Rev. Rul. 84-100

1984-2 C.B. 8, 1984-28 I.R.B. 4.

                       Internal Revenue Service
                                 Revenue Ruling

        INVESTMENT CREDIT;  MOTION PICTURE FILMS;  CAPITALIZED INTEREST

                            Published: July 9, 1984

Section 48. - -Definitions;  Special Rules [Investment Credit], 26 CFR 1.48-8:  Motion picture and television films and tapes.

  Investment credit;  motion picture films;  capitalized interest.  Because capitalized interest is not a component of general overhead, it is not a direct production cost and therefore, not a qualified United States production cost.

ISSUE

  Whether interest properly capitalized under section 266 of the Internal Revenue Code is a "qualified United States production cost" under section 48(k)(5) of the Code for purposes of the investment tax credit.

FACTS

  Taxpayer is engaged in the production and distribution of feature motion pictures.  Taxpayer uses the proceeds of borrowed money to finance a significant portion of the cost of producing its motion pictures.  Unless interest on these borrowings is treated as a direct production cost, less than 80 percent of taxpayer's direct production costs are allocable to the United States.

  Taxpayer has elected under section 266 of the Code to capitalize its interest costs and has allocated a portion of its interest costs to each film.

LAW AND ANALYSIS

  Section 38 of the Code provides that a credit against tax shall be allowed for investments in certain depreciable property.

  Section 48(k)(1)(A) of the Code provides that a credit shall be allowable under section 38 to a taxpayer with respect to any motion picture film or video tape only if such film or tape is new section 38 property that is a qualified film, and only to the extent that the taxpayer has an ownership interest in such film or tape.

  Section 46(a)(2) of the Code provides that the amount of the credit allowable under section 38 for the taxable year shall be an amount equal to the sum of certain percentages of the qualified investment.

  Section 48(k)(4)(B) of the Code provides that in the case of any qualified film in determining qualified investment under section 46(c)(1), there shall be used (in lieu of the basis of property) an amount equal to the "qualified United States production costs."

  Section 48(k)(5)(A) of the Code provides that, for purposes of this subsection, the term "qualified United States production cost," with respect to any film means direct production costs allocable to the United States, plus, if 80 percent or more of the direct production costs are allocable to the United States, all other production costs other than direct production costs allocable outside the United States.

  Section 48(k)(5)(B) of the Code provides that for purpose of this subsection, the term "production costs" includes--(i) a reasonable allocation of general overhead costs, (ii) compensation (other than participations described in clause (vi)) for services performed by actors, production personnel, directors, and producers, (iii) costs of "first" distribution of prints, (iv) the cost of the screen rights and other material being filmed, (v) "residuals" payable under contracts with labor organizations, and (vi) participations payable as compensation to actors, production personnel, directors, and producers.

  Section 48(k)(5)(B) of the Code also states that, with the exception of clauses (v), and (vi), these costs shall be taken into account only if they are capitalized.

  Section 48(k)(5)(C) of the Code provides that for purposes of this paragraph, the term "direct production costs" does not include items referred to in clauses (i), (iv), (v), or (vi) of subparagraph (B).  The term also does not include advertising and promotional costs and such other costs as may be provided in regulations prescribed by the Secretary.

  Section 1.48-8(f)(1) of the Income Tax Regulations provides that the term  "direct production costs" includes the following capitalized costs:  (1) compensation for services, (2) cost of preparing prints, (3) cost of equipment and supplies, (4) cost of costumes, (5) rental charges other than overhead, (6) cost of film editing, and (7) living allowances and travel expenses for personnel.  The term does not include any cost that is not includible in the term "production costs".

  The interest paid by the taxpayer is a cost of providing the capital to finance its films and is thus similar to a general overhead cost.  Under section 48(k)(5)(B), a reasonable allocation of general overhead is a production cost of a movie.  Similarly, the capitalized interest must be treated as a production cost, but is not a direct production cost, pursuant to section 48(k)(5)(C). Since less than 80 percent of the direct production costs are allocable to the United States, under section 48(k)(5)(A)(ii), the capitalized interest is not a qualified United States production cost.

HOLDING

  The interest capitalized by the taxpayer under section 266 of the Code is not a qualified United States production cost for purposes of the investment tax credit.

Rev. Rul. 84-100, 1984-2 C.B. 8, 1984-28 I.R.B. 4.