Tax Court - Section 199 deduction claimed by taxpayer that manufactured products under contract manufacturing agreements 

October 24: The U.S. Tax Court—in a case of first impression—addressed how section 199 applies to U.S. corporations that manufacture products through agreements with contract manufacturers.

Today’s opinion concluded that the taxpayer did not have the benefits and burdens of ownership of the direct advertising materials (that were printed under contract agreements) and thus that the taxpayer was not entitled to a deduction under section 199. ADVO, Inc. v. Commissioner, 141 T.C. No. 9 (October 24, 2013)

Read the Tax Court’s opinion [PDF 192 KB]


The taxpayer during 2005, 2006, and 2007 distributed direct mail advertising for its clients in the United States.

The clients either supplied the advertising material (which the taxpayer would include in the mailing envelope) or the taxpayer supplied the materials for distribution. When supplied by the taxpayer, third-party commercial printers were contracted by the taxpayer to print the advertising material.

The taxpayer asserted that its gross receipts attributed to its printed direct mail advertising and distribution products qualified as “domestic production gross receipts” under section 199.

The IRS countered that because the taxpayer contracted its actual printing out to third-party printers, it did not manufacture any qualifying production property.

The issue before the Tax Court was whether the taxpayer manufactured the advertising mailing packages or produced only intangible property used by printers to produce tangible personal property (i.e., the advertising mailing packages).

The Tax Court concluded that the taxpayer did not have the benefits and burdens of ownership of the direct advertising materials and was not entitled to the deduction under section 199.

KPMG observation

In reaching its decision, the Tax Court de-emphasized the importance of the taxpayer’s control over the manufacturing process and design, and instead placed greater emphasis on the fact that the taxpayer did not take title or risk of loss with respect to the printed materials (paper and ink) until after the completion of the printing.

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