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Commissioner Files Opening Brief in Ninth Circuit Appeal of Altera

by | Jul 5, 2016 | , , , ,

In Altera Corp. v. Commissioner, 145 T.C. No. 3 (July 27, 2015), the Tax Court, in a unanimous reviewed opinion, held that regulations under Section 482 requiring parties to a qualified cost-sharing agreement (QCSA) to include stock-based compensation costs in the cost pool to comply with the arm’s-length standard were procedurally invalid because the US Deparment of Treasury and the Internal Revenue Service (IRS) did not engage in the “reasoned decisionmaking” required by the Administrative Procedures Act and the cases interpreting it. For a discussion of the Tax Court’s Altera opinion, see our prior On the Subject. The Commissioner of Internal Revenue (Commissioner) appealed this holding to the Ninth Circuit Court of Appeals; he filed his opening brief on June 27, 2016.

According to the Commissioner, the Tax Court’s holding was based on several related errors: (1) the Tax Court mistakenly concluded that promulgation of the QCSA regs required the IRS to engage in an “essentially empirical” analysis; (2) this led the court to apply the wrong standard; (3) in its analysis, the court relied heavily on its holding in Xilinx, Inc. v. Commissioner, 125 T.C. 37 (2005), that analysis of QCSAs must comport with the arm’s-length standard, meaning that a taxpayer can defend a QCSA by reference to comparable behavior between unrelated parties; and (4) the Tax Court failed to take into account that the finalization of the new QCSA regulations worked a “change in the legal landscape,” which should have altered the court’s analysis of the new regulations’ validity. Moreover, “the coordinating amendments [to the existing QCSA regulations] supersede [the Ninth Circuit’s] understanding of the arm’s-length standard as reflected in its own Xilinx opinion.” (more…)



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IRS Issues New Procedures to IRS Appeals for Requesting Assistance from Exam in Docketed Tax Court Case

by , , and | Jul 1, 2016 | , , ,

On June 24, 2016, the Internal Revenue Service (IRS) issued a memorandum (AP-08-0616-0003, available here) to the IRS Appeals Division (Appeals) providing new, uniform procedures for requesting assistance from the Examination Division (Exam) in docketed Tax Court cases. The guidance implements standard procedures that would treat petitioners similarly. Currently, when petitioners provide new information to Appeals that was not previously considered by Exam, Appeals requests Exam’s assistance based on local procedures, which sometimes result in disparate treatment of petitioners. The guidance is effective on August 29, 2016.

Under the new procedures, Appeals will send a request for Exam’s assistance if Appeals determines that the new information merits additional analysis or investigation. If Exam approves the request, an Exam Agent may recommend changes to the proposed adjustment, including an increase in tax, based upon the new information. Appeals, however, is not required to adhere to Exam’s recommendations. Where acceptance of the Exam Agent’s recommended changes results in a new issue or an increased deficiency, the IRS generally must bear the burden of proof on such changes from the notice of deficiency pursuant to Tax Court Rule 142. If Exam denies the request, Appeals will consider settlement offers based on all information in the case file, and the probative value of the new information.

 



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Tax Bar Has Serious and Substantial Comments to the Proposed IRC Section 385 Regulations

by and | Jul 1, 2016 | , ,

On April 4, 2016, the Internal Revenue Service and the US Department of the Treasury issued proposed regulations pursuant to Internal Revenue Code (IRC) section 385 addressing whether an interest in a related corporation is treated as stock or indebtedness for US federal income tax purposes (Proposed Regulations). On June 29, 2016, both the DC Bar Taxation Section and the New York State Bar Association Tax Section submitted comments on the Proposed Regulations. Both Tax Sections urged Treasury not to finalize the Proposed Regulations. The DC Bar Taxation Section letter can be found here and the New York State Bar Association Tax Section letter can be found here.

