation oil.” If the Secretary of Commerce finds that a certain country is engaging in such activity, relevant officials such as the Secretaries of Commerce, the Treasury, and Homeland Security, are directed to recommend whether that country should be subject to the same additional ad valorem duty of 25 percent.
The Executive Order defines the term “Russian Federation oil” as “crude oil or petroleum products extracted, refined, or exported from the Russian Federation, regardless of the nationality of the entity involved in the production or sale of such crude oil or petroleum products.” Also, the term “indirectly importing” is defined as “purchasing Russian Federation oil through intermediaries or third countries where the origin of the oil can reasonably be traced to Russia.” Any other foreign countries involved in importing Russian Federation oil defined in the Order will be at the risk of being subject to the same duty.

New U.S. Tariff Rates Set to Take Effect on August 7, as Negotiations Continue

In recent weeks, the Trump Administration has taken a range of actions intended to significantly alter the U.S. trade landscape. Specifically, during the course of July, President Trump unveiled a series of letters to U.S. trading partners, identifying adjusted tariff rates set to take effect on August 1, 2025. Along these lines, on July 31, President Trump issued Executive Order (“EO”) 14326, formally revising the April 2 “Liberation Day” tariff rates and extending the effective date to August 7, 2025. These rates may change as Washington continues to pursue trade negotiations with the impacted countries. 
In addition, the White House announced a series of trade deals throughout the month of July and into August—securing framework agreements with the European Union, Japan, Indonesia, Pakistan, the Philippines, South Korea, and Vietnam. 
Separately, the President suspended duty-free treatment for all de minimis imports arriving in the United States, effective August 29. 

Tariff Updates

The following chart captures the updated ad valorem tariff rates, effective Thursday, August 7, compared to the previous tariff rates announced on or before the April 2 “Liberation Day.”[1] For countries not identified in the below chart, the base tariff rate remains 10 percent. 

Note that the chart includes only new reciprocal tariff rates announced by President Trump and does not include the earlier (i) tariffs imposed as a result of executive orders purportedly combatting the flow of fentanyl from China, Canada, and Mexico; or (ii) tariffs imposed under Section 232 of the Trade Expansion Act of 1962 (“Section 232”) or Section 301 of the Trade Act of 1974 (“Section 301”).[2]  
In many cases, the adjusted tariff rates appear lower than, or equal to, the tariff rates announced in or before April 2025. A select number of countries, as demonstrated above, face increased tariff rates. 
EO 14326 also targets importers who may attempt to avoid higher tariffs by transshipping products through a third country with a lower rate to avoid country-specific duties. If U.S. Customs and Border Protection (“CBP”) determines that an item has been transshipped, the EO directs CBP to impose a duty rate of 40 percent—instead of the country-specific rate identified in the chart above—as well as “any other applicable or appropriate fine or penalty.” 
President Trump also announced the following additional tariff measures: 

Imports of copper. Following the U.S. Department of Commerce’s Section 232 investigation into imports of copper, President Trump issued Proclamation 10962 declaring that as of August 1, 2025, “all imports of semi-finished copper products and intensive copper derivative products, as set forth in the Annex . . . shall be subject to a 50 percent tariff.” Additional derivative copper products may later be subject to Section 232 tariff rates. Certain exceptions may apply if the products are covered by the Administration’s other tariff measures.
Imports from Canada. Beginning August 1, 2025, per EO 14325, imports from Canada (previously subject to 25 percent tariffs as a result of executive orders purportedly combatting the flow of fentanyl) are subject to 35 percent tariffs. Goods from Canada that comply with the United States-Mexico-Canada Agreement (“USMCA”) will remain exempt from the new tariff rate.
Imports from Mexico. Goods imported from Mexico (previously subject to 25 percent tariffs as a result of executive orders purportedly combatting the flow of fentanyl) stand to be subject to 30 percent tariffs. On July 31, President Trump announced via Truth Social that the United States and Mexico had agreed to a 90-day extension of the 25 percent tariff rate while negotiations continue.
Imports from Brazil. In addition to the reciprocal tariff rate identified above, EO 14323 declares that, beginning August 7, 2025, certain imports from Brazil will be subject to an additional ad valorem tariff of 40 percent (for a total of 50 percent) as a consequence of the country’s ongoing prosecution of former Brazilian president Jair Bolsonaro. The EO carves out various products that will not face the additional 40 percent tariff, including, but not limited to, iron ore, coal, oil and petroleum products, batteries, and radars.
De minimis. Effective August 29, de minimis value imports (i.e., shipments valued at $800 or less) no longer receive duty-free treatment and will be, instead, tariffed at either (i) the country-specific rate identified in the above chart or (ii) through February 2026, assessed a duty ranging from $80 to $200 per item, depending on the country-specific tariff rate. 

