The US Court of Appeals for the Ninth Circuit has held that the definition of an "intangible" does not include "residual-business assets", and is limited to independently transferrable assets, under the former transfer pricing regulations that were promulgated in 1994 and 1995 (Amazon.com, Inc. & Subsidiaries v. Commissioner of Internal Revenue, No. 17-72922, 16 August 2019).
(a) Facts. Amazon.com, Inc. and its US subsidiaries (collectively, Amazon US) entered into a cost sharing arrangement (CSA) with a Luxembourg holding company for European subsidiaries (Amazon Europe Holding Technologies SCS, AEHT). Amazon US transferred three groups of pre-existing intangibles (website technology, marketing intangibles, and customer information) to AEHT for purposes of research under the CSA.
To compensate Amazon US for the transferred pre-existing intangibles, AEHT made an up-front buy-in payment, which was required under the transfer pricing regulations to reflect the fair market value of the pre-existing intangibles. The buy-in payment was US taxable income to Amazon US.
The US Internal Revenue Service (IRS) examined Amazon US's income tax returns for 2005 and 2006 and increased the buy-in payment under section 482 of the US Internal Revenue Code (IRC). The IRS's calculation of AEHT's buy-in payment included compensation for "residual-business assets" (i.e. Amazon US's culture of innovation, the value of workforce in place, going concern value, goodwill, and growth options).
Amazon US filed a petition in the US Tax Court to challenge the IRS's valuation. The US Tax Court sided primarily with Amazon US (see United States-3, News 27 March 2017). The IRS appealed.
(b) Issue. The issue in the present case was whether the buy-in payment for pre-existing intangibles must include compensation for "residual-business assets" under the 1994/1995 transfer pricing regulations.
(c) Decision. The US Court of Appeals held that, although the language of the now-superseded regulatory definition is ambiguous, the overall transfer pricing regulatory framework and the rule-making history of the regulations strongly indicate that intangibles were limited to independently transferable assets.
The US Court of Appeals accordingly agreed with the US Tax Court that the former regulatory definition of an "intangible" does not include residual-business assets.
Note: In 2009, the US Treasury Department issued temporary regulations broadening the scope of contributions for which compensation must be made as part of the buy-in payment. In 2017, Congress amended the definition of "intangible property" in IRC section 367(d)(4)). The US Court of Appeals stated in a footnote that, if the present case were governed by the 2009 regulations or by the 2017 statutory amendment, the IRS's position would be correct without a doubt.