Tax Law

Was The 'Coyote vs. Acme' Movie Canceled For Tax Purposes?

Studios generally do not make movies just lto create tax write-offs. Wile E. Coyote had no comment. The Road Runner was traveling and unavailable for comment at press time.

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tax lawA few weeks ago, Warner Bros. (WB) announced that it was not going to release its recently finished movie “Coyote vs. Acme.” The movie is about Wile E. Coyote’s product liability lawsuit against Acme due to its constantly malfunctioning products, which I assume focused on their anvils and TNT explosives. The news disappointed many who hoped to see Acme in court to explain what inspired its name.

Many sources speculated that WB was doing it to get a tax write-off. But was that really the reason? Let’s look at how tax write-offs work in this situation. The explanation is very simplistic, and what really happened is much more complicated.

It should be noted that WB will get a tax write-off regardless of whether “Coyote vs. Acme” is released. The difference is how the tax write-off will be applied. If the movie is released, then the write-off will offset the ticket revenue and reduce its taxable income. If the movie is not released (or ends up being unprofitable), the write-offs will offset profits from WB’s other projects such as the summer hit movie “Barbie” or the best-selling (and controversial) video game “Hogwarts Legacy.” Also, claiming a tax write-off on a movie does not necessarily mean that it can never be released.

Studios generally do not make movies just to create tax write-offs. This is because only a portion of the income is taxed. In the case of “Coyote vs. Acme,” the studio has reportedly spent $72 million on production costs to date. Corporations are taxed at a flat 21% rate at the federal level along with a state income tax at a much smaller rate. By shelving the movie, WB will write off $72 million from its income with means it will save $15.1 million in federal taxes. As a tax shelter, spending $1 to save 21 to 30 cents in taxes makes no business sense.

In an extreme case, the IRS may wonder whether WB’s decision to shelve the movie disqualifies the company from taking any of the write-offs altogether. They may see this as a very large not-for-profit activity, more commonly known as a “hobby loss.” Net operating losses from hobby losses cannot be used to offset a corporation’s other income. Fortunately, the IRS regulations have set a very low bar for what constitutes a for-profit activity. Generally, this requires a profit motive which requires an examination of all of the facts and circumstances. But even a venture with a small chance of making a profit or even an unreasonable expectation of a profit is enough to establish a profit motive.

Studios generally shelve movies (even finished ones like this one) if they believe that the projected revenue will not be enough to justify additional spending. This could include various post-production costs, marketing, and royalties. To illustrate, the studio would rather eat a $72 million loss rather than spend an additional $150 million on a movie expected to earn $100 million at the box office resulting in a $122 million loss. While the tax savings are significant, it is probably not the main motivation for the decision. It is more like a consolation prize.

Studios may also shelve movies as an overall cost-cutting measure as a result of restructuring or a merger.

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Also, I assume studios do not make shelving decisions lightly as it would hurt their reputation. Top actors, directors, and producers would not want to spend their time on a movie if the studio is known for shelving them. And they would certainly not want to get involved a movie that is being promoted as a tax shelter, or they may one day get a call or a summons from a tax auditor.

Fortunately for Wile E. Coyote fans, due to the negative backlash, WB has decided to look for a buyer for “Coyote vs. Acme.” And the backlash may have also created positive publicity for the movie. This is about as unexpected as an Acme product working as intended.

Steven Chung is a tax attorney in Los Angeles, California. He helps people with basic tax planning and resolve tax disputes. He is also sympathetic to people with large student loans. He can be reached via email at stevenchungatl@gmail.com. Or you can connect with him on Twitter (@stevenchung) and connect with him on LinkedIn.

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