Understanding Sections 181 and 168: A Comprehensive Guide from Fred Siegel
by Carole Dean
In the world of independent filmmaking, navigating the financial landscape is as critical as crafting a compelling narrative. For indie filmmakers, understanding and leveraging tax benefits can make a significant difference in their financial stability and overall success in raising money for their projects.
Fred Siegel, an esteemed tax and business consultant for indie filmmakers, joined me as a guest on my The Art of Film Funding Podcast to offer invaluable insights into how sections 181 and 168 of the federal tax code can be used to maximize these benefits.
With over 30 years of experience working with renowned filmmakers and emerging talents alike, Fred’s expertise is a beacon for those seeking to optimize their film projects financially.
Section 181: A Game Changer for Film Funding
Section 181 of the Internal Revenue Code is a powerful tool for indie filmmakers, allowing for the immediate deduction of film production costs. Traditionally, film production costs are capitalized and deducted over several years, which means filmmakers often face a long wait before seeing any tax benefits.
“Section 181,” Fred explains, “is an accelerated deduction for film costs. It allows you to write off the costs you incur in a given year, which can be crucial for indie filmmakers who need to attract investors and manage cash flow.”
This accelerated deduction can transform a film project’s financial outlook by generating immediate tax losses that can be passed on to investors, thereby reducing their tax liability for that year.
Benefits for Investors and Filmmakers
One of the primary advantages of Section 181 is its potential to attract investors. By enabling investors to deduct film production costs in the current year, it significantly reduces their taxable income, providing a compelling financial incentive to invest in film projects. This immediate tax benefit is particularly attractive to investors who are looking to offset their income tax liabilities.
For filmmakers, Section 181 not only aids in attracting investment but also helps manage the financial risks associated with film production. It provides a means to offset the substantial costs of making a film by generating tax losses that can be used to counterbalance other income.
Taxable Income from Grants and Crowdfunding
Documentary filmmakers, in particular, benefit from Section 181 when it comes to managing taxable income from grants and crowdfunding. Typically, financing obtained through these sources is considered taxable income. Without Section 181, filmmakers would face a situation where they have taxable income without corresponding production costs to offset it. This could lead to an unexpected tax liability, reducing the effective budget available for the film.
Fred notes that with Section 181 “documentary filmmakers avoid having taxable income from grants and crowdfunding. This is critical for maintaining the financial health of a project, especially when dealing with non-traditional funding sources.”
Expiration of Section 181
As of now, Section 181 is set to expire for films that do not commence principal photography by December 31, 2025. This deadline is crucial for filmmakers to understand. It dictates the timeframe within which they must begin principal photography to take advantage of the benefits offered by this section.
“The term ‘commence,’” Fred elaborates, “is key here. It means the first day of principal photography, not just pre-production activities. Filmmakers need to ensure that their projects are in full swing by this date to benefit from Section 181.”
Grandfathering Provisions
For films that commence principal photography by the December 31, 2025 deadline, there is an opportunity to utilize Section 181 through what is known as grandfathering. This means that even if Section 181 expires, films that have met the commencement requirement can continue to benefit from the deductions.
“Grandfathering means that if your film starts principal photography by the deadline, you can still make the election and continue to use Section 181,” according to Fred. “However, it’s essential to understand that merely starting principal photography isn’t enough—you must also make the election correctly and on time.”
Potential Pitfalls and Misapplications
One of the key risks associated with Section 181 is the misapplication of its benefits. If the election is not made correctly or on time, filmmakers and investors may lose out on significant tax advantages. The election must be filed with the tax return for the year in which the film costs are incurred, and failure to adhere to this can result in losing the right to claim these deductions.
“If you fail to make the Section 181 election by the due date of the return including extensions,” Fred warns, “you lose the opportunity to benefit from the deduction. This can lead to substantial tax consequences and a loss of confidence from investors.”
Overview of Section 168: Backup Option for Indie Filmmakers
Section 168 provides an alternative to Section 181, particularly useful if the latter is not applied correctly or is unavailable.
Fred explains, “Section 168 can serve as a backstop to Section 181. It doesn’t have a dollar limit and allows for depreciation deductions. It doesn’t offer the immediate write-off benefits that Section 181 provides. For most indie films under $15 million, Section 181 is preferable.”
Application and Timing
One key difference between the two sections is the timing of the deductions. While Section 181 allows for immediate deductions, Section 168 requires that the costs be depreciated over the film’s useful life. This means that investors will not receive the same immediate tax benefits. Also filmmakers may face delays in seeing financial returns from their production costs.
Fred emphasizes that “for indie filmmakers, Section 181 is often more advantageous due to its immediate deduction benefits. However, Section 168 can still be a useful option if Section 181 is not available or applicable.”
Best Practices for Utilizing Tax Benefits: Early Involvement of Tax Professionals
To maximize the benefits of Section 181 and Section 168, it is crucial for filmmakers to involve tax professionals early in the process. This early involvement ensures that filmmakers and investors fully understand the tax implications and can make informed decisions about financing and production.
Fred advises, “Engage with a tax professional during the pre-financing stage. This is when key decisions about entity structure, financing, and tax elections are made. Waiting until tax returns are due is often too late to fully capitalize on these benefits.”
Proper Deal Structuring
Effective deal structuring is essential for leveraging tax benefits. This includes understanding the nature of the financing, the type of entity involved, and the specific requirements of each tax provision. Proper structuring can help ensure that the tax benefits are maximized and that potential risks are mitigated.
“Deal structure is as critical as budgeting,” he explains. “By understanding the implications of different financing structures and tax provisions, filmmakers can better manage their financial risks and optimize their tax benefits.”
Avoiding Common Misconceptions
There are several misconceptions about Section 181 and Section 168 that can lead to mistakes and missed opportunities. For example, the assumption that investors will automatically receive a write-off equal to their investment amount without considering actual production costs is a common error.
“The amount written off in the current year is based on the actual costs incurred,” he clarifies, “not the total amount invested. Misunderstanding this can lead to incorrect financial projections and investor dissatisfaction.”
Conclusion: Navigating the Financial Landscape of Indie Filmmaking
Navigating the financial aspects of indie filmmaking can be complex. But understanding and utilizing tax benefits such as those offered by Sections 181 and 168 can significantly impact a project’s success. By engaging with experienced tax professionals, structuring deals effectively, and avoiding common pitfalls, filmmakers can optimize their financial strategies and attract the investment needed to bring their creative visions to life.
Fred Siegel’s expertise provides invaluable guidance for indie filmmakers seeking to maximize their tax benefits. His insights into Section 181 and Section 168 underscore the importance of proactive financial planning and informed decision-making in the indie film industry.
As Fred aptly puts it, “The key to financial success in indie filmmaking lies in understanding the tools available to you and using them effectively. With the right guidance and preparation, filmmakers can turn tax benefits into a powerful asset for their projects.”
By leveraging these insights and adhering to best practices, indie filmmakers can navigate the financial landscape with confidence and achieve their artistic and financial goals.
Click here to get contact information for Fred Siegel.
Carole Dean is president and founder of From the Heart Productions; a 501(c)3 non-
profit that offers the Roy W. Dean Film Grants and fiscal sponsorship for independent filmmakers.
She is creator and instructor of Learn Producing: The Ultimate Course for Indie Film Production. Essential classes for indie filmmakers on how to produce their films.
She hosts the weekly podcast, The Art of Film Funding, interviewing those involved in all aspects of indie film production. She is also the author of The Art of Film Funding, 2nd Edition: Alternative Financing Concepts. See IMDB for producing credits
