Last week we looked at the definition of revenue, assets and capitalization of an IC DISC. See IC DISC Basics – Defining IC DISC Revenue, Assets & Capitalization Today, we turn our focus to defining qualified export property.
How do we define qualified export property?
Under Internal Revenue Code Section 993 (c) (1), export property is defined using three components: Export property means property that is,
(A) manufactured, produced, grown, or extracted in the United States by any person other than a DISC,
(B) held primarily for sale, lease, or rental, in the ordinary course of trade or business, by, or to, a DISC, for direct use, consumption, or disposition outside the United States, and
(C) not more than 50 percent of the fair market value of which is attributable to articles imported into the United States.
What does not qualify as export property?
Understanding what has been excluded specifically from the definition of qualified export property is as important as understanding the definition. So, under IRC Section 993 (c) (2), excluded property includes property that;
(A) property leased or rented by another member of the controlled group that includes the DISC,
(B) patents, inventions, models, designs, formulas, or processes, whether or not patented, copyrights, goodwill, trademarks, trade brands, franchises or other like property,
(C) Products that allow depletion (such as oil, gas coal and uranium products),
(D) Products where export is prohibited or curtailed under section 7(a) of the Export Administration Act of 1979, or
(E) Any unprocessed timber which is a softwood.
What is a substantial transformation and what is its relationship to the term “manufactured”?
Substantial transformation is a term found in the IC DISC regulations under 1.993-3(c)(2)(ii). Simply, property is considered manufactured or produced if it is substantially transformed by an individual. Additionally, the regulations provide a second more definitive test that provides for a property to be ‘manufactured or produced’ by a person if the value added due to conversion costs to the property equals or exceeds 20 percent of the cost of goods sold or inventory amount.
What is the destination test?
As we have discussed, a product must be exported in order to qualify for IC DISC treatment (thereby being qualified export property). The destination test provides rules for both determining when a property is an export sale and the type of documentation. Simply, a product must leave the US and be delivered to an unrelated third-party (unrelated person or company) within one year of the sale by the producer of the property.
It is worth noting that some countries are embargoed and exports to these countries will disqualify an export sale. The list as of 12/31/2011 provided by the US Treasury can be found here.
In terms of documentation, shipping documents, reports filed with US Customs and other documents that confirm the destination will be accepted. It is important to note that the Regulations also allow for other types of documentation including letters from shippers that confirm the destination. Interestingly enough, the name of the receiving party does not need to be disclosed on the documentation.
In our next article on IC DISC Basics
Next week we will drill down a bit deeper on qualified export property and discuss some of the more detailed rules and definitions including foreign content, applying the 50 percent test and fair market value…..See you next week.
What say you my friends?
Do your shipments qualify as qualified export sales?
Have you considered markets outside the US as potential new opportunities?
Other than exporting products, are there other tax incentives you may be eligible for?
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Randy Eickhoff, CPA is President of Acena Consulting. With more than 20 years of tax and consulting experience, Randy focused on helping companies successfully document and secure tax incentives throughout the US. He has been a long-time speaker nationally as well as conducted numerous training sessions on R&D tax credits and other US tax incentives.