Tax Court in Medtronic Rejects Government’s Section 482 Challenge For an Intercompany Licensing Agreement To Assess Over $1 Billion in Additional Taxes For Two Years
In a recent Tax Court Memorandum decision, Medtronic, Inc. et al v. Commissioner, T.C. Memo 2016-112, Judge Kathleen Kerrigan, in a long and detailed opinion, rejected the IRS’ method invoked Section 482, for reallocating over well in excess of one billion dollars in income over a two year period between a U.S. parent corporation, Medtronic U.S., and its wholly owned subsidiary, Medtronic Puerto Rico Operations Co. (MPROC) with respect to revenues from several licenses for intellectual property necessary to manufacture high-risk, heavily regulated implantable medical devices. In particular, there were four intercompany agreements in issue: (i) a components supply agreement; (ii) a distribution agreement; (iii) a trademark license agreement; and (iv) a devices and leads licenses agreement.
The parent corporation filed a petition with the Tax Court in challenging the Service’s notices of deficiencies in the approximate amounts of $548M for 2005 and $810M for 2006. That’s right, the case involved more than $1 billion in proposed deficiencies in tax. The Tax Court held, inter alia, that the IRS’s transfer pricing methodology did not give “appropriate weight” to the many functions that the parent corporation’s Puerto Rico affiliate performed as part of its manufacturing process and that Medtronic had met its burden of showing that the IRS’s allocations were flawed, i.e., unreasonable and arbitrary. For reasons stated in Judge Kerrigan’s analysis, she wasn’t persuaded that Petitioner’s allocations were reasonable either. Therefore the Court determined the arms length pricing amounts.
Proposed Regulations on Disguised Payments for Services Issued Last Summer by Treasury Still Attracting Attention and Concern From Service Partners, Including Private Equity and Funds Managers
Last Summer the Service issued a set of proposed regulations with respect to Section 707(a)(2)(A). This provision involves an arrangement where: (i) involving a partner who provides services (or transfers property) to a partnership; (ii) there is a related direct or indirect allocation and distribution to that partner; and (iii) the performance of the services (or transfer of property) and the allocation and distribution, when viewed together, are in substance compensation for the performance of services (or payment made in exchange for the property) as if the partner was acting other than in his capacity as a party. In such case the distribution will be treated as compensation income to the partner-service provider. The purpose of the disguised services rule is to prevent partners from converting ordinary income into capital gains. As to the partnership, the compensation payments may be required to be capitalized.
In general Section 707(a), along with Section 707(c), provide limited exceptions to the generally accepted rule that a partner cannot receive compensation from a partnership. The proposed regulations provide additional guidance under Section 707(a)(2)(A) and propose conforming changes to Section 707(c) and changes to the issuance of profits interest to service providers under the established safe harbor guidelines in Rev. Proc. 93-27, 1993-2 C.B. 343, clarified in Rev. Proc. 2001-43, 2001-2 C.B. 191. Partnership allocations that are determined with regard to partnership income and that are made to a partner for services rendered by the partner in its capacity as a partner are generally treated as distributive shares of partnership income, taxable under the general rules of sections 702, 703, and 704. As to profits interests, the Treasury and Service announced in the notice of the proposed regulations their intent to modify the exceptions in the cited revenue procedures to include an additional exception for profits interests where a partner waives his right to a payment of a substantially fixed amount for the performance of services, including a guaranteed payment under Section 707(c) or a payment in a non-partner capacity under Section 707(a).
As of this date, the proposed regulations have received comments, including a fair amount of criticism, but have not been issued in final form.
Jerald David August Presented "The TEFRA Partnership Audit Rules Repeal: Partnership and Partner Impacts" on ALI-CLE Webcast
On June 07, 2016, Jerald David August, Partner at Kostelanetz & Fink LLP. presented, "The TEFRA Partnership Audit Rules Repeal: Partnership and Partner Impacts" on an ALI-CLE Webcast.
