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Keywords

Intangible Asset Corporate Taxation Transfer Price Capital Asset Price Model Related Party 
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References

  1. 2.
    See Lawlor, W.R., ed., Cross-Border Transactions between Related Companies: A Summary of Tax Rules (Deventer, The Netherlands: Kluwer, 1985).Google Scholar
  2. 4.
    Federal Tax System-Message from the President of the United States, 107 Cong. Rec., 6456 (1961).Google Scholar
  3. 5.
    Hearings on the President’s 1961 Tax Recommendations Before the Committee on Ways and Means, 87th Cong., 1st Sess., Vol. 4, at 3549 (1961) (statement of M. Caplin, Commissioner of Internal Revenue, “Problems in the Administration of the Revenue Laws Relating to the Taxation of Foreign Income.”)Google Scholar
  4. 7.
    A number of states, lacking either confidence in, or the administrative and technical wherewithal necessary to apply, the separate accounting methodology and arm’s length principle, currently utilize a formulary apportionment method to determine taxable income within their jurisdicitons. See Multistate Tax Compact, All State Tax Guide (P-H) 6310.Google Scholar
  5. 8.
    Conf. Rep. No. 2508, 87th Cong., 2nd Sess., p. 19 (1962), reprinted in 1962–3 C.B. 1129, 1146.Google Scholar
  6. 9.
    Note that regulations interpreting Section 45 of the 1928 Act, a forerunner of Section 482, had been issued in 1934. These regulations were “substantially identical to Regs. 1.482-1(a), (b) and (c)” of the 1968 regulations issued subsequently. See McCawley, Harrison B., Section 482: The Statute and the Regulations, Tax Management, 115-3rd, 11/24/86.Google Scholar
  7. 11.
    McLennan, B.N., “Responses to Section 482 Litigation: Advance Pricing Agreements or Arbitration?” 54 Tax Notes 4 (Jan. 27, 1992), p. 433.Google Scholar
  8. 12.
    IRC Section 1.482-2(e)(2)(4).Google Scholar
  9. 13.
    These are the sorts of issues raised in U.S. Steel Corporation v. Commissioner, 80-1USTC P9307 (rev’g); 36 TCM 586.Google Scholar
  10. 14.
    See, for example, Wickham, D.W., “The New U.S. Transfer Pricing Tax Penalty: A Solution, or a Symptom of the Cause, of the International Transfer Pricing Puzzle,” 18 International Tax Journal 1 (Winter 1991).Google Scholar
  11. 15.
    IRC Section 1.482-2(e)(2)(4).Google Scholar
  12. 16.
    General Accounting Office, Report to the Chairman, Committee on Ways and Means, IRS Audit Coverage: Selection Procedures Same for Foreign and other U.S. Corporations (1986). Also see Department of Treasury (Office of International Tax Counsel; Office of Tax Analysis) and Internal Revenue Service (Office of Assistant Commissioner-International; Office of Associate Chief Counsel-International), A Study of Intercompany Pricing, Discussion Draft, October 18, 1988 [hereinafter, the White Paper].Google Scholar
  13. 17.
    This issue of risk has figured prominently in a number of decided cases as well, notably Bausch & Lomb, Inc. and Consolidated Subsidiaries v. Commissioner., 92 T.C. 525 (off’d 2nd Cir. May 14, 1991 D. No.89–415).Google Scholar
  14. 18.
    IRC Section 1.482-2(e)(1)(iii).Google Scholar
  15. 19.
    In fact, some economists argue that imperfections in the market for intangible property are the raison ďêtre for multinational firms. See, for example, Caves, Richard E., Multinational Enterprise and Economic Analysis, Cambridge Surveys of Economic Literature (Cambridge, U.K.: Cambridge University Press, 1982.)Google Scholar
  16. 20.
    IRC Section 1.482-2(d)(2)(ii).Google Scholar
  17. 21.
    IRC Section 1.482-2(d)(4).Google Scholar
  18. 22.
    It should be noted that the benefit need not be realized to trigger a services allocation. See IRC Section 1.482-2(b).Google Scholar
  19. 23.
    IRC Section 1.482-2(b)(1).Google Scholar
  20. 24.
    IRC Section 1.482-2(b)(2)(i).Google Scholar
  21. 25.
    IRC Section1.482-2(b)(2)(ii).Google Scholar
  22. 26.
