It’s been said that with the creative accounting techniques employed in Hollywood, no film produced there in the last three decades or so has shown a net profit.
I presume that this is done by padding expenses in the “Cost” column to wipe out any gross profit that’s been generated by a film’s ticket sales.
Now, I’m sure it’s an exaggeration that no film ever shows a net profit, but maybe not by much.
I have two questions:
How prevalent are these creative accounting practices in Hollywood?
Why doesn’t the IRS do a half-dozen or so audits of some big-name Hollywood producers and mete out some hefty fines to send a message to the industry as a whole to knock it off?
I’m not an expert on Hollywood accounting by any means, but as I understood, it usually isn’t done to defraud the IRS. If Studio A agrees to pay company D an exorbitant amount for some cameras, (and A and D are both owned by the same people,) then A may not show a net profit for the movie it’s making, but the IRS will get its cut from company D’s taxes.
The people who lose out are those who’ve agreed to work for points from A’s net profits, and they don’t have the same tools the IRS would have to tackle the studio.
It’s mostly used to screw over the people that get a share of the profit. The guy that played Biff in*** Back to the Future*** claims to have never received a penny in royalties from those films because on paper they “lost money.”
The rules that define accounting terms in a contract can differ wildly from IRS definitions. When one says that a film “never earned a profit”, they mean that the film never earned a profit according to the standards defined by that contract.
Essentially, it’s a means to screw people over.
Screenwriter working for net points: “How do you mean a $50 million film that grossed $350 million worldwide never made a profit?”
Studio Lizard: “Well, read your contract.”
“I did. Hey! It says that half of the overhead of Paramount pictures has to be added to the cost of the picture!”
“Well, there you go!”
“There’s no way in hell this thing can make money! Is Spielberg’s contract written this way?”
<chuckles> “Yeah… no. Of course it’s not. That’s why he’s worth $2.5 billion”
How do you distinguish between “income” and “profits”? If you mean income as the receipts of revenue on sales, then you are wrong, the IRS allows businesses to deduct expenses in determining their taxable income. If you mean income as the net amount after deducting the businesses expenses, then how is that different from profit?
In the US, we don’t have corporate profit tax. We have corporate income tax. Sure, some deductions are allowed, but certainly not all operating expenses. It’s not quite analogous to individual income taxes. I don’t get to deduct anywhere near all my actual personal living expenses.
And yes, this may result in a profitable company no longer being profitable after taxes. That’s why you often see figures like EBITDA - Earnings Before Interest, Taxes, Depreciation, and Amortization.
It’s a matter of how expenses are charged against the income. The studios follow IRS rules on the income, but their own on other expenses.
One of the big ones is interest costs, which is a charge against the gross by determining how much interest the budget of the film would have made if it were kept in an investment. Thus you would say the budget was $100 million and we would have earned $16 million in interest this year if we had it in an account (and yes, the interest rate they use has nothing to do with reality), so we’ll charge that against the gross. They don’t claim this on their tax forms, so the IRS has no beef. And every year, an additional $16 is deducted from any gross.
People have challenged this in lawsuits, but whenever a studio realizes it’s going to court, it offers millions to the plaintiff to drop the case. Since you are paying lawyers for the principle of the thing, few can resist the payoff.
(net) income is revenues minus expenses (or, for tax purposes, deductions)
(net) profit is also revenues minus expenses.
“After-tax” income or profit is, well, obvious.
If something is profitable, taxes won’t make it unprofitable, unless they tax 100% of the net income (which is unusual, but it has happened, at least in the UK.)
However, it might not be profitable enough to justify the investment, given the risk.
BTW, I doubt the OP’s claim. Anyone got a cite? Because investors invest in movies. If there was no profit, they wouldn’t. Paying back investors is not an “expense”.
Finally, if you’re an actor or whatever and want to share in the long-term profits, you do so by getting royalties on revenues, not “profits”, unless you’re either an idiot, or you have ways to make sure they can’t just make the profits disappear.
Commenters have pointed out that a lot of the “expenses” are actually being paid to other departments in the same company.
This actually might make a lot of sense in terms of internal financials–if the same company owns both the movie studio and the TV network, you still might want to keep track of commercial time you’re “buying.” But it can cause problems when you try and use your internal accounting practices for anything external.
I’ve done some accounting for the film business and one thing you have to understand is that the IRS profits and the contract profits are not calculated the same way. The contract profits are calculated in any way described by the contract; there’s no law that says you have to calculate residuals in any particular way. So the contract could say “You get 10% of the profits, calculated as gross box office revenue, less an estimated $20 expense per ticket sold.” They can’t (and don’t) do that with the IRS because the law specifies what is deductible and how. Plenty of films/companies show a profit on their tax returns.
I also agree about the multiple entities involved. The producer’s company gets $5 million dollars as an expense to the film. The producer will pay tax on that, but it can still make the film show a loss.
“Is Spielberg’s contract written this way?”
“Of course it is. All his contracts give the studio the same money yours does.”
“What? Doesn’t he complain?”
“Why would he complain? He owns the studio. That’s why he’s worth $2.5 billion.”
This illustrates what usually happens in Hollywood. People get screwed when they’re starting out. But if they’re successful they end up becoming part of that system and screw the newcomers.
I was manager of a chain restaurant years ago, and I was supposed to get a bonus based on store profit. Never did. Later found out the (married) franchise owner had an apartment for his trysts, paid out of my store’s income.
I should point out that even if the accounting is bogus to our eyes, and even if it does end up reducing their tax burden, this doesn’t make it fraudulent.
I mean, Carnival Cruise lines registering their huge ships in whatever podunk country that gives them the sweetest deal is pretty bogus too, but perfectly legal.
If Congress wanted to make it fraudulent, they probably could, but no doubt the movie companies would send lobbyists that would love to explain to them why it’s a bad idea over an all-expenses-paid steak and caviar dinner.
What’s wrong with actors’ agents that they negotiate contracts that give the actors percentages of profits that they know will never appear on paper? Why don’t they just get the best amount of money up front that they can negotiate?
Everyone, including the agents, are perfectly aware of what any particular actor’s negotiating strength is. These ARE the best deals they can get. Note that most Hollywood productions have to pay wages according to union contracts, so the actors get at least “scale” in cash.
MANY businesses, perhaps most publicly traded businesses, keep - perfectly legally - at least two sets of books - one for tax purposes that follows tax law - and one for GAAP. GAAP is slightly different accounting that tax and there are things you MUST do for tax that you don’t need to do for GAAP (depreciation schedules are a big one - or used to be, its been a long time since I did tax - with GAAP, you get some leeway in choosing, with Tax, its what the IRS tells you it is). On top of that, its possible that they’ll keep another set of books for internal reporting. If I’m a film company - its that third set of books that is the creative set that I use to pay percentage of profits out of.