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It’s the final product that counts


A business’s tax deduction hinged on whether assembling a gift basket was merely a packaging activity or was actually producing a distinct product.

A federal district court in California has determined that the 9 percent domestic production activities deduction (DPRD) is available to a corporation whose production process involved packaging gift baskets of various food and wine items.

To qualify for the DPRD, the company must be engaged in the lease, rental, license, sale, exchange or other disposition of qualified production property (including tangible personal property and computer software) manufactured, produced, grown or extracted (MPGE) by the taxpayer in whole or in significant part within the United States.

Under the regulations, MPGE includes manufacturing, producing, growing, extracting, installing, developing, improving and creating qualified production property. It also includes manipulating, refining or changing the form of an article, or combining or assembling two or more articles.

However, activities do not qualify as MPGE if the business packages, repackages, labels or performs minor assembly of qualified production property and engages in no other MPGE activity with respect to that property.

In this case, the company designed, assembled and sold gift baskets. The production process included selecting the basket and the items, such as candy or wine, to be placed inside. The gift baskets were shrink-wrapped and decorated with bows.

The IRS asserted that the company merely packaged and repackaged the items in its gift baskets and was not entitled to the DPRD. The court found that the activities qualified as MPGE.

The court determined that the company’s production process may qualify as manufacturing or producing but may also be packaging or repackaging (a nonqualified activity). The court found that the company’s production process produced a final product that is distinct in form and purpose from the individual items inside (United States v. Timothy J. Dean, et. al., 112 AFTR 2d 2013-5164, May 7, 2013).

Essentially, the court concluded that the company produced a new product with a different market demand than the individual components.

©2013 CPAmerica International


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