In addition, President Trump has suggested that further tariff measures may take effect in the near future, including the following: 

President Trump threatened an additional 10 percent tariff on countries aligning themselves with BRICS (an intergovernmental organization composed of Brazil, Russia, India, China, South Africa, Saudi Arabia, Egypt, the United Arab Emirates, Ethiopia, Indonesia, and Iran).
President Trump threatened the imposition of up to 100 percent “secondary” tariffs on countries that purchase Russian-origin goods. Most notably, on August 6, President Trump signed an EO imposing an additional ad valorem tariff of 25 percent (bringing the total tariff on goods imported from India to 50 percent). The additional tariff measures are set to take effect on August 27. 

Separately, regarding the United States and China, the 90-day pause on heightened tariffs (which had reached 145 percent by the United States and 125 percent by China) agreed to between the two countries in May is set to expire on August 12, although negotiators from both nations reportedly agreed to pursue an extension. Should President Trump not approve of an extension, tariff rates on products imported from China may increase from the current 30 percent to 145 percent (i.e., the rate in effect before the pause).

Trade Negotiations and Agreements

Over the past few weeks, the United States announced a set of trade deals with the European Union, Japan, Indonesia, Pakistan, the Philippines, and South Korea—as summarized below in the order that they were announced. 

Indonesia: On July 12, the United States and Indonesia agreed to a framework agreement under which the United States would lower the tariff on products imported from Indonesia to 19 percent, while Indonesia would “eliminate approximately 99 percent of tariff barriers for a full range of U.S. industrial and U.S. food and agricultural products exported to Indonesia.”
Japan: On July 22, President Trump announced that Washington and Tokyo had negotiated “the largest Deal ever made.” The White House subsequently confirmed that Japan will invest $550 billion “to rebuild and expand core American industries” in exchange for a baseline tariff of 15 percent for Japanese-origin products. While the official text of the agreement has yet to be released, according to the White House, Japan will invest in key sectors, including energy infrastructure and production; semiconductor manufacturing and research; critical minerals; pharmaceutical and medical production; and commercial and defense shipbuilding. Per reports, Japan expects the $550 billion investment framework to include direct investments, loans, and loan guarantees.   Following the announcement, Ryosei Akazawa—a lead negotiator for Japan—remarked that “[i]f a third country agrees with the United States on lower rates on chips and pharmaceuticals, those lower rates would apply to Japan.”
Philippines: On July 22, President Trump announced via Truth Social that the United States and the Philippines had “concluded our Trade Deal, whereby The Philippines is going OPEN MARKET with the United States, and ZERO tariffs.” Pursuant to the deal, the United States will impose a 19 percent tariff on products originating in the Philippines, and the two nations would bolster military cooperation.
European Union: On July 27, following months of negotiations, the European Union and the United States agreed to a framework trade agreement, which, per the White House, will see the EU purchase $750 billion worth of U.S. energy products and invest an additional $600 billion in the United States, in exchange for a 15 percent tariff on EU-origin goods. Following the announcement, on August 4, the European Commission announced that it would suspend its tariff countermeasures for a period of six months. At press time, President Trump signaled that the deal may be in jeopardy if the $600 billion investment pledge fails to satisfy the United States, remarking that, should the European Union fail to follow through, “then they pay tariffs at 35 percent.”  
Pakistan: On July 30, President Trump and Deputy Prime Minister and Foreign Minister of Pakistan, Ishaq Dar, confirmed that the United States and Pakistan had agreed to a trade deal. According to President Trump’s announcement, Washington and Islamabad “will work together on developing their massive Oil Reserves.”
South Korea: On July 30, President Trump announced via Truth Social that the United States and South Korea had agreed to a trade deal which would see South Korea invest $350 billion into “investments owned and controlled by the United States, and selected by [President Trump],” purchase $100 billion of liquified natural gas and energy products, and impose no tariff on U.S.-origin items imported into South Korea. In return, the United States agreed to lower its tariff rate on South Korean-origin goods to 15 percent. According to reports, no written agreement exists between the countries to confirm the terms of the deal.  

