Photo of Cym Lowell

Cym H. Lowell advises multinational companies and high-net-worth individuals based in the United States and around the world on a broad spectrum of tax planning and controversy matters. Cym handles transfer pricing cases involving millions to billions in proposed adjustments. He also structures advance-pricing agreements on a global basis and advises clients on a full range of international tax matters. Read Cym Lowell's full bio.

In recent months, the Internal Revenue Service (IRS) Large Business and International Division (LB&I) has issued a variety of international tax practice “units” as part of its process to improve tax compliance from identified groups of business taxpayers. The overall process also includes short descriptions of respective “campaigns” and briefly describes the agency’s designated, tailored treatment or treatments for each campaign.

Most recently, it issued a unit on the mutual agreement procedure (MAP), commonly referred to as the Competent Authority Process under bilateral tax treaties (Doc Control No. ISO/P/01_07_03-01). The purpose of the unit is to provide IRS examiners (for the most part, the unit does not address foreign-initiated adjustments) with clear guidance on their responsibility in situations where proposed adjustments will be made in a context in which the taxpayer could potentially face double taxation, consistent with the most recent revenue procedure (Rev. Proc.) 2015-40. The unit also provides a helpful checklist for taxpayers in such situations.

The unit amplifies the guidance in Rev. Proc. 2015-40 with respect to both issues arising in Advance Pricing and Mutual Agreement (APMA) and Treaty Assistance and Interpretation Team (TAIT) (for non-transfer pricing issues). The discussion is consistent with current practice. Critical issues addressed include the following. Continue Reading International Practice Units – Competent Authority

In October 2015, final recommendations on Base Erosion and Profits Shifting (BEPS) were released, setting in motion epochal changes that will impact the global effective tax rate (ETR) of multinational enterprises (MNE) in the coming years.

Country-by-Country Reporting (CbCR) is the first, almost globally adopted output of the BEPS process currently facing MNEs. It raises some potentially far-reaching questions with respect to traditional operating models and supply chain structures, and also affects the future of cross-border dispute resolution. Harnessing the potential upsides and downsides of these and the other evolutions will be a driver of the future ETR of MNEs.

View the five-minute video below, in which McDermott lawyers discuss the implications of Country-by-Country Reporting for MNEs.

Adoption of the base erosion and profit shifting (BEPS) action items in specific countries can be expected to alter traditional multi-national enterprises (MNE) tax strategy processes. In this regard, it is appropriate to note that tax authorities and the Organization for Economic Co-operation and Development (OECD) often seem to overlook, or conveniently ignore, that MNE strategies are often a function of the rules established by countries to develop their own tax base (at the expense of other countries). In other words, countries, in their respective self-interests, grant incentives of various sorts to encourage economic investment. MNEs take advantage of these incentives to minimize their tax liabilities, which the BEPS process views as, somehow, inappropriate behavior of MNEs denuding the tax base of other countries.

Like water going downhill, MNE planning strategies will utilize the most efficient path to achieve desired objectives. This is a fiduciary duty to shareholders. Effective tax rates are a major expense of all MNEs, which need to be managed as effectively as possible in a competitive world. For example, if Country A offers an incentive such that MNE #1 makes an investment in Country A, as opposed to Country B which offers no such incentive, the net result is that jobs and economic activity are created in Country A not B. Country B may perceive that its tax has been eroded. But who has done this? Country A via its incentive or MNE #1?

International tax disputes arise when Country B challenges the activity of MNE #1 asserting that it should have been paying tax in Country B. If there is a treaty between Countries A and B, there could be a mutual agreement procedure (MAP) proceeding. If that proceeding stalls for whatever reason, then all parties would benefit from processes that would lead to resolution.

