The Domestic Production Activities Deduction (DPAD), also called the Section 199 Deduction, offers U.S. based manufacturing companies a chance for a significant tax credit. The current deduction is 9 percent of the lesser of their taxable income or their income resulting from qualified production activities for the tax year. However, when a company has multiple lines of business, the DPAD calculation can be complex.


Taxpayers may qualify for this deduction if they in whole or in significant part manufacture, produce, grow, construct, engineer, or conduct other activities within the Unites States. Activities that are merely sales or service-related generally do not qualify for this deduction.


What activities qualify for the Domestic Production Activity Deduction?
A business engaged in the following lines of business may qualify for the deduction. Under Internal Revenue Code Section 199, "qualified production activities" eligible for claiming the deduction include:

  • Manufacturing based in the United States,
  • Selling, leasing, or licensing items that have been manufactured in the United States,
  • Selling, leasing, or licensing motion pictures that have been produced in the United States,
  • Construction services in the United States, including building and renovation of residential and commercial properties,
  • Engineering and architectural services relating to a US-based construction project,
  • Software development in the United States, including the development of video games.


What activities are excluded from the Domestic Production Activity Deduction?
The following lines of business are specifically excluded from claiming the deduction:

  • Construction services that are cosmetic in nature, such as painting.
  • Leasing or licensing items to a related party.
  • Selling food or beverages prepared at a retail establishment.


What us the Safe Harbor rule?
The Domestic Production Activities Deduction is limited to income arising from qualified production activies in whole or significant part based in the United States. Under a "safe harbor" rule (IRS Proposed Regulations 1.199.3.f.3), businesses can take the deduction if at least 20 percentof the total costs are the result of direct labor and overhead costs from US-based operations.

If any part of manufacturing or production activities is outside the United States, then businesses must use either the safe harbor rule (at least 20% of total costs are from US-based production activities) or allocate costs using the facts and circumstances of their business.

DOMESTIC PRODUCTION ACTIVITY DEDUCTION (DPAD)

Benefits of DPAD Tax Credit

  • Is the second largest domestic corporate tax break
  • A business with “qualified production activities” can take a deduction equal to 9 percent of related income.
  • Effectively, the deduction gives a 3.15 percent lower rate for qualifying business income (9 percent deduction times 35 percent statutory rate = 3.15 percent).

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