The TEFRA Partnership Audit Rules were repealed by Congress and replaced with new partnership audit rules affecting all partnerships. The new rules make wide-sweeping reforms in the audit of partnerships and LLCs. While the new rules generally are not effective until 2018, current drafters of partnership and LLC agreements should be drafting audit provisions that will work under these rules. Are you prepared to implement practices and advise clients on what they will be liable for under this regime?
Jerald David August Honored by the American Law Institute for Achieving the Status as a "Life and Sustaining Member"
Jerald David August was honored at the 93rd Annual Meeting of the American Law Institute, held this week in Washington, D.C., for his achieving the status as a “Life and Sustaining Member” of the Institute for 25 years of service. Two of the featured speakers at this year’s Annual Meeting were Supreme Court Judges Sonia Sotomayor and John Paul Stevens (Retired).
Jerald David August Quoted In Bloomberg Article, "Amid Inversion Crackdown, IRS Blesses Delphi's British Domicile"
Excerpt from the "Unique Obstacles" section of the article:
The Delphi case may have presented unique obstacles, said Jerald David August, a partner at Kostelanetz & Fink LLP, a New York tax firm. The IRS may have worried that a loss in court would force it to revise a round of anti-inversion regulations from 2009, he said -- or that the case would bring unwelcome attention to the administration’s own role in Delphi’s expatriation. The company shifted its tax address as part of the fallout from General Motors Co.’s 2009 bankruptcy and bailout, which were overseen by Obama’s administration.
“The government threw in the towel when it may have had a strong case to present to a court to review,” said August, who wasn’t involved in the case. “The stakes involved in presenting this issue for full review may have had other, non-tax repercussions.”
For their part, Delphi officials had always insisted their case was strong and pledged in securities filings to “vigorously” defend their position. On Wednesday, the company declined to comment beyond saying it’s “satisfied” with the IRS’s decision. The IRS also declined to comment.
Jerald David August Presented at the American Law Institute CLE On-Demand Event, “Tax Planning for Controlled Foreign Corporations"
On Tuesday, March 12, 2013, Jerald David August presented at the American Law Institute CLE Webcast Event, "Tax Planning for Controlled Foreign Corporations"
The tax rules surrounding Controlled Foreign Corporations are complex, providing both traps for the unwary and opportunities for the well informed. Take into account possible IRS changes that threaten to expand the reach of subpart F and attorneys are left with more questions than answers.
Congress Repeals the TEFRA Partnership Audit Rules and Enacts a New Set of Rules Which Includes the Assessment of Income Taxes at the Partnership Level
By Jerald David August
KF Law Tax Alert
As part of The Bipartisan Budget Agreement of 2015, which the President signed into law on November 2, 2015, Congress repealed the complex and much-criticized partnership entity-level audit (“ELA”) rules under the Tax Equity and Fiscal Responsibility Act of 1982 (“TEFRA”), including the electing large partnership rules. The new law replaces the ELA rules with a set of “streamlined” entity-level audit (“SELA”) rules designed to enhance the IRS’s ability to audit more large partnerships and increase tax collections.
Jerald David August Presented, "Planning for Single Member Entities and Hybrids" at 2015 Zicklin Tax Seminar Series
On October 20th, 2015, Jerald David August presented "Planning for Single Member Entities and Hybrids" at the Zicklin Tax Seminar Series.
The Zicklin School of Business at Baruch College offers Continuing Professional Education (CPE) tax seminars previously administered by Financial Accounting Practitioners. Through the Zicklin Tax Seminar Series, Baruch provides alumni and other members of the tax community with an opportunity to earn up to 24 hours of CPE in taxation over the course of three seminars.
Jerald David August Presents, "Required Disclosures of Potential Tax Liabilities to IRS and on Corporate Financial Statements" for the American Law Instituted Via Webcast
Jerald David August recently moderated and presented on the topic of "Required Disclosures of Potential Tax Liabilities to IRS and on Corporate Financial Statements" for the American Law Institute webcast on September 30, 2015. Mr. August spoke on "uncertain tax positions", tax opinions and the attorney-client privilege and work product doctrine on tax litigation matters related to tax accrual work papers and ASC 740-10 (FIN 48) work papers.
This webinar is now available on demand. If you would like to look at the program brochure please visit www.ali-cle.org