Page 7 - Altera And Cost-Sharing Requirements Under Section 482 By Jerald David August

event, that is, a transfer of an intangible that could occur, for example, when a participant joined or left a cost sharing arrangement. The regulations defined a “qualified cost sharing arrangement” (QCSA) involving “eligible participants.” A QCSA was required reflect a “rea- sonable effort” to allocate costs and risks among the eligible participants in pro- portion with each participant’s reason- ably anticipated benefits from the intangibles ultimately produced and commercial exploited. Whether the tax- payer’s method of allocating profits and costs with respect to a CSA was “rea- sonable” was to be determined based on all facts and circumstances.29 The 1992 proposed regulations included a broad principle to be applied in all cas- es was whether uncontrolled taxpayers exercising sound business judgment would have agreed to the same terms in the same circumstances. In particu- lar, the proposed regulations provided that so-called “round-trip” transactions (an integrated series of controlled trans- actions in which intangible property is licensed to an affiliate and the affiliate uses the intangible to produce tangible property for sale back to the licensor or another affiliate) be analyzed together, Temporary and proposed regulations were again issued in 1993.30
13 Sections 197(d), 367(d), 936(h)(3)(B). See Beil, “Internal Revenue Code Section 197: A Cure for the Controversy over the Amortization of Acquired Intangible Assets,” 49 U. Miami L. Rev. 731, 773-776 (1995). Note that Section 367(d), which currently applies with respect to the trans- fer of intangibles by a U.S. person to a foreign corporation, effectively pre-empts application of Section 482. Under Section 367(d), a U.S. per- son-transferor must realize (possibly as both for- eign source and U.S source) taxable income on an annual basis over the useful life of a trans- ferred intangible (up to 20 years) an amount commensurate with the income attributable to the intangible. See Sections 367(d)(2)(C), 367(d)(2)(A)(ii)(i), and 367(d)(2)(A)(ii)(II). The income is required to be treated as ordinary. Section 367(d)(2)(C). A special election may be made to report the income in a lump sum in the year of transfer provided the intangible is one not ordinarily licensed between unrelated parties for amounts contingent on productivity or use. See Temp. Reg. 1.367(d)-1(T(g)(2)(i); Reg. 1.482-4. Section 367(d), in general, does not apply to intangible property transfers to a foreign corpora- tion structured as a sale or license instead of as part of an exchange under Sections 361 or 351. (Temp. Reg. 1.367(d)-1T(g)(4)(i)).
Final 1995
Cost-Sharing Regulations:
From “Developer” to “Owner” The IRS issued final cost-sharing regu- lations on December 20, 1995. 31 Of par- ticular concern to the Service was the use of CSA to deflect profits from the U.S. to low or no-tax jurisdictions. 32 The Preamble to the 1995 regulations acknowledged that the policies con- tained in the 1992 proposed regulations were not fundamentally altered although various modifications were made in response to certain comments it had received.
The 1995 regulations removed cer- tain presumptions that were part of the former regulations and permitted the IRS to adjust each controlled partici- pant’s ownership position or interest in the developed intangibles under the arrangement. This required that any buy-in payment be predicated on the expected rate of return on the interest deemed transferred. 33A main purpose of the rule-making was to correct prob- lems faced by a taxpayer in meeting the active conduct of a trade or business requirement in qualifying a controlled participant. Under the 1992 proposed cost sharing regulations, a member of a group of controlled taxpayers could par- ticipate in a qualified cost sharing
14 See Asiatic Petroleum Co., 79 F.2d 234, 236, 16 AFTR 610 (CA-2, 1935), cert. den., 296 U.S. 645 (1935); GD Searle & Co., 88 TC 252 (1987); IRS White Paper, “A Study of Intercompany Pricing Under Section 482” (1988), reprinted in 1988-2 CB 458.
15 Reg. 1.482-1(b)(1) (standard is that of a taxpayer dealing at arm’s length with an uncontrolled tax- payer).
16 See, e.g., Central de Gas de Chihuahua, S.A., 102 TC 515 (1994) (imputation of rental income for rent-free lease of tractors and trailers from one Mexican corporation to another Mexican corporation under common control). See Stark and Baillif, “Do Section 482 Allocations to Foreign Entities Trigger a Withholding Obligation?” 82 J. Tax’n 178 (1995).
17 A Section 482 adjustment can also result in a par- ticular case in affecting a foreign corporation’s subpart F income under the controlled foreign corporation provisions. See Reg. 1.6662-6(d)(6), Example 3.
18 See Kuntz and Peroni, U.S. International Taxation (Thomson Reuters/WG&L), Chapter 3. The arm’s- length standard is incorporated in various income tax treaties between the U.S. and foreign coun- tries. See, e.g., U.S.-U.K. Convention for the
arrangement on behalf of, and could satisfy the active conduct rule based on activities performed by, one or more other members of the group (a cost sharing subgroup). The participating subgroup member would then transfer or license the intangibles developed under the arrangement to the nonpar- ticipating subgroup member(s). The proposed regulations would have mea- sured benefits in such case on the basis of the benefits of the entire subgroup from exploiting the intangibles.
Avoidance of Double Taxation and the Prevention of Fiscal Evasion With Respect to Taxes on Income and on Capital Gains (2001); U.S. Model Income Tax Convention of Nov. 15, 2006; Treasury Department Technical Explanation of the 2001 U.S.-U.K. Income Tax Convention, art. 9, (“This Article incorporates in the Convention the arm’s- length principle reflected in the U.S. domestic transfer pricing provisions, particularly Code sec- tion 482.”); Treasury Department Technical Explanation of the 2006 U.S. Model Income Tax Convention, art. 9.
19 Reg. 1.482-1(a)(3). See, e.g., Pikeville Coal Co., 37 Fed. Cl. 304, 79 AFTR2d 97-502 (Fed. Cl. Ct. 1997).
20 Reg. 1.442-1(a)(3); Reg. 1.482-1(a)(3); TD 8552, 1994-2 CB 93, 99 (“a taxpayer may not rely on § 482 to reduce its taxable income on an amend- ed return”). This raises the inference that a tax- payer may increase taxable income on an untime- ly or amended return. For controlled transfers of tangible property there are essentially six meth- ods for meeting the “best method rule,” compa- rability requirements and arms length provision: (1) the comparable uncontrolled price (CUP) method; (2) the resale method; (3) the cost plus method; (4) the comparable profits method; (5) the profit split method; and (6) other methods.
COST-SHARING
10 BUSINESS ENTITIES
January/February 2016