    See Columbian Rope Co. v. Commissioner, 42 T.C. 800 (1964), acq. 1965-1 C.B. 4, and Young and Rubicam, Inc. v. United States, 549 F.2nd 740 (Ct. Cl. 1977).Google Scholar
  23. 27.
    IRCSection1.482-2(a).Google Scholar
  24. 28.
    IRCSection1.482-2(a)(2)(iii).Google Scholar
  25. 29.
    IRC Sections 1274(d) and 1.482-2(a)(2)(iii)Google Scholar
  26. 30.
    IRC Section 1.482-2(a)(2)(i).Google Scholar
  27. 31.
    IRC Section 1.482-2(a)(2)(iii)(e).Google Scholar
  28. 32.
    See U.S. v. Toyota Motor Corp., 83-1 USTC 9302 (C.D. Cal. 1983.)Google Scholar
  29. 34.
    See, for example, Eli Lilly & Co. v. Commissioner, 84 T.C. 996 (1985), rev’d in part, aff’d in part and remanded, Nos. 86–2911 and 86–3116 (7th Cir. August 31, 1988; G.D. Searle and Co. v. Commissioner, 88 T.C. 252, 376 (1987); Bausch & Lomb, Inc. and Consolidated Subsidiaries v. Commissioner, 92 T.C. 525 (off’d 2nd Cir. May 14, 1991 D. No. 89-4156); Sundstrand v. Commissioner, 96 T.C. 226 (1991); and, Westreco, Inc. v. Commissioner, No. 24078-88, T.C. Memor. 1992-561, 9/23/92, for example.Google Scholar
  30. 35.
    See, for example, Bausch & Lomb, Supra, and The R. T. French Company v. Commissioner, 60 T.C. 836 (1973).Google Scholar
  31. 36.
    The authors of the White Paper attempted to reconcile the proposed periodic adjustments in transfer payments with the arm’s length standard by suggesting that “...contractual arrangements between unrelated parties—particularly those involving high profit intangibles—are not entered into on a long term basis without some mechanism [formal or otherwise] for adjusting the arrangement if the profitability of the intangible is significantly higher or lower than anticipated.” The White Paper, Op. Cit., p. 63.Google Scholar
  32. 38.
    The White Paper, Op. Cit., p. 91.Google Scholar
  33. 39.
    For this reason, the BALRM method has been likened to the cost-plus cum contract manufacturer approach (in which the uncontrolled comparable firms perform fairly simple functions and incur very limited risks) that the IRS attempted and lost in a number of decided court cases. See, for example, Tax Executives Institute, “Comments on the Section 482 White Paper: A Study of Intercompany Pricing,” submitted to the IRS on May 19, 1989, p. 43.Google Scholar
  34. 40.
    The White Paper, Internal Revenue Service (Office of Assistant Commissioner-International; Office of Associate Chief Counsel-International), A Study of Intercompany Pricing, Discussion Draft, October 18, 1988 [hereinafter, the White Paper] Op. Cit.Google Scholar
  35. 41.
    The White Paper, Internal Revenue Service (Office of Assistant Commissioner-International; Office of Associate Chief Counsel-International), A Study of Intercompany Pricing, Discussion Draft, October 18, 1988 [hereinafter, the White Paper] Op. Cit. p. 101.Google Scholar
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    The White Paper, Internal Revenue Service (Office of Assistant Commissioner-International; Office of Associate Chief Counsel-International), A Study of Intercompany Pricing, Discussion Draft, October 18, 1988 [hereinafter, the White Paper] Op. Cit. p. 118.Google Scholar
  37. 45.
    See, for example, Stoffregen et. al., “The BALRM Approach to Transfer Pricing: One Step Forward, Two Steps Back,” Tax Notes, Vol. 42, No. 12 (March 6, 1989), p. 1257.Google Scholar
  38. 59.
    For a discussion of whether these enumerated comparability dimensions suffice to ensure that the controlled and uncontrolled transactions should take place at the same price, see King, Elizabeth, “Economic Analysis in Transfer Pricing,” in Gibbs, Briger, Lowell, Stark and Burge, eds., International Transfer Pricing, New York: Warren, Gorham & Lamont, forthcoming.Google Scholar
  39. 79.
