Narrow Treatment of Commodity-Based Activities Sought in QBI Regs

September 11, 2018

Internal Revenue Service
CC:PA:LPD:PR (REG-107892-18)
Room 5203
P.O. Box 7604
Ben Franklin Station
Washington, DC 20044

Dear Sirs:

We submit the following as comment for consideration in the regulatory matter noted above.

Overview

A trade or business dealing in commodities is among the businesses considered a specified service trade or business (SSTB). The proposed regulations appear to treat two types of commodity-based business activities as SSTBs: Regularly purchasing commodities from and selling commodities to customers in the ordinary course of a trade or business; and regularly offering to enter into, assume, offset, assign, or otherwise terminate positions in commodities with customers in the ordinary course of a trade or business.

Taxpayers who purchase corn or wheat for storage often resell the corn or wheat soon after acquisition, reducing their risk. Their primary business, however, is storage. Other taxpayers may take ownership and possession of corn or wheat for the short period of time that it takes to transport the commodity to the ultimate buyer. Yet other taxpayers acquire ownership for the short period of time that it takes to grade, sort, and package commodities.

We fear the commodity-based business activities will be interpreted in an overly broad manner.

Recommendation

Taxpayers acquiring physical possession of commodities prior to resale, usually performing an activity on the commodity, should not be classified as an SSTB. Proposed Treas. Reg. § 1.199A-5(b)(2)(xiii) should be limited to taxpayers taking paper ownership (financial instruments representing potential ownership in the commodity) and not apply to those taking physical possession.

Analysis

The intent of section 199A is to provide a reduction in the tax rates for a trade or business the income of which is a return on invested capital. The tax rate reduction is not available for SSTBs, which ostensibly are businesses that provide services within the defined categories listed in section 1202(e)(3)(A), plus additional defined categories, one of which includes dealing in commodities. All specified categories are introduced as those that involve the performance of services. The activity of dealing in commodities should be viewed as an activity similar to that of dealing in financial instruments or regularly exchanging corporate or partnership equity and debt. That is, the dealing of commodities should be limited to the dealing in financial paper as derivatives of commodities (which are actively traded on recognized exchanges).

The business that acquires physical possession of the commodity does more than the service of bringing together buyers and sellers of interests in such property. These businesses invest significant capital to store, grade, sort, and haul the commodity before its sale. The primary business is something other than bringing buyers and sellers together. Businesses acquire and re-sell goods. Those who perform additional activities on the goods upon taking physical possession are deploying physical capital. The dealing is not in derivatives of commodities, but in actual commodities. The businesses do not take paper ownership in the commodity, but acquire physical possession.

We note that only commodities actively traded on recognized exchanges are subject to the SSTB status. This implies a distinction between physical possession and paper ownership of the commodity. The SSTB status should be narrowly defined to exclude the taxpayer that tax physical possession, directly responsible for the quality of the commodity during that possession.

Questions may be addressed to Paul Neiffer, CPA (paul.neiffer@CLAconnect.com) or Rod Mauszycki, JD, MBT (rod.mauszycki@CLAconnect.com). Thank you for your consideration.

Sincerely,

Paul G. Neiffer, CPA 
1110 N. Center Parkway
Kennewick, WA 99337 
509-823-2920

Rod A. Mauszycki, JD MBT
220 South Sixth Street, Suite 300
Minneapolis, MN 55402
612-397-3076

CliftonLarsonAllen LLP
Minneapolis, MN