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Loss from Sale of Equipment Used to Generate DPGR Didn't Affect QPAI

(Parker Tax Publishing October 2016)

The IRS Office of Chief Counsel concluded that even though equipment a taxpayer used to produce qualified production property (QPP) generated domestic production gross receipts (DPGR), the equipment itself was not QPP and thus a loss on its sale did not reduce the taxpayer's qualified production activities income (QPAI) for purposes of calculating the Code Sec. 199 deduction. CCA 201642033.

Under the facts of CCA 201642033, a taxpayer purchased equipment and solely used it for three years to produce qualified production property (QPP), the sales of which generated domestic production gross receipts (DPGR). Depreciation of the cost of the equipment was capitalized to the QPP. In the third year, the taxpayer sold the equipment for less than the property's adjusted basis at the time of the sale, generating a loss.

Senior counsel for the IRS requested advice from the IRS Office of Chief Counsel (IRS) on whether the loss on the sale of the equipment reduced the taxpayer's qualified production activities income (QPAI).

The domestic production activities deduction (DPAD) under Code Sec. 199 is, in general, equal to 9 percent of the lesser of a taxpayer's QPAI or taxable income. The QPAI of a taxpayer is equal to its domestic production gross receipts (DPGR) less certain expenses, losses, or deductions allocable to that DPGR, including the costs of goods sold (COGS). Code Sec. 199(c)(4)(A)(i)(I) defines DPGR, in part, as the gross receipts of the taxpayer that are derived from any lease, rental, license, sale, exchange, or other disposition of QPP which was manufactured, produced, grown, or extracted (MPGE) by the taxpayer in whole or significant part within the U.S.

The IRS noted that pursuant to Reg. Sec. 1.199-4(b)(1), the taxpayer's costs of goods sold included the adjusted basis of the taxpayer's equipment when it was sold. However, the IRS concluded that even though the equipment was used to produce QPP and the gross receipts from sales of that QPP were DPGR, the taxpayer's gross receipts from the sale of the equipment were non-DPGR because the equipment was not QPP that was MPGE by the taxpayer. Accordingly, the IRS advised that the COGS from the sale would be allocated solely to the taxpayer's non-DPGR and that therefore the loss will not reduce the taxpayer's QPAI for purposes of calculating the domestic production activities deduction.

For a discussion of domestic production gross receipts, see Parker Tax ¶96,110.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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