The Proposed Regulations have been met with substantial criticism by the tax bar and taxpayers alike. The Proposed Regulations would have a significant impact on intercompany debt of multinational groups and could, if finalized in their proposed form, force major changes in the way that taxpayers conduct routine business.



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CbC Reporting Is Here to Stay! Treasury Issues Final Regs

by | Jun 30, 2016 | , ,

As anticipated in our earlier post, Country-by-Country (CbC) reporting is finally here! On Wednesday, the US Department of the Treasury released final regulations for CbC reporting, effective June 30, 2016. The final regulations apply to any US person who is the “ultimate parent” of a multinational enterprise group that has annual revenue for the preceding year of at least $850 million. For tax years beginning after June 30, 2016, taxpayers subject to the final regulations will be required to file a new Form 8975 Country-by-Country Report with their US federal income tax returns. CbC reporting will likely change the disclosure landscape for entities operating in multiple countries.



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Tax Court Rules in Favor of Medtronic in Transfer Pricing Case Against IRS

by and | Jun 10, 2016 | , , ,

At least a partial taxpayer victory in the Medtronic case, T.C. Memo. 2016-112. The Tax Court held that Medtronic met its burden of showing the Internal Revenue Service (IRS) abused its discretion by  making arbitrary and capricious Internal Revenue Code (IRC) Section 482 reallocations with respect to taxable income of Medtronic’s Puerto Rico subsidiary. It further concluded that the IRS’s use of the comparable profits method is not required under the IRC Section 482 commensurate with income standard. Although the Tax Court found the taxpayer’s royalty rates established using the comparable uncontrolled transaction method to be unreasonable, the court undertook to determine the proper allocations itself, and made two significant adjustments to the taxpayer’s royalty rates. Finally, the court rejected the IRS’s alternative allocation that intangibles were transferred under IRC Section 367(d).



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IRS Publishes Another IPU on Transfer Pricing

by and | Jun 8, 2016 | , ,

The Internal Revenue Service (IRS) continues to publish International Practice Units (IPUs) on transfer pricing.  As explained in our prior post, the IRS has provided guidance on the three requirements to come within the transfer pricing rules in IRC section 482.  The IRS continues to expend its limited resources on international tax issues, arming its field agents with extensive directions on how to audit transfer pricing issues.  It is clear that international tax issues are and will continue to be the focus of IRS agents in auditing multinational entities.



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ABA Seeks Priority Guidance for Transfer Pricing Issues

by | Jun 7, 2016 | , ,

The ABA recently issued comments to the IRS and Treasury regarding the new temporary regulations issued in TD 9738 concerning the aggregation of controlled transactions, under Section 482, which broaden (“clarify”) the scope of intangible value, to include “all the value provided” from a controlled transaction, and such other transactions that may occur before, during or after, that are so interrelated, as to require aggregate consideration. See attached. While the IRS does not explicitly mention goodwill or going concern—except by reference in one example—the regulations are intended to sweep in the consideration of any goodwill, including synergy, value that may relate to such transactions.

Given the inherent difficulty, and the persistent controversy, as exhibited in the past (i.e., the Veritas and Amazon cases) and as certainly more is yet to come (BEPS) in attempting to determine the value of intangibles generally, let alone goodwill, for the sake of good tax administration, the IRS would do well to provide more concrete/ explicit definitions, or at least boundaries, as to what or when this “extra” value may, or may not, be likely to apply.

This broader scope of consideration is now likely to make it easier for the IRS to recast transactions on economic substance or realistic alternatives grounds, leading to more controversy and disputes, not just with taxpayers, but with foreign governments as well.



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Proposed Code Sec. 367 Regulations Attempt to Tax Foreign Goodwill and Going Concern Value

by | Jun 3, 2016 | , ,

The transfer of foreign goodwill and going concern value by a domestic corporation to a foreign subsidiary for use in a trade or business outside the United States has never been subject to taxation under Code Sec. 367. Without any legislative change, the Internal Revenue Service and the Treasury in proposed regulations would seek to tax such transfers.

