In perhaps a surprising outcome, a district court has ruled that assembling gift baskets qualifies as manufacturing for purposes of the Section 199 Domestic Production Activities Deduction (or Section 199 deduction). The company produces gift baskets from purchasing items such as candy/chocolates, cheese, wine, crackers – all of which are produced by others and purchased by the taxpayer, then assembles these into the final product, which is a fully assembled gift basket.

Nevertheless, the U.S. District Court – Central District of California in United States v. Dean, 2013 WL 2255254 (C.D. Cal., May 7, 2013), concluded that these activities were not merely packaging and minor assembly, which would not qualify for the Domestic Production Activities Deduction, but rather, these steps changed the product into a new product or item for sale by combining these raw materials into the final gift basket. Thus, the revenues from sales of these gift baskets qualified for the Section 199 deduction.

This case could open up possibilities for other types of aggregation of items into a final product as qualifying income (QPAI), similar to the automobile example in the Section 199 regulations, which this court cited. Taxpayers who may have discarded a Section 199 deduction under the ‘minor assembly’ exclusion should examine their activities relative to the Dean case for potential 199 benefits. 

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