Domestic Production Deduction Rules Unlikely to Be Flexible

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Feb. 1 — The government is unlikely to issue regulations allowing principals and contract manufacturers to decide among themselves which party will take the domestic production credit, a Treasury Department official said.

“It's not likely we'll end up with a rule that allows the parties to decide,” Kenneth Beck, a Treasury tax policy adviser, said Jan. 29. “That doesn't seem on the table.”

The regulations (REG-136459-09), proposed in August, seek to resolve a long-standing debate between principals and contract manufacturers about which party can take the domestic production deduction under tax code Section 199 based on who owns the goods. Government officials have said they sought to write a rule that was clear to reduce controversy and increase administrability ( 166 DTR G-2, 8/27/15).

Objectivity Trumps Subjectivity

“What we're trying to do here is come up with a set of rules that makes it clear,” Beck said at the American Bar Association Section of Taxation midyear conference in Los Angeles. “The rules right now are very subjective.”

Critics say the proposal restricts contract manufacturers who don't sell the final product from taking the deduction.
They also say the rules shrink the benefit of the deduction—making it less costly to the government—by allocating it to contract manufacturers, who typically have lower profit margins than principals and thus can take smaller deductions.

Beck said revisions to the rules will likely address concerns that there could be situations where a contact manufacturer doesn't own the goods and therefore won't have a disposition to qualify for the Section 199 deduction.

If the proposed rules were to drastically change, they would likely come out as reproposed rules, Beck said.

Beck said he expects the Internal Revenue Service will release guidance about which party can take the deduction, and additional guidance about online software eligibility for the deduction, by September.

To contact the reporter on this story: Laura Davison in Washington at ldavison@bna.com
To contact the editor responsible for this story: Brett Ferguson at bferguson@bna.com