IRS addresses sec. 199 requirements for packaging manufacturer.

• Author: Meade, Kathleen

In November, the IRS Office of Chief Counsel released a memorandum (Chief Counsel Advice (CCA) 201246030) that clarifies how certain eligibility requirements for the Sec. 199 deduction apply to a packaging manufacturer. Most significantly, in addressing the "manufactured, produced, grown, or extracted" (MPGE) requirement outlined in the Sec. 199 rules, the memorandum concluded that the exception for packaging, repackaging, labeling, or minor assembly activities does not apply to disqualify the taxpayer's sales receipts from meeting the MPGE requirement under. Sec. 199. In addition to the MPGE issue, the IRS provided comments as to how the "in whole or in significant part" requirement outlined in the Sec. 199 rules applies to the taxpayer.

MPGE Requirement Satisfied

The taxpayer in CCA 201246030 derived gross receipts from providing medications to health care facilities. Essentially, the taxpayer purchased pills from third parties in bulk and repackaged the pills into blister packs that it manufactured from plastic polyvinyl chloride (PVC) and lidding material. Although the process did not result in any change in the pills' form or characteristics, the plastic PVC and lidding materials were transformed into blister packs as a result of the taxpayer's production activities (e.g., heating, molding, sealing, etc.).

Under Sec. 199, taxpayers may deduct a specified percentage of the lesser of (1) qualified production activities income (QPAI) resulting from specified domestic production activities; or (2) taxable income determined without regard to the Sec. 199 deduction. For 2010 and later tax years the specified percentage is generally 9% (Sec. 199(a) (1)). QPAI is defined in Sec. 199(c)(1) as domestic production gross receipts (DPGR) less cost of goods sold, expenses, losses, and other deductions allocable to such receipts.

With respect to producers of tangible property, Regs. Sec. 1.199-3(a)(1)(i) requires that DPGR be derived from qualifying production property (QPP) that is (1) manufactured, produced, grown, or extracted (2) by the taxpayer (3) in whole or significant part (4) within the United States. For purposes of complying with the MPGE requirement, Regs. Sec. 1.199-3(e)(2) specifies that packaging, repackaging, labeling, or minor assembly activities alone (i.e., with no other MPGE activities performed on the item) are insufficient to qualify as MPGE activities within the meaning of Regs. Sec. 1.199-3(a)(1)(i).

In concluding that the...