In addition to the above, United States previously announced agreements with the United Kingdom and Vietnam (although Hanoi has yet to formally accept the terms of the announced deal), along with investment agreements with Saudi Arabia and Qatar. Most of the aforementioned announcements have not included texts of the agreements, leaving uncertainty about the details. 

Legal Challenges

A series of lawsuits challenging the legality of tariffs imposed by the Trump Administration under authority of IEEPA are working their way through several U.S. courts. 
As explained in a previous Blank Rome client alert, in May 2025, the U.S. Court of International Trade (“CIT”) found these IEEPA-based tariffs unlawful and issued a nationwide injunction. The matter was subsequently appealed to the U.S. Court of Appeals for the Federal Circuit (“CAFC”), which stayed the decision of the lower court—allowing the United States to continue collecting tariffs on imported goods. On July 31, 2025, the CAFC, with all judges sitting en banc, heard arguments in the case, and is expected to issue its decision in the coming months. 
Meanwhile, in Trump v. Casa, Inc., the U.S. Supreme Court held that nationwide injunctions—similar to the injunction issued in the tariff case—“likely exceed the equitable authority that Congress has given to federal courts.” In effect, the Court held that a federal court may normally only provide injunctive relief to parties who brought the lawsuit. It is not clear to what extent this would apply to the CIT, given that the CIT has nationwide and exclusive jurisdiction over most tariff matters. Consequently, it is possible, although not certain, that even if the courts find that IEEPA-based tariffs are unlawful, they may not re-institute the universal injunction. 
Given the complex constitutional and statutory challenges to President Trump’s tariffs—and the initiation of various, similar lawsuits across the country—there is a reasonable possibility that these matters will make their way to the U.S. Supreme Court. 

[1] The minimum rate for EU goods is 15 percent. If a good of EU origin previously had a tariff rate higher than 15 percent, the higher rate still governs.
The reciprocal tariffs, identified in the above chart, stack on top of any product-specific duties for imports from all countries except the European Union. 

[2] The Trump Administration continues to pursue its trade policy through a number of legal avenues, including under authority of the International Emergency Economic Powers Act (“IEEPA”), Section 232, and Section 301. 

Foley Automotive Update August 6, 2025

Foley is here to help you through all aspects of rethinking your long-term business strategies, investments, partnerships, and technology. Contact the authors, your Foley relationship partner, or our Automotive Team to discuss and learn more.
Key Developments