In his recent article in the International Tax Journal, Lowell Yoder, global head of McDermott’s Tax Practice, discusses the sweeping changes proposed under the new 367 regulations and the problems posed by the IRS’ approach.  He recommends that the IRS withdraw the proposed regulations, which go far beyond (and actually contradict) legislative intent.

Read the full article.



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IRS Releases Practice Unit on Residual Profit Split Method

by and | May 6, 2016 | , ,

On March 7, 2016, the Internal Revenue Service (IRS) released a new International Practice Unit (IPU) on a specific transfer pricing method—the residual profit split method (RPSM).  The IPU explains to IRS examiners how to determine if the RPSM is the “best method” under Section 482, and if so, how to apply such method between a US parent and its controlled foreign corporation in a transaction where intangible property is employed.  As stated in a previous post, IPUs generally identify strategic areas of importance to the IRS but they are not official pronouncements of law or directives and cannot be used, cited or relied upon as such.  However, taxpayers should benefit from reviewing IPUs, as they reflect the current thinking of the IRS on pertinent issues, and therefore allow taxpayers to structure and document their transfer pricing arrangements in a manner that is consistent with such thinking, as noted in a prior post available here.

Section 482 was designed to prevent the improper shifting or distorting of the true taxable income of related enterprises.  Section 482 accomplishes this by requiring that all transactions between related enterprises must satisfy the arm’s length standard.  That is, the terms of intercompany transactions generally must reflect the same pricing that would have occurred if the parties had been uncontrolled taxpayers engaged in the same transaction under the same circumstances.  One of several possible transfer pricing methods for determining whether a transaction meets the arm’s length standard is the profit split method.  One specific application of the profit split method is the RPSM.  This IPU focuses on the application of the RPSM as it applies to outbound transactions involving intangible property.

The IPU outlines four steps for IRS examiners to follow in determining whether the RPSM is the best method to evaluate a controlled transaction and if so, how to apply the RPSM to that particular transaction.

  1. Identify the routine and nonroutine contributions made by the parties. The IPU cautions that if there are no nonroutine contributions, or if only one controlled taxpayer is making nonroutine contributions (most commonly of intangibles), then the RPSM should not be used.  The IPU provides three examples of when the RPSM may be used:  (a) a tangible goods sale if the seller uses nonroutine manufacturing intangibles to make the goods, and another controlled party purchases and resells the goods using its nonroutine marketing intangibles; (b) a licensing transaction where one controlled party licenses nonroutine manufacturing intangibles to a second controlled party, who then manufactures goods using those manufacturing intangibles and sells the goods using its own nonroutine marketing intangibles; and (c) a commercial sale of software product, if two controlled parties each contribute nonroutine software intangibles to manufacture the product, and the controlled parties share the revenue from the sales.
  1. Determine if the RPSM is the best method. The RPSM is the best method only if it provides the most reliable measure of an arm’s length result.  The IPU cautions that the RPSM should [...]

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Tracy Gomes Appointed to Chair of ABA Transfer Pricing Committee

by | May 5, 2016 | , ,

We are proud to congratulate our Dallas colleague, Tracy Gomes, McDermott’s chief economist in transfer pricing, upon his appointment as chair of the American Bar Association Transfer Pricing Committee.  This position provides the opportunity to propose issues and comments, and to have access to US tax officials in the Internal Revenue Service and Treasury Department as part of the ABA’s leadership committee.  It expands upon McDermott’s already substantial knowledge, reputation and experience in the transfer pricing arena—an increasingly important area of IRS attention and focus.

This appointment reflects recognition of McDermott’s professionals as thought leaders in transfer pricing, as well as our commitment to furthering the collective knowledge-base, understanding and application of reasoned and cogent tax administration, and role in the shaping of tax policies, particularly in light of the changing international tax rules brought about by the Organisation for Economic Co-operation and Development’s (OECD) Base Erosion and Profit Shifting (BEPS) action items.



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