Section 199 Final Regs Issued

The IRS issued final regulations under the Tax Increase Prevention and Reconciliation Act of 2005 (TIPRA) amending provisions of the domestic production activities deduction of IRC § 199. The deduction for tax years beginning in 2008 is potentially 6% of the lesser of qualified production activities income (QPAI) or taxable income without regard to section 199 (adjusted gross income for an individual). The deduction is further limited to half of W-2 wages paid during the calendar year that ends in the tax year. The new regulations specify W-2 wages as those allocable to domestic production gross receipts (DPGR). It also provides safe harbors for determining the allocation under either a “wage expense method” or “small business simplified overall method.” Further, the regulations provide that in the case of a partnership or S corporation, such wages must be allocated among the partners or shareholders.

The final regulations also clarify that each member of an expanded affiliated group—or EAG, defined in IRC § 7874(c)(1)—must separately perform its own allocation of W-2 wages to DPGR before they are aggregated by the EAG. In addition, the regulations provide that to the extent a net operating loss (NOL) is used in the year it was sustained to determine a taxable income limitation under section 199, such NOL is not treated as an NOL carryover or carryback in determining the taxable income limitation in subsequent or previous years.

The regulations, issued as Treasury Decision 9381, took effect Feb. 15, 2008.