    See the White Paper, Internal Revenue Service (Office of Assistant Commissioner-International; Office of Associate Chief Counsel-International), A Study of Intercompany Pricing, Discussion Draft, October 18, 1988 [hereinafter, the White Paper] Op. Cit., p. 125.Google Scholar
  40. 82.
    See “Penalties and Pricing Issues,” in International Transfer Pricing, Op. Cit., for a more detailed discussion of Section 482 penalties.Google Scholar
  41. 85.
    See the Statement of Shirley D. Peterson, Commissioner of Internal Revenue, before the Subcommittee on Oversight, House Committee on Ways and Means, International Tax Administration Issues, April 9, 1992.Google Scholar
  42. 86.
  43. 87.
    As reported in Tax Management Transfer Pricing Report, Vol. 1, No. 5, July 8, 1992, “At a June congressional hearing, Rep. Richard Schulze (R-Pa.) strongly criticized the IRS’s use of the designated summons procedure against the Chevron Corp. (U.S. v. Chevron Corp., No. C-91-2782-EFL, N.D. Cal., 11/15/91.)”Google Scholar
  44. 89.
    As reported in Tax Management Transfer Pricing Report, “Heck told a transfer pricing seminar sponsored by the American Tax Institute in Europe that ‘the Treasury and IRS have been given everything they need to make [the regulations] work.’ If the U.S. Treasury does not begin collecting more tax dollars from foreign-owned businesses, Congress is likely to move on changes in the tax code that would facilitate collections from these firms... If the results from the next two years do not show signs of improved taxpayer compliance, the arm’s length standard of transfer pricing may be abolished in the United States, Heck warned.” See Tax Management Transfer Pricing Report, Vol. 1, No. 4, June 24, 1992.Google Scholar
  45. 94.
    In a public forum held on May 21, 1993, Mr. Robert E. Ackerman, Director of the APA Program, noted that the IRS has decided against making public redacted versions of completed APAs, because of concerns about confidentiality. (Note, however, that “details about Matsushita’s APA were leaked by top Tokyo tax administration officials to Japanese newspapers. The speculation is that the tax authorities, which have publicly supported the APA concept, want to educate Japanese companies in the U.S. about the scheme and impress on the U.S. Congress and the public that the Japanese companies are cooperating with the IRS.” See Susumu, Awanohara and Burton, Jonathan, “Clinton’s Tax Take,” Far Eastern Economic Review, Nov. 26, 1992.)Google Scholar
  46. 97.
    See King, Elizabeth, “Economic Analysis in Transfer Pricing,” in International Transfer Pricing, Op. Cit. for a discussion of the potential role for economic theory in the absence of comparables.Google Scholar
  47. 101.
    In fact, the rate at which Appeals sustains transferpricing adjustments (the “sustension rate”) declined markedly between 1987 and 1992. See United States General Accounting Office, International Taxation—Updated Information on Transfer Pricing, March 25, 1993.Google Scholar
  48. 103.
    See Abruty and Halphen, 402-2nd T.M., Income Tax Treaties—Administrative and Competent Authority Aspects, p. A-19.Google Scholar
  49. 105.
    See Abrutyn and Halphen, Op. Cit.Google Scholar
  50. 106.
    See, for example, “Docketing Case Does Not Block Use of Competent Authority, ACI Says,” in Tax Management Transfer Pricing Report, Vol. 1, No. 3, June 10, 1992.Google Scholar
  51. 110.
    Apple Computer was the first to enter into an agreement with the IRS to arbitrate a Section 482 case. Arbitration hearings were scheduled to begin in July 1993. While there is a good deal of flexibility as to how a negotiated arbitration agreement is structured, the Apple stipulation calls for a binding resolution, to be decided by a three-member panel comprised of a retired judge, an economist, and an industry expert. As the attorneys representing Apple explain the process, “[t]he stipulation provides for ‘baseball’ type arbitration. The parties will each pick a separate amount of income for each of the three years at issue. Each party is precluded from changing the amount it submits, and must prove that its proposed amount is correct, or at least more correct than the amount submitted by the other party. Although the panel may well form its own view of the appropriate adjustment, if any, for each year at issue, its choices will be limited to the amounts proposed by the parties. There can be no ‘baby-splitting’ between the numbers offered by the parties for a given year.” See Clark, Kenneth B., et. al., “A Different Approach to Resolving Section 482 Disputes,” Tax Notes, June 29, 1992.Google Scholar
  52. 112.
