Inside the IRS’s prevailing wage and apprenticeship guidance

Introduced in the Inflation Reduction Act of 2022, prevailing wage and apprenticeship provisions in certain tax incentives will allow taxpayers to receive increased benefit if they abide by labor guidelines. Prevailing wage and apprenticeship requirements will come into effect for facilities that begin construction on or after Jan. 29, 2023. These requirements are currently set to remain in effect until 2032.

The programs that are impacted include:

Prevailing wage guidance

“Prevailing wage” is intended to represent the average wage a particular type of worker could expect to earn in a particular geographical location. Per the IRA, prevailing wage is the minimum wage rate that must be paid to laborers and mechanics in order for taxpayers to obtain maximum tax benefit.

The IRS defines “laborers and mechanics” as workers whose jobs are manual/physical in nature. These workers include apprentices, trainees, helpers, watchmen and guards. Foremen who perform manual labor must also be paid prevailing wage for hours spent performing said labor.

Taxpayers wishing to satisfy prevailing wage provisions must ensure that they, as well as their contractors and subcontractors, pay the applicable prevailing wage rates to all laborers and mechanics performing construction, alteration or repair duties.

The facilities for which prevailing wage applies include: 

The Wage and Hour Division of the U.S. Department of Labor publishes official prevailing wage rates on www.sam.gov. Taxpayers can use this database to look up applicable prevailing wage rates for their projects.

For projects taking place in more than one location, laborers and mechanics must be paid prevailing wage rates that are applicable to the location in which they work. For example, employees working in two different states must be paid two different prevailing wage rates, even if they are both working on the same project.

If a single employee performs more than one type of labor, they should be paid the applicable prevailing wage rate for each labor classification. Taxpayers, contractors and subcontractors are required to keep track of how many hours each employee spends performing each type of labor so that they can be paid accordingly. Estimating hours worked in each labor classification or taking an average of the various applicable prevailing wage rates is not permitted. (For additional guidance on the application of multiple prevailing wage rates, see All Agency Memoranda 131 and 236.)

If the prevailing wage rate for a specific type of worker in a specific location is not listed on www.sam.gov, taxpayers can request an official prevailing wage from the Wage and Hour Division by emailing IRAprevailingwage@dol.gov. The email request should include the:

• The type of facility;
• The facility location;
• The proposed labor classification;
• The proposed prevailing wage rate;
• The job description and duties; and,
• The rationale for the proposed classification.

Laborers and mechanics who act as independent contractors must also be paid applicable prevailing wage rates. Prevailing wage provisions do not make any exceptions for independent contractors.
Finally, fringe benefits are included in prevailing wage rates. Laborers and mechanics must be paid the applicable basic hourly rates in addition to relevant employer-provided fringe benefits. Fringe benefits covered under prevailing wage provisions include:

• Life insurance;
• Health insurance;
• Pension plans;
• Vacation pay;
• Holiday pay; and,
• Paid sick leave.

Apprenticeship guidance

Beginning in 2023, certain tax incentives will include additional benefits for taxpayers who abide by apprenticeship guidelines (in addition to prevailing wage requirements).

The IRA outlines two general apprenticeship requirements:

1. Taxpayers, contractors and subcontractors must ensure that a certain number of labor hours of construction, alteration or repair work are performed by qualified apprentices (subject to applicable journeyworker ratios).
2. Taxpayers, contractors and subcontractors who employ four or more individuals for construction, alteration or repair work must employ at least one qualified apprentice.

All apprentices employed under IRA labor standards must be from registered apprenticeship programs. Employers may choose to either join an existing registered apprenticeship program or register their own under the National Apprenticeship Act. 

The IRA does include a good faith exception rule for taxpayers who are unable to find apprentices to hire. Under the good faith exception, certain taxpayers may be deemed as having satisfied the apprenticeship requirements so long as they put forth a good faith effort to meet them. 

In order to qualify for the exception rule, one of the following criteria must be met:

1. The taxpayer must have requested qualified apprentices from a registered apprenticeship program and had their request denied (so long as the denial was not due to the taxpayer’s failure to comply with established apprenticeship standards and requirements).
2. The taxpayer must have requested qualified apprentices from a registered apprenticeship program and not heard back from said program within five business days of making the request.

Those planning to utilize the good faith exception rule should keep records documenting their efforts. These can include documents showing requests for apprentices and responses from apprenticeship programs.
In terms of wages, in many cases, taxpayers are permitted to pay apprentices rates lower than standard prevailing wage rates. Apprenticeship programs often provide a specific percentage of the journeyworker rate that apprentices must be paid. Taxpayers, contractors and subcontractors can use this percentage to calculate the amount of the applicable prevailing wage rate that each apprentice must receive.

Apprentices can only be paid reduced rates if sufficient journeyworkers are on site to meet the apprenticeship program ratio. Apprentices must be paid the full prevailing wage rate for each day that the ratio is not met.

Taxpayers claiming tax incentives that contain prevailing wage and apprenticeship requirements must keep records to show that all requirements have been met. Such taxpayers should maintain documentation that:

• All laborers and mechanics were paid the applicable prevailing wage rate for all hours worked;
• All laborers and mechanics received applicable fringe benefits;
• The required apprentice-to-journeyworker ratio was met each day an apprentice was on site;
• Sufficient labor hours went to qualified apprentices; and,
• All apprentice participation requirements were met.

Beginning of construction guidance

Because prevailing wage and apprenticeship requirements will come into effect for construction projects starting on or after Jan. 29, 2023, taxpayers wishing to claim relevant tax incentives must be able to accurately establish when the construction of their facilities begins. One of two methods may be used to establish when construction begins: the physical work test or the 5% safe harbor.

Under the physical work test, a taxpayer must demonstrate when physical work “of a significant nature” begins. This test establishes that construction begins on the date that significant physical work is first performed, regardless of the cost of said work.

Preliminary activities such as planning, designing, securing financing, exploring, researching, obtaining permits, licensing, conducting surveys and/or clearing a site are not considered to be physical work of a significant nature. Physical work of a significant nature also does not include work to produce property that is either held in existing inventory or is normally held in inventory by a vendor.

The physical work test applies to both on- and off-site work performed by the taxpayer, contractor, subcontractor or their employees.

The 5% safe harbor allows taxpayers to establish the beginning of construction on the date that they incur 5% or more of the total cost of the facility. If property is produced for the taxpayer by a third party, costs incurred to produce said property before it is transferred to the taxpayer still count toward safe harbor.

Whether taxpayers choose to utilize the physical work test or the 5% safe harbor, they must also satisfy the continuity requirement, which stipulates that taxpayers must demonstrate continuous construction or continuous efforts following the beginning of construction.

Conclusion

Per IRS guidance, taxpayers should be prepared to compile substantial documentation for any project subject to tax incentives under which labor standards must be met. Claiming tax incentives such as the Sec. 179D deduction or the 45L credit will require extensive recordkeeping. In exchange for increased documentation requirements, taxpayers will have the opportunity to claim higher tax incentives.