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investment incentives and the U.S. tax laws because of
the important role it is believed they play in keeping
investment in the possessions competitive with
investment in neighboring countries. * * * [S. Rept.
94-938, at 277-278 (1976), 1976-3 C.B. (Vol. 3) 57,
315-316; H. Rept. 94-658 (1975), 1976-3 C.B. (Vol. 2)
945, 946-947; emphasis added.]
Thus, under both section 936 and its predecessor section
931, possessions corporations are and have been effectively
exempt from tax on income from possessions sources. This
exemption applied to income from intangibles created by such
corporation or acquired from an unrelated party. In 1982,
Congress added subsection (h) to section 936.7 Tax Equity and
Fiscal Responsibility Act of 1982, Pub. L. 97-248, sec. 213, 96
Stat. 452. Subsection (h) was added in order to lessen the abuse
caused by taxpayers claiming tax-free income generated by
intangibles developed outside of Puerto Rico. See H. Conf. Rept.
97-760, at 505 (1982), 1982-2 C.B. 600, 617.
Section 936(h)(1) provides that any income of an electing
corporation attributable to intangible property is deemed to be
the income of, and is taxable to, the shareholders of the section
936 corporation. Where income is derived from the sale of an
intangible possessions product, taxable income generally is
computed under section 936(b)(1)-(4). A section 936 corporation
7Sec. 936(h) was added to the Code in response to issues
raised in Eli Lilly & Co. v. Commissioner, 84 T.C. 996 (1985),
affd. in part, revd. in part and remanded 856 F.2d 855 (7th Cir.
1988). See H. Conf. Rept. 97-760, at 504 n.* (1982), 1982-2 C.B.
600, 617.
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