    See Tax Management Transfer Pricing Report, Vol. 1, No. 11, Oct. 7, 1992. Further, transfer pricing cases represented more than 20% of the 400 largest cases docketed in Tax Court.Google Scholar
  53. 113.
    See the White Paper, Office of Tax Analysis) and Internal Revenue Service (Office of Assistant Commissioner-International; Office of Associate Chief Counsel-International) A Study of Intercompany Pricing, Discussion Draft, October 18, 1988 [hereinafter, the White Paper] Op. Cit., Chapters 4 and 5, for a discussion of notable decided pricing cases, the Service’s unsuccessful attempts to identify comparables, and the fourth methods on which specific outcomes have been based.Google Scholar
  54. 116.
    Treas. Reg. 1.167(a)-3.Google Scholar
  55. 117.
    See Intangibles Digest prepared by Ms. Patti Burquest-Fultz and Joan Rood, Large Case Program, National Office, December 1990.Google Scholar
  56. 118.
    While one finds the general outlines of this test in numerous prior cases, Houston Chronicle Publishing Company v. United States, 481 F.2d 1240 (5th Cir. 1973), cert. denied, 414 U.S. 1129 (1974) is generally cited in connection with it.Google Scholar
  57. 119.
    Winn-Dixie Montgomery, Inc., v. U.S., 444 F2d 677, 685, n. 12 (5th Cir. 1971); Solitron Devices, Inc. v. Commissioner, 80 T.C. 1, 19–20 (1983). Also see Meredith Broadcasting Co. v. United States, 405 F.2d 1214 (Ct. Cl. 1969); Fong v. Commissioner, T.C. Memo. 1984-402.Google Scholar
  58. 120.
    These position papers were published in full in Tax Related Documents, Special Supplement: Complete Text of the Internal Revenue Service’s Industry Specialization Program Coordinated Issue Papers, Tax Analysts, February 1, 1993.Google Scholar
  59. 121.
    Remarks by Mr. John J. Monaco, Executive Director of the IRS’s Coordinated Examination Programs, before the Tax Executives Institute, March 30, 1992; published in an article entitled: “Position Paper on Industry Specialization Program,” Tax Related Documents, Special Supplement: Complete Text of the Internal Revenue Service’ s Industry Specialization Program Coordinated Issue Papers, Op. Cit.Google Scholar
  60. 132.
    Briefly stated, the CAPM holds that the risk associated with an investment in equity (or any other asset, for that matter) is a composite of “diversifiable” and “non-diversifiable” (or “market”) risk elements. Diversifiable risk can be eliminated by investing in a portfolio of stocks with returns that are not perfectly correlated. Market risk, in contrast, cannot be eliminated through diversification. All firms are subject to some degree of market risk. Investors, for their part, are rewarded only for bearing non-diversifiable risk (that is, risk that is not unique to a specific company). Under the CAPM, required returns to a given equity investment are comprised of two distinct components: a “risk-free” rate, compensating the investor for the time value of his or her money, and a measurable return to risk-bearing. The latter component, in turn, is a composite of (a) the market-determined price of a “unit” of risk; and (b) a parameter (“beta”) that measures the covariance of the asset’s return with the market return, divided by the variance of the market return. Each of these elements can be determined with a fair degree of accuracy (and used to compute the required return on an equity investment). Financial economists have written a great deal on the subject of the CAPM. See Brealey, Richard A. and Stewart C. Myers, Principles of Corporate Finance, New York: McGraw-Hill Book Company, 3rd Edition, 1988, Chapters 8 and 9, for an introductory discussion. This text also contains a bibliography of more advanced material on the CAPM.Google Scholar
  61. 133.
    See Smith, Gordon V. and Russell L. Par, The Valuation of Intellectual Property and Intangible Assets, New York: John Wiley & Sons, 1989, Appendix B, “The Use and Abuse of Iowa Curves When Quantifying Appraisal Depreciation,” for a synopsis of Iowa Curve techniques.Google Scholar
  62. 134.
    See Intangibles Digest, Ibid.Google Scholar
  63. 135.
    See ISP Coordinated Issue Paper, Customer Based Intangibles, January 1990.Google Scholar
  64. 136.
    872 F2d 528 (2d Cir. 1989).Google Scholar
  65. 138.
    See also Dixie Finance, 474 F.2d at 504-05.Google Scholar

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