US case: Altera, Arms Length Principle

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This is a reproduction of an article in LinkedIn by John Henshall, Deloitte London, that I thought was worth sharing. All credit to John. Thanks

Yesterday (27 July) the US Tax Court issued its decision in the case of Altera Corporation and Subsidiaries v Commissioner of Internal Revenue. This holds that “arm’s length” means what unrelated parties would do, based on evidence of actual behaviour. The court therefore struck-down sec 1.482-7(d)(2), Income Tax Regulations (the “final rule”) because it was inconsistent with the arm’s length principle.

You will recall that in Xilinx Inc. v. Commissioner of Internal Revenue [125 T.C. 37 (2005)] the US Tax Court held that the US 1995 cost-sharing regulations did not require stock-based remuneration to be included in the value of cost-sharing calculations because parties operating at arm’s length would not do so. In 2003 the US Treasury issued revised regulations (the so called “final rule”) which required parties entering into cost-sharing arrangements to include stock-based remuneration in their calculation base. By administrative action the US Treasury sought to reverse the position after Xilinx.

The US Tax Court has now held that the “final rule” is inconsistent with the arm’s-length standard, which is the basis of both US law (sec. 482) and contained in numerous Tax Treaties. It was held that Treasury did not support before the court its belief that unrelated parties would include stock-based remuneration in their cost-sharing arrangements with any evidence showing that unrelated parties would act so. On this basis the US Tax Court has struck-down the final regs. as being incompatible with the arm’s length standard.

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