Foley & Lardner partners Gregory Husisian and David Simon detailed the rise and risks of tariff evasion in the POLITICO article, “As Trump raises tariffs, companies find ways to cheat — and risk getting caught.”
The White House on July 31 released an executive order with modified “reciprocal” tariff rates of 10% to 41% on global trading partners that are scheduled to take effect August 7, 2025. In addition, the order announced a new 40% duty for any goods determined to have “transshipped to evade applicable duties.” This order is expected to conclude the reprieve to the implementation of the April 2 “Liberation Day” tariffs. Certain nations such as China, Canada and Mexico are not included in the list of modified tariff rates as they are covered under separate orders. Products “free of duty as under the United States-Mexico-Canada Agreement” are exempt from the order, according to Customs and Border Protection guidance. 
A July 31 executive order increased the International Emergency Economic Powers Act (IEEPA) tariff on Canada to 35%, from a previous level of 25%, in response to the “flow of illicit drugs” across the border. An accompanying fact sheet states “goods qualifying for preferential tariff treatment under the United States-Mexico-Canada Agreement (USMCA) continue to remain not subject to the IEEPA Canada tariffs.”
On July 31, President Trump extended Mexico’s current tariff rate for 90 days, citing ongoing trade negotiations.
The Trump administration’s 15% baseline tariff on imports of European goods announced in a July 27 framework trade agreement is expected to “cost the German automotive industry billions annually,” according to a statement from the auto industry association VDA. 
Bloomberg analysis suggests Hyundai and its affiliate Kia could incur up to $5 billion in tariff-related costs this year due to the 15% import duties in a proposed U.S. – South Korea trade agreement that was announced on July 30. More details about the trade agreement are expected once terms are finalized.
A July 30 executive order announced plans to impose an additional 40% tariff on certain imports from Brazil that will be added to an existing 10% IEEPA tariff on the nation. The order includes a list of products exempted from the new tariff rate, such as certain types of iron ore, rubber and fuel oil. 
Bloomberg estimated that $15 billion worth of goods will be impacted by a presidential proclamation which imposed a Section 232 tariff of 50% on certain semi-finished copper and derivative products as of August 1. While the proclamation did not list specific items, a White House fact sheet described semi-finished copper products “such as copper pipes, wires, rods, sheets, and tubes,” and copper-intensive derivative products “such as pipe fittings, cables, connectors, and electrical components.”
On August 5, President Trump suggested he could announce new Section 232 tariffs on semiconductors “within the next week or so.” 
U.S. new light-vehicle sales in July reached a SAAR of 16.4 million units, representing a 7.1% increase from June 2025 and a 3.7% increase year-over-year.  J.D. Power and GlobalData noted that last year’s dealer software outages distort year-over-year comparisons due to last summer’s altered sales patterns. 
On July 29, the Environmental Protection Agency announced a proposal to repeal the landmark 2009 determination that greenhouse gas emissions endanger public health. The EPA stated that without the Endangerment Finding, the agency “would lack statutory authority under Section 202(a) of the Clean Air Act (CAA) to prescribe standards for greenhouse gas emissions.” 

OEMs/Suppliers

Automakers’ revised projections for tariff-related costs in full-year 2025 include up to $3 billion for Ford (with the expectation to offset roughly a third of the costs), $2.02 billion for Nissan, and $1.7 billion for Stellantis.
GM maintained its projected tariff impact of $4 billion to $5 billion, with the potential to offset up to 30% of the costs. 
As the major automaker with the most significant U.S. vehicle manufacturing footprint, Ford expects to be at a competitive disadvantage due to the impact of U.S. tariffs on imported parts. 
Honda reported a 50% YOY decline in first-quarter operating profit due to the effects of a stronger yen, the cost of U.S. import tariffs, and one-time losses related to EVs.  The automaker raised its annual earnings forecast, citing expectations for a weaker yen and tariff mitigation measures. 
Toyota’s first-half 2025 global sales increased 5.5% YOY to over 5.1 million units. The automaker is reported to have raised its full-year global production target to approximately 10 million vehicles. 
BMW maintained its full-year 2025 profit guidance following a 32% YOY decline in second-quarter pretax earnings. German automakers including Volkswagen, Porsche, and Mercedes-Benz have lowered their full-year 2025 outlooks, citing multiple challenges that included tariffs.
Detroit automakers are expected to renew their focus on high-margin gas-powered SUVs and pickup trucks, amid tariff costs and a regulatory rollback that has eliminated fuel economy and emissions fines.
The Michigan Strategic Fund (MSF) Board approved funding intended to help small and mid-size automotive suppliers transition to adjacent industries or vehicle electrification through the Michigan Auto Supplier Transition Program (MASTP).
Samsung Electronics will manufacture next-generation artificial-intelligence chips for Tesla under a $16.5 million multiyear agreement. The agreement comes as Tesla CEO Elon Musk expressed the intent to shift the company’s focus to autonomous technology including robotaxis, as well as humanoid robots.