The transparency demanded by the Country-by-Country (CbC) package and related matters evolving on a unilateral country basis (seeking, once again, to attract tax base away from other countries) will create new opportunities and paradigms for MNE effective tax rate strategies. It may be that these evolutions will drive planning and acquisition strategies toward treaty or non-treaty protected corporate structures designed to: (i) take advantage of new opportunities created by the new  regimes; and (ii) minimize transfer pricing exposures, imposition of exit or other taxes on the movement of intangibles or other assets, and so on. As these strategies evolve, the net result may not be an outcome that was anticipated by organizers of the BEPS project. This was certainly the case with respect to design of our current international tax system just after World War I.

These evolutions in the international tax world reflect, not surprisingly, what is evolving in the global political world. The popular press regularly addresses what is often described as globalism vs. populism, which reflects an apparent trend of voters and governments to focus less on the global good and more on local needs. The same phenomenon appears to be evolving in the world of cross-border taxation, which may be evolving as it did in 1926: idealistic visions of a globalized tax order (BEPS) vs. realism-populism on a CbC basis. Countries seem to be reacting to the former (BEPS) as they did to the League of Nations (The League) in 1926. The League assumed there would be consistent adoption of tax policy throughout the world, but countries pursued agendas to achieve their respective objectives. In contrast to the policies incorporated in the BEPS final actions, countries seem to be pursuing their own policies. Several countries have adopted, or are considering, an incremental tax on what are deemed excessive profits in other countries (the diverted profits tax or its equivalents in the UK, India, France and so on), declaring that taxes so collected are not subject to treaty relief (it is up to other countries to provide relief from double taxation). The US may be seriously addressing border adjustability, territorial, and related elements, as the EU is evolving toward the formulary allocation mechanism (the “CCCTB”). These are all elements that will need to be framed in MNE effective tax rate (ETR) strategy evolution (including compliance and controversy realities).

In short, our global tax world is plainly in a state of transition. The ultimate reality may be far different than was anticipated by the BEPS process.

On January 4, 2017, the Internal Revenue Service (IRS) released a new “International Practice Unit” (IPU) on the value of intangibles in IRC Section 367(d) transactions in conjunction with cost sharing arrangements (CSA). See IPU here. The IPU notes that transferring highly valuable intangibles offshore has become a routine tax strategy for reducing a company’s effective tax rate for financial statement and tax purposes.

Typically, questions concerning the value of intangibles arise where a US taxpayer enters into a CSA with a controlled foreign corporation (CFC) in a low or no tax jurisdiction, and contributes resources, rights and capabilities (which may include IRC Section 936(h)(3)(B) intangibles) to the CSA. An arm’s length payment to the US taxpayer is then required for the contribution. Simultaneously with, or shortly before entering into a CSA, the US taxpayer transfers certain intangible property to the CFC in an IRC Section 351 or 361 transaction, which is taxable under IRC Section 367(d). Again, there is an arm’s length charge for the use of that intangible property.

Oftentimes in these transactions, the US taxpayer values the intangibles transferred in the IRC Section 367(d) transfer separately from the platform contributions, even though, the IRS says, the intangibles conveyed in both transactions will be exploited on a combined basis. Based on the aggregation principles in the IRC Section 482 regulations, the IPU warns that a non-aggregate approach may not provide an arm’s length result. Moreover, despite taxpayer arguments to the contrary, the IPU maintains that the scope of intangible property for purposes of IRC Section 367(d) is just as broad as the scope of platform contributions.

Practice Point: The IPU is a good source of information of what the IRS’s examination division will consider when auditing an outbound transfer of intangible rights for use in a CSA. If you have or intend to engage in such a transaction, you should study the IPU to ensure that you have adequately documented the arm’s length payments for the transfer.

Transfer pricing, the allocation of income or loss between members of a controlled group, (TP) continues to be the critical taxation issue in the cross-border world (international, federal or state), whether in planning, controversy or other purposes. Why is this case? Because the tax consequences of each entity begins with its income or loss posture.

