Tax Update Blog: Permalink

« Previous · Tax Update Blog Home · Next »

'PRODUCTION' DEDUCTION: IRS ISSUES INITIAL GUIDANCE

January 19, 2005

The 2004 "American Jobs Creation Act" begat an odd offsping: the deduction for "Qualified Production Activities Income." This deduction allows those who qualify to simply reduce their taxable income by a percentage of qualifying income: 3% for 2005, and 9% when fully phased-in by 2010.

The deduction is also known as the "Section 199 deduction." It is meant to help manufacturers, but it also applies to farmers, filmmakers, construction companies and, strangely, architects and engineers.

Congress punted much of the dirty work of figuring out this deduction to the Treasury. For example, the law allows the deduction for sales of goods made "in whole or significant part" in the U.S., but it never says what "significant part" means. For example, does a shirt made in Bangledesh but screen-printed in the U.S. qualify?

The Treasury took its first stab at trying to administer the new QPAI deduction this week with Notice 2005-14. The notice is 102 pages long, so we have a lot of reading to do to figure it out. It's also full of crunchy acronyms like MPGE, QPP and DPGR. This sentence out of the notice scores an acronym triple play:

   Under § 199, the gross receipts that are considered DPGR
   are not limited to the gross receipts attributable to QPP 
   MPGE entirely by a taxpayer.

Sort of chokes you up, doesn't it? I love the tax law!

If you're wondering, "significant part" means the work done in the U.S. is "substantial in nature." The notice says that depends on "facts and circumstances." It has a "safe harbor" where it meets the "significant part" test if 20% of costs are incurred in the U.S. That of course begs the question - how do you figure that? More on that later, if we figure it out.

Policy aside: provisions like this are are opposite of simplification. While it is easy to mock the Treasury for 102 pages of gobbledygook, Congress is really responsible. Congress decided to tax some business income more favorably and then threw the mess at Treasury.

In today's economy it is difficult to tell where "production" stops and distribution or design begin. All of these processes routinely cross borders. Now Congress has told the Treasury to draw arbitrary lines of "production" and "U.S. Activity through integrated multinantional economic processes.

Like the tsumani deduction, it was done with the best intentions - in this case, to support domestic manufacturers. Still, we all know which road is paved with good intentions.

      Bookmark: del.icio.us • Digg • reddit