The IRS has interpreted Treas. Reg. Section 1.199-3(d)(1)(i) to allow a package of films to be treated as an item in Revenue Ruling 2018-03, 2018-2 IRB 1 (Dec. 1, 2017), thus resolving a conflict between a 2010 technical advice memorandum (TAM) and a 2016 TAM. The Ruling, which was primarily drafted by the Office of Associate Chief Counsel (Passthroughs & Special Industries), turned on whether the package of films was offered by the taxpayer for disposition to customers in the normal course of its business.

Background

Under Section 199 and its regulations, "domestic production gross receipts" (DPGR) includes gross receipts derived from a disposition of a qualified film produced by a taxpayer. Section 199(c)(4)(A)(i)(II); Treas. Reg. Section 1.199-3(a)(1)(ii). Whether gross receipts qualify as DPGR is determined on an item-by-item basis, in which the item is property that the taxpayer offers to customers for lease, rental, license, sale, exchange or other disposition in the normal course of its business.

The IRS had previously concluded in TAM 201049029 (see Tax Alert 2010-1803) (Sept. 7, 2010) that a programming package licensed by the taxpayer to its customers and composed of programs produced by the taxpayer and programs licensed from third parties was a single item for purposes of determining the taxpayer's domestic production activities deduction (DPAD) under Section 199. In TAM 201646004 (see Tax Alert 2016-1943) (Aug. 5, 2016), however, the IRS concluded that a video programming distributor could not treat a subscription package composed of television channel combinations as the item and must instead treat each individual program within the package as a single item for purposes of qualifying gross receipts as DPGR, fostering confusion amongst practitioners and taxpayers alike.

Facts

The facts of the Ruling are simple: taxpayer offers film packages comprising television channels for license to customers in the normal course of its business. The packages include programs produced by the taxpayer and programs licensed from third parties.

Analysis

By focusing on the specific property offered by the taxpayer for disposition in the normal course of its business, the Ruling seemingly acknowledged that an item is necessarily defined by reference to a taxpayer's actual business practices. As such, the Ruling (which did not cite or expressly discuss the 2010 and 2016 TAMs) tacitly rejected the reasoning set forth in TAM 201646004 — that an item is determined by the nature of the property being offered rather than the taxpayer's normal business practice.

Implications

Because Section 199 is repealed for tax years beginning after December 31, 2017, some might argue that the Ruling comes too late to help taxpayers claiming the DPAD for programming packages. That argument, however, fails to take into account that taxpayers can still claim the DPAD for their 2017 tax year and any open years in which they have qualifying production activities. Additionally, the Ruling applies to pending IRS examinations (including those that have been referred to the IRS's Office of Appeals), and possible future IRS examinations stemming from the compliance campaign announced by its Large Business and International Division in January of 2017, which focused on multichannel video programming distributors and television broadcasters claiming that groups of channels or programs constituted a qualified film under Section 199. For those taxpayers, Revenue Ruling 2018-03 provides welcome clarity and authoritative guidance to an area of the law that has seen little of either.

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