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Domestic Production Deduction Increases by 50% in 2010

In 2010, the domestic production deduction (DPD) will reach the highest percentage allowed per the American Jobs Creation Act of 2004, increasing from 6% to 9%. If a taxpayer falls within the 35% federal tax bracket, he or she can realize up to a 3% reduction in his or her tax liability; additionally, most states also allow the deduction (e.g., Illinois with its new higher rates). The DPD was enacted to encourage domestic manufacturing and other production activities, including construction and certain engineering and architectural services. 

For years beginning in 2010 and after, the DPD is the lesser of the qualified production activities income (QPAI) times 9% or the taxable income (modified adjusted gross income for individuals) for the year. Additionally, this deduction is limited to 50% of qualifying W-2 wages paid during the year. Qualifying W-2 wages can be complicated to calculate. However, there are alternative methods for a quick limitation calculation, take the “box 1” wages of qualified employees. Wages must be directly allocable to the domestic production gross receipts in order to be included in the calculation of the wage limitation. Therefore, if you outsource your production, your qualified wages could be zero and limit any deduction.

Please note for flow-through entities (S corporations, partnerships, and most LLCs) this deduction is calculated at the owner level and not the pass-through-entity level. However, each flow-through entity would need to provide detailed information to its owners to calculate any deduction.

Qualifying Activities

Qualified production activities that are performed in the United States that may qualify for this deduction generally include

• the manufacture, production, growth, or extraction of qualified production property in whole or in significant part by the taxpayer;
• the production of qualified film;
• the production of electricity, natural gas, or potable water;
• construction activities on real property;
• engineering or architectural services performed for construction projects of real property in the United States.

How to Calculate QPAI

QPAI is calculated as the amount equal to the excess (if any) of the taxpayer's domestic production gross receipts from qualifying activities less the sum of the cost of goods sold and other expenses, losses, or deductions that are properly allocable to such receipts.  

It is important to note that DPD is a deduction. If you have no taxable income, this deduction is not allowed. Also, if you carry back a net operating loss, this could also wipe out a prior-year deduction that wasn’t previously limited. 

To discuss how your business can benefit from the domestic production deduction and to make sure you are getting the maximum benefit, contact Mike Calahan at 312-980-2996, Cara Hoffman at 312-980-3274, or your Blackman Kallick representative. Our thanks to Kristen Dahl for her contributions to this article.

 

 

This publication is part of Blackman Kallick’s marketing of professional services, and is not written tax advice directed at the specific facts and circumstances of any person and/or entity. Contents of this publication are of a general nature, and you should not act on this information without obtaining professional advice from your business advisor that is appropriately tailored to your individual needs and circumstances. This written advice is not intended or written to be used, and cannot be used by any taxpayer, for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code.