Altera: Why the Government Can't Count on Chevron Step Two

Altera: Why the Government Can’t Count on Chevron Step Two
By Jerald David August
SPECIAL REPORT
tax notesTM
The case involves a so-called fighting regulation issued in an apparent attempt to administratively overturn Xilinx,4 in which the Tax Court and the Ninth Circuit struck down an earlier version of the same regulation.5 The issue before the Tax Court in both cases was the same: whether the U.S. parent corporation of an affiliated group was required to increase its taxable income by the imputation of an arm’s-length amount of cost-sharing payments re- ceived from its wholly owned foreign-based subsid- iary attributable to stock-based compensation paid by the U.S. parent in accordance with reg. section 1.482-7(d)(2).6
In Altera, a unanimous, 15-judge Tax Court7 rejected the government’s claim that the regulation is entitled to Chevron deference and is therefore binding on the taxpayer. It invalidated the regula- tion on several alternative grounds, concluding that the rule is arbitrary and capricious as applied to the taxpayer.
The Ninth Circuit will thus be revisiting its decision in Xilinx and will have its choice of grounds on which to base an affirmance. The Tax Court held that:
4Xilinx Inc. v. Commissioner, 125 T.C. 37 (2005), aff’d, 598 F.3d 1191 (9th Cir. 2010) .
5Although the term ‘‘fighting regulation’’ has been described as an agency rule issued during the course of related litigation, it can extend to revisions of regulations to reverse prior adverse decisions, such as Xilinx, 125 T.C. 37, and Veritas Software Corp. v. Commissioner, 137 T.C. 297 (2009), cases involving CSAs. See also Simpson v. United States, 183 F.3d 812 (9th Cir. 1999); and Estate of Hubert v. Commissioner, 520 U.S. 93 (1997). But see Mayo Foundation for Medical Education and Research v. United States, 131 S. Ct. 704, 713 (2011); National Cable & Telecommunications Association v. Brand X Internet Services, 545 U.S. 976 (2005); Chevron, 467 U.S. 837; and Motor Vehicle Mfrs. Ass’n of U.S. Inc. v. State Farm Mut. Auto. Ins. Inc., 463 U.S. 29 (1963). See also Leandra Lederman, ‘‘The Fight Over ‘Fighting Regs’ and Judi- cial Deference in Tax Litigation,’’ 92 B.U. L. Rev. 653 (2012); Patrick J. Smith, ‘‘Chevron’s Conflict With the Administrative Procedure Act,’’ 32 Va. Tax. Rev. 813 (2013); and Steve R. Johnson, ‘‘The Phoenix and the Perils of the Second Best: Why Heightened Appellate Deference Is Undesirable,’’ 77 Ore. L. Rev. 235, 249 (1998).
6T.D. 9088. The final regulations became effective on August 26, 2003.
7Judge L. Paige Marvel wrote the opinion for the court, in which 14 other judges joined. Judges Richard T. Morrison and Cary Douglas Pugh did not participate.
Jerald David August is a partner with Kostelan- etz & Fink LLP in New York and the editor-in-chief of Business Entities.
In this report, August discusses the Tax Court’s Altera opinion and considers how an affirmance by the Ninth Circuit might affect the Chevron doctrine and Treasury rulemaking.
Table of Contents
I. Overview .......................... 1
II. ChevronandStateFarm ................ 2 A. TheChevronDoctrine ................ 2
B. The Chevron Doctrine in Recent Supreme CourtTaxCases ................... 3 C.StateFarm........................4
IV. Altera ............................. 4 A. Background ...................... 4 B.Xilinx ........................... 5 C. Notice and Comment Requirements . . . . . 6 D. TheTaxCourt’sDecision ............. 6 V. Conclusion ......................... 8
I. Overview
On February 19 the government filed its notice of appeal in Altera,1 asking the Ninth Circuit to reverse the Tax Court’s invalidation of a 2003 final Treasury regulation requiring that parties to a qualified cost- sharing agreement (CSA) include stock-based com- pensation in the pool of shared costs. I have elsewhere detailed the underlying transfer pricing principles and the evolution of the CSA regula- tions.2 This report examines Altera’s implications for the vitality of the Chevron3 doctrine and consid- ers the ramifications of an affirmance.
1Altera Corp. v. Commissioner, 145 T.C. No. 3 (2015).
2Jerald David August, ‘‘Altera And Cost-Sharing Require- ments Under Section 482: Another Tax Court Rebuke to the IRS,’’ Bus. Entities, 4 (Jan./Feb. 2016).
3Chevron USA Inc. v. Natural Resources Defense Council Inc., 467 U.S. 837 (1984).
TAX NOTES, June 6, 2016
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