In the past few years, tax legislation has changed the landscape for many manufacturing and distribution businesses in the United States (U.S.). With 2024 underway, uncertainty associated with an election year and the possible passage of additional tax legislation will begin to arise. It is crucial for manufacturing and distribution business owners to fully understand the legislation enacted over the last few years and its impact on their businesses so they can develop effective strategies to minimize tax liabilities.

Changes in tax law affecting manufacturing and distribution companies

• Code Section 174 research and development (R&D) costs: As of 2022, businesses must capitalize and amortize R&D expenditures over five years domestically and 15 years for foreign research. This was a shift from the previous immediate deduction or amortization options. The Internal Revenue Service (IRS)'s Notice 2023-63 clarifies aspects of this change, including cost allocation and amortization start dates.
• Code Section 41 research and experimental tax credit: This allows a reduced credit option without increasing taxable income, reflecting the reduced corporate tax rate to 21%.
• Code Section 168(k) bonus depreciation: Depreciation has been enhanced to 100% for certain assets with a phase-out starting in 2023 and fully ending by 2027. IRS guidance, like Rev. Proc. 2020-50, outlines accounting method changes for these rules.
• Code Section 45X advanced manufacturing production credit: This legislation offers credits for U.S.-made renewable energy components with a phase-out beginning in 2030.
• Code Section 48D advanced manufacturing investment credit: This change introduces a 25% credit for investments in semiconductor manufacturing facilities, applicable to property in service after 2022 and construction starting before 2027.

Looking ahead, the Tax Relief for American Families and Workers Act of 2024 (H.R. 7024), which has not been enacted yet, seeks to stimulate economic growth with key tax incentives. It extends 100% bonus depreciation for assets acquired before 2026 and increases Code Section 179 expensing limits beyond the Tax Cuts and Jobs Act (TCJA)'s adjustments. Additionally, the Act modifies Section 163(j) to extend the EBITDA-based interest deduction limitation through 2025, promoting greater liquidity. It also reinstates immediate expensing for domestic R&D, encouraging innovation. These changes aim to support business expansion and R&D investment by offering more favorable tax conditions. It is important to note that as of the date of this publication, this bill was passed by the House of Representatives but still faces an uncertain future in the Senate.

Using Domestic International Sales Corporations (DISCs) as a tax-saving strategy

For manufacturing and distribution companies engaging in international trade, the DISC remains a vital yet often underutilized tax-saving strategy. Established in 1971, the DISC framework aims to encourage U.S. exports by offering tax incentives for companies that export goods. Under this structure, a DISC acts as a separate corporation that promotes exports, allowing businesses to leverage tax advantages linked to export sales.

A DISC must be a U.S. C corporation that elects DISC status with the IRS. It is required to maintain its own financial records, bank account, and file separate tax returns. This delineation ensures that the DISC is recognized as an independent entity dedicated to managing export sales. The primary advantage of a DISC comes from its ability to convert a portion of export income, typically taxed at the corporate income rate (up to 37%), into qualified dividends. These dividends are then taxed at the lower capital gains rate (up to 20%), presenting significant tax savings. Companies determine their eligible export sales and calculate a commission to be paid to the DISC. This commission, fully deductible from the company's taxable income, is treated as revenue for the DISC. Subsequently, the DISC can distribute this income back to the parent company or its shareholders as a dividend, which is taxed at a lower rate.

Businesses can utilize one of two IRS-approved methods to compute the DISC commission – either a percentage of export sales or based on export gross receipts. These methods aim to maximize the tax benefits while adhering to regulatory requirements. Although the DISC offers substantial tax savings, it involves complex calculations, meticulous record keeping, and strict adherence to IRS rules. Companies must ensure accurate identification of export sales, proper calculation of commissions, and compliance with all DISC regulations to realize the tax benefits.

How Citrin Cooperman can help

Citrin Cooperman’s Manufacturing and Distribution Industry Practice is one of the leading practices in the country. Our dedicated team leverages specialized knowledge to provide a full range of professional services and industry insights to help companies achieve success. If your company needs assistance with implementing or interpreting the latest tax standards, please contact your Citrin Cooperman advisor or Paul Adelizzi at padelizzi@citrincooperman.com.