Market Trends and Regulatory

The California Air Resources Board modified aspects of its Advanced Clean Trucks (ACT) standards to allow an “option for manufacturers to transfer surplus zero-emission vehicle (ZEV) and near-zero emission vehicle (NZEV) credits generated between states that adopted the ACT regulation.”
Amazon expanded its online car shopping platform to include used and certified pre-owned vehicles, beginning with inventory from participating dealers in the Los Angeles market. Amazon Autos had initially launched with Hyundai vehicles. 
A group of UAW members are taking steps to unseat President Shawn Fain ahead of the union’s next leadership elections in 2026, according to a report in Bloomberg. 
U.S. import tariffs could increase domestic factory costs by 2% to 4.5% on average, according to analysis from the Washington Center for Equitable Growth.

Autonomous Technologies and Vehicle Software 

Automotive World provided an overview of market challenges impacting the development of software-defined vehicles (SDVs). 
Waymo and Avis intend to launch a robotaxi service in Dallas in 2026. Waymo estimated it books over 250,000 paid weekly trips in markets that include Atlanta, Austin, Los Angeles, Phoenix and San Francisco.
U.S. Rep. Vince Fong, R-CA, introduced the AMERICA DRIVES Act to create a streamlined national process for permitting and operating certain autonomous commercial vehicles on interstate highways.
Aurora Innovation is among the autonomous truck companies that recently began nighttime freight operations on select routes in Texas.
S&P Global Mobility’s annual Connected Car Study found the percentage of consumers willing to pay for connected services dropped to 68% in 2025, from 86% in 2024. Adoption challenges include concerns over costs and data privacy, as well as unawareness of connected car features, and the complexity of managing multiple subscriptions.
A report in The Wall Street Journal raised concerns over the effectiveness of “over the air” software updates to repair certain types of complex malfunctions in recalled vehicles. 

Electric Vehicles and Low-Emissions Technology 

Multiple media sources reported LG Energy Solution reached a $4.3 billion multi-year agreement to supply lithium iron phosphate (LFP) batteries to Tesla. The LFP batteries are expected to be supplied from LG’s factory in Lansing, Michigan.
S&P Global Mobility analysis published on July 30 indicated new U.S. EV retail registrations in the first five months of 2025 increased 8.1% year-over-year to exceed 450,000 units. However, EV market share rose just 0.2 percentage points YOY to 8.6%. The analysis also notes that more brands are competing amid stagnant market share growth: “81% of new EV retail registrations in January–May 2025 come from 10 OEM brands and the remaining 19% are spread across 27 other makes.”  
GM and EV battery reuse company Redwood Materials announced an agreement to build stationary energy storage systems using both new modules and second-life batteries from the automaker’s EVs. The update comes as a number of U.S. EV battery makers are expanding energy-storage system capabilities in response to slowing EV market growth. 
Citing “market conditions,” Mercedes plans to suspend EV orders and production for the U.S. for an unspecified duration beginning in September. 
Contract electronics manufacturer Foxconn reached an agreement to sell a former GM factory in Lordstown, Ohio that it purchased several years ago with the intent to produce EVs. Foxconn expects to continue to be involved with certain operations at the facility, including the production of an upcoming electric crossover for an unnamed North American client. 