Continue Reading Transfer Pricing Developments – A Year in Review

The most recent element of the ongoing global dispute resolution process is the late November 2016 release of the so-called multilateral instrument (MLI), a cornerstone of the base erosion and profit shifting (BEPS) project. It is an ambitious effort of the Organization for Economic Cooperation and Development (OECD) to impose its will on as many countries as possible. The explanation comprises 85 single-spaced pages and 359 paragraphs. The MLI draft itself is 48 similar pages. The purpose of the MLI is to facilitate implementation of the BEPS Action items without having to go through the tedious process of amending approximately two thousand treaties.

In essence, the MLI implements the BEPS Action items in treaty language. While consistency is obviously an intended result, the MLI recognizes the reality that many countries will not agree to all of the provisions. Accordingly, countries are allowed to sign the agreement, but then opt out of specific provisions or make appropriate reservations with respect to specific treaties. This process is to be undertaken via notification of the “depository” (the OECD). Accordingly, countries will be able to make individual decisions on whether to update a particular treaty using the MLI.

Continue Reading BEPS Multilateral Agreement

Following the resolution of a transfer pricing adjustment, there are inevitable compensating adjustment issues to be addressed. Revenue Procedure 99-32 provides the guidelines. A frequent issue concerns whether the “account” that can be elected constitutes “related-party indebtedness” for other purposes of the Internal Revenue Code. One issue has related to the long-since expired provisions of Section 965 relating to repatriations (which may arise from the dead in the Trump administration). In Notice 2005-64, the IRS indicated that it does without any analysis.

In BMC Software, Inc. v. Commissioner, 115 AFTR 2d 2015-1092 (5th Cir. 2015), the Fifth Circuit reversed a US Tax Court decision in favor of the IRS, finding, in essence, that the transfer pricing closing agreement entered long-after the taxable years in question was not indebtedness for Section 965 purposes. Its plain language interpretation was that under Section 965, “the determination of the amount of indebtedness was to be made as of the close of the taxable year for which the election under Section 965 was in effect.” Accordingly, the accounts receivable could not have existed at the end of the testing period. The court also noted that the taxpayer had not agreed to “backdate” the accounts receivable.

The Tax Court has just agreed to follow the Fifth Circuit opinion in BMC Software. In Analog Devices, Inc. v. Commissioner, 147 T.C. No. 15 (Nov. 22 2016), the Tax Court essentially followed the logic of the Fifth Circuit in a similar situation involving a IRS assertion of the same Section 965 consequence of a subsequent year closing agreement in a transfer pricing case.

Practice Point:  The relationship of closing agreement in transfer pricing cases and compensating adjustments is inevitably complex, especially in situations where there are other debt-related issues in the years in question. If the anticipated tax reform bill again introduces a repatriation incentive, these issues will arise once again. The key will be to address them in closing agreements as best as possible.

Domestic implementation of the recommendations set out in the BEPS final reports from 2015 have the potential to significantly impact effective tax rate planning. The immediate issue flows from the new country-by-country transfer pricing documentation regime (CbC). The critical consequence of the CbC regime, as well as many of the other BEPS initiatives, will be an inevitably heightened focus of tax authorities on testing locally reported transfer pricing results on a profit split basis.

Read the full article here.

 

At least a partial taxpayer victory in the Medtronic case, T.C. Memo. 2016-112. The Tax Court held that Medtronic met its burden of showing the Internal Revenue Service (IRS) abused its discretion by  making arbitrary and capricious Internal Revenue Code (IRC) Section 482 reallocations with respect to taxable income of Medtronic’s Puerto Rico subsidiary. It further concluded that the IRS’s use of the comparable profits method is not required under the IRC Section 482 commensurate with income standard. Although the Tax Court found the taxpayer’s royalty rates established using the comparable uncontrolled transaction method to be unreasonable, the court undertook to determine the proper allocations itself, and made two significant adjustments to the taxpayer’s royalty rates. Finally, the court rejected the IRS’s alternative allocation that intangibles were transferred under IRC Section 367(d).