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On December 20, 2019, the President signed into law The Tax Extender and Disaster Relief Act of 2019, a tax extenders bill that included an extension of IRC Section 181 through December 31, 2020. IRC Section 181 permits taxpayers to deduct up to $15M ($20M in certain low-income areas) of qualifying film and television production costs as they are incurred. To qualify, IRC Section 181(d) requires at least 75% of certain production compensation costs to be incurred in the United States.

The new law is effective for productions commencing after December 31, 2017, which means there is no time gap in IRC Section 181's applicability. The retroactive effective date raises questions regarding IRC Section 181's application to the 2018 tax year because IRC Section 181 is an election and elections usually cannot be made on an amended tax return. Accordingly, it is not clear how taxpayers can use it for 2018 costs. We expect the IRS to provide guidance on the application of IRC Section 181.

Given that there is now bonus depreciation for qualifying IRC Section 181 content, the significance of IRC Section 181 being reinstated is that qualifying productions may deduct the first $15M of potentially capitalizable costs (including development costs) as they are incurred and any remaining costs, in excess of $15M, would be recovered through bonus depreciation when the content is placed in service (i.e., upon exhibition). Neither IRC Section 181 nor bonus depreciation apply to licensed content or foreign productions, nor to acquired films that have already been placed in service.

IRC Section 181 also only applies to an amount that has been "incurred" which means that each element of IRC Section 461 must be satisfied (i.e., fixed, determinable and economic performance). Thus, a prepayment for services would generally not be incurred if the services have not been performed. Additionally, neither IRC Section 181 nor bonus depreciation applies to participations and residuals (P&R). Taxpayers that owe P&R cannot deduct such costs until payment unless they make an election provided in IRC Section 167(g)(7)(A) under the income-forecast method to capitalize and depreciate. The ability to use the income forecast method for P&R is an exception to the general tax treatment, which requires an item to satisfy the requirements of IRC Section 461, including economic performance, before it can be included in basis and depreciated. P&R is deferred compensation and would typically, outside of this exception, not be deductible until paid under IRC Section 404 because economic performance is not met until payment.

We will keep you updated on the status and any guidance on the application of IRC Section 181. Please let us know if you have any questions.

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