Analysis by Julie Dautermann, Competitive Intelligence Analyst

Key Takeaways from OFSI’s Latest Crypto-Asset Threat Assessment (July 2025)

On 21 July 2025, the UK Office for Financial Sanctions Implementation (OFSI) released a detailed threat assessment focused on the crypto-asset sector’s vulnerability to sanctions breaches (the Assessment). This Assessment sends a clear warning to UK crypto firms: sanctions compliance is not optional, and enforcement is tightening.
The following is a summary of the Assessment, which is discussed in greater detail in our client alert found here.
Why Focus on Crypto?
OFSI’s attention to the crypto space reflects growing concern about how digital assets are being used to evade sanctions and facilitate financial crimes. Crypto firms registered with the Financial Conduct Authority (FCA) – including exchanges, ATM operators and wallet providers – are now seen as high-risk entities, especially given the borderless and rapid nature of crypto transactions.
Key Takeaways:
The report underscores several areas where crypto firms fall short:

Incomplete self-disclosure: Many UK firms fail to report suspected sanctions breaches – either due to lack of detection, misunderstanding of obligations, or reluctance to self-report.
Inadvertent non-compliance: Much of the non-compliance appears unintentional and stems from direct or indirect exposure to Designated Persons (DPs) listed on the OFSI Consolidated List (see here), or retrospective discovery of suspected breaches.
Delayed breach discovery: Firms often identify exposure to sanctioned entities only after implementing blockchain analytics tools – by which time the damage is done.
Challenges in freezing assets: Unlike banks, crypto firms cannot reject incoming transactions, making them particularly vulnerable to receiving funds from designated persons (DPs) or sanctioned jurisdictions.Notable Threat Actors

OFSI highlighted three specific threats:

Russia: UK firms were found to have transacted with the Russian exchange Garantex, despite its 2023 designation. Its successor, Grinex, and links to ransomware operations and darknet markets like Hydra further heighten the threat.
Iran: OFSI suspects that UK firms may have facilitated transactions with Nobitex, an Iranian exchange tied to the Islamic Revolutionary Guard Corps.
North Korea: UK crypto firms are at high risk of targeting DPRK-linked hackers. The February 2025 Bybit hack, which resulted a $1.5 billion loss, underscores the scale of the threat.

Red Flags to Watch Out For
OFSI outlines several red flags crypto firms must monitor, including:

Dealings with DPs or their proxies;
Abrupt or unusual activity from previous dormant wallets; and
High-volume microtransactions.

Reccomendations
To stay compliant, OFSI recommends that crypto-asset firms adopt robust compliance measures including:

Providing staff training on sanctions risks and red flags;
Deploying blockchain analytics tools for tracing and screening;
Reviewing internal processes for managing frozen crypto-assets;
Enhancing due diligence on counterparties and transaction structures;
Regularly updating compliance frameworks as regulations evolve; and
Reporting to OFSI as well as file Suspicious Activity Reports with the National Crime Agency (NCA) (reporting to the NCA and OFSI can be found here and here).

Conclusion
The key message from OFSI is unmistakable: passive compliance is no longer enough. As such, UK crypto-asset firms must proactively upgrade their systems to detect, prevent and report sanctions breaches.

