The U.S. corporate tax rate has historically been among the highest in the world. The DPAD (domestic production activities deduction) was created by Congress years ago to help even out the playing field between American manufacturers and their competitors operating in countries with lower tax rates.
Before the Tax Jobs and Cuts Act (TCJA), C corporations and pass-through entities (including sole proprietorships, partnerships, limited liability companies treated as sole proprietorships and partnerships for tax purposes, and S corporations) were eligible for the DPAD. DPAD allowed businesses to claim a federal income tax deduction that equaled a percentage of the taxable income earned from eligible manufacturing and production activities conducted within the United States and Puerto Rico.
While the TCJA lowers tax rates for many businesses, it came with tradeoffs: the DPAD was repealed for tax years starting in 2018 and beyond. Your last chance to claim the DPAD for your business was the 2017 tax year. However, even if you already filed your federal income tax return for 2017, or realize that you should have taken advantage of DPAD in earlier years, you may be able to file amended returns and collect refunds. Here’s what you need to know in order to take advantage before you lose the opportunity to claim it.
The DPAD is allowed for both regular tax and AMT purposes under Section 199 of the tax code. It generally equals 9% of the lesser of:
- Qualified production activities income (QPAI) for the year, which is delineated as domestic production gross receipts (DPGR) minus the cost of goods sold and any other expenses allocable to DPGR, or
- Taxable income for the year determined without counting the DPAD.
Domestic production gross receipts (DPGR) are gross receipts from the manufacture, production, growth or extraction of qualifying production property (QPP).
For taxpayers with oil-related QPAI, the DPAD rate is reduced to 6%. That would be income that is attributable to the production, transportation or distribution of oil and gas.
Furthermore, the DPAD write-off cannot exceed 50% of your business’s Form W-2 wages allocable to DPGR for the year.
Domestic production activities in Puerto Rico also qualify for the DPAD for the first 12 years of business for tax years beginning in 2006 through 2017.
Close-Up on DPGR
When calculating the DPAD, there are a lot of acronyms to keep straight. Domestic production gross receipts (DPGR) is a critical one— it functions as the base for calculating income from qualified production activities.
Fortunately, the definition of DPGR is broad. It includes gross receipts from the lease, rental, license, sale, exchange or other disposition of the following:
Domestic tangible personal property. Specifically, this property must be manufactured, produced, grown or extracted by your business in whole (or significant part) in the United States. In 2007, the IRS ruled that a partnership engaged solely in the extraction and processing of minerals within the United States was eligible for the DPAD.
Other examples of qualifying tangible personal property include:
- Computer software,
- Sound recordings,
- Printing presses,
- Transportation equipment,
- Office equipment,
- Grocery counters,
- Testing equipment,
- Display racks and shelves, and
- Signs that are contained in or attached to a building.
In addition, machinery — excluding structural components of a building — counts as qualifying tangible personal property. For example, even if they’re attached to the ground, gasoline pumps, hydraulic car lifts, and automatic vending machines count as qualifying tangible personal property. But tangible personal property does not include land, buildings, inherently permanent structures or land improvements.
Domestic film productions. To qualify as DPGR, at least 50% of the total compensation associated with the production of a film must be for specified production services (such as acting, directing or producing) performed in the United States.
Domestic production of electricity, natural gas or water. However, transmission or distribution of these commodities is specifically excluded from DPGR.
Domestic construction or substantial renovation of U.S. real property. This includes residential and commercial buildings and infrastructures, such as roads, power lines, water systems and communications facilities.
Domestic civil engineering and architectural services. These activities must be performed for construction projects in the United States.
Domestic farming. These activities include growing and selling agricultural products and food in the United States.
Domestic processing of agricultural products and food. This doesn’t include the sale of food and beverages prepared at a retail establishment.
Last Chance to Save
You may not have known about the DPAD or how many different business activities can possibly qualify for this tax break, but you still have time to file amended returns and collect tax refunds for the 2017 tax year and before. For more information on the DPAD, consult your tax advisor.