Section 199 – Online Software Ruling – Domestic Manufacturing Deduction

The IRS has recently ruled in GLAM – General Legal Advice Memorandum 2014-008 that a banking taxpayer who provides an app to access a customer’s bank accounts did not meet the exceptions to the Section 199 Domestic Production Activities Deduction online software regs and thus, online software does not qualify for 199; in this case the app or a portion of revenues associated with banking services using that app did not qualify as qualified production activities income under Section 199.

The taxpayer, a bank, allows customers to download the app for use in mobile banking, although a separate fee was not charged. First, the IRS ruled that although there was a software download, this did not meet the intent behind the ‘downloadable software’ rule in the online software regs because the online banking app didn’t have any functionality without having a connection to the Internet and to the bank’s servers. The IRS contrasted Example 4 in┬áReg. sec. 1.199-3(i)(6)(v) where there was a qualified disposition of the software because the tax preparation software in Example 4 could work without a connection to the Internet (stand-alone).

Secondly, the taxpayer’s argument that there was comparable third party software that performed identical functions from competitors that was licensed and downloaded for a fee did not persuade the IRS. Thus, having no comparable software per the IRS, the taxpayer failed to meet the online software exceptions of Section 199 and Regs.


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