Former IRS Acting Commissioner Douglas O’Donnell Joins KPMG LLP

New York-based KPMG LLP has announced that Douglas O’Donnell, former IRS acting commissioner, has joined the firm as a senior managing director within its Washington national tax practice. The hire comes at a critical time as multinational taxpayers face an unprecedented increase in cross-border tax disputes and enhanced enforcement efforts from tax administrations worldwide.
O’Donnell brings nearly four decades of leadership from the IRS, where he held the agency’s most senior roles, including acting commissioner, deputy commissioner and commissioner of the large business and international division. As acting commissioner and deputy commissioner, he oversaw approximately 100,000 employees while leading strategic planning and organizational transformation efforts across the agency during a period of significant modernization.
“Doug’s unparalleled leadership and deep understanding of the tax landscape will be invaluable to our clients as they navigate an increasingly complex regulatory environment,” said Rema Serafi, vice chair – tax, KPMG LLP. “Doug strengthens our ability to deliver the highest level of tax expertise and regulatory insight our clients need to manage these challenges effectively.”
“Doug’s extensive experience with foreign tax administrations, particularly through his participation in the OECD Forum on Tax Administration, makes him an ideal addition to our Washington national tax practice,” adds Danielle Rolfes, PIC – Washington national tax, KPMG LLP. “As tax authorities around the world intensify enforcement, Doug’s expertise in global tax issues and dispute resolution will provide our clients with even deeper insights and strategic guidance.”
In his new role, O’Donnell will co-lead the tax controversy & dispute resolution (TCDR) group within Washington national tax, where he will help clients navigate complex tax issues with the IRS and foreign tax authorities. He will also assist clients with developing dispute prevention strategies to minimize tax controversy exposure.
“I’m excited to join the leading Washington national tax practice at KPMG and contribute to the firm’s exceptional brand,” said O’Donnell. “The commitment of KPMG to delivering unparalleled value to clients during this dynamic period in tax administration aligns perfectly with my passion for helping organizations navigate complex challenges.”

OFSI’s Enforcement Overhaul – What the July 2025 Consultation Means for UK Sanctions Compliance

On 22 July 2025, the UK Office of Financial Sanctions Implementation (OFSI) launched a significant consultation on proposed reforms to its civil enforcement framework (the Consultation). These reforms – currently open for consultation until 13 October 2025 – could reshape how sanctions breaches are investigated, penalised and resolved. This marks a decisive shift away from OFSI’s traditionally cautious approach, and signals that the UK is moving toward a more assertive, US-style sanctions enforcement model.
The following is a summary of the Consultation, which is discussed in greater detail in our client alert found here.
Why Now?
The shift comes amidst broader efforts by OFSI to crack down more vigorously on sanctions breaches. Combined with several sector-specific threat assessments, particularly in the wake of the Russia-Ukraine conflict, these reforms point towards a more interventionist strategy.
Key Reform Proposals
Capped Discounts for Voluntary Self-Disclosure
Currently, firms disclosing sanctions breaches can receive up to 50% discount on penalties on “serious cases”. OFSI proposes capping this discount at 30%, regardless of case severity.
Formal Settlement Scheme
A proposed settlement process would allow firms to resolve investigations earlier, potentially saving time and legal costs. This settlement scheme would be offered at OFSI’s discretion in what it considers appropriate cases and would not replace OFSI’s usual decision-making process.
Early Account Scheme (EAS)
Linked to the settlement scheme, EAS would let investigated entities submit a full factual account early in the process – along with supporting evidence. Should the EAS be used, and should OFSI consider it appropriate, OFSI proposes the maximum settlement discount would be increased from 20% to 40%.
Fixed and Indicative Penalties for Administrative Offences
OFSI is considering two alterations to penalty processes for information, reporting, and licensing offences which are (a) the possible pursuit of indicative penalties for certain offences, and (b) the introduction of statutory fixed penalties. Under the indicative penalty proposal, OFSI may set baseline penalties or use a fixed-rate model per offence, allowing faster resolutions. Alternatively, OFSI has also proposed a simplified process streamlining civil penalties using a fixed penalty in which lower-severity breaches would receive standardised fines.
Increased Statutory Maximum Penalties
The current maximum penalty is either £1 million or 50% of the breaches value. OFSI now proposes doubling the financial cap to £2 million and allowing penalties up to 100% of the transaction value. OFSI would retain a process to assess what level of monetary penalty within that maximum is reasonable and proportionate, which could be any amount between zero and the maximum.
Conclusion
This Consultation reflects a turning point in OFSI’s enforcement philosophy where voluntary cooperation is no longer seen as a generous act but it’s the baseline expectation to cooperation. Compliance with reporting obligations, engaging in RFIs, and voluntary disclosure remain a key focus area for OFSI in its enforcement efforts. However, the ultimate test will be whether we see increased enforcement action by OFSI, particularly given the somewhat limited number of cases we have seen over the past few years.