The regulations affect any multinational corporate group in which U.S. entities perform activities that benefit foreign affiliates; benefit from activities performed by foreign affiliates; or develop intangible property for, with or through foreign affiliates.
On July 31, 2009, the Internal Revenue Service (IRS) released final regulations under section 482 of the Internal Revenue Code (the Code) addressing the treatment of controlled services transactions and the allocation of income from intangible property (T.D. 9456, published in the Federal Register on August 4, 2009). These regulations affect any multinational corporate group in which U.S. entities perform activities that benefit foreign affiliates; benefit from activities performed by foreign affiliates; or develop intangible property for, with or through foreign affiliates.
The new regulations replace temporary and proposed regulations that were issued on August 4, 2006. The temporary regulations generally took effect for taxable years beginning after December 31, 2006, but the effective date of a significant portion of the temporary regulations was generally deferred to taxable years beginning after December 31, 2007. The temporary regulations would have expired on August 4, 2009, without further action by the IRS, under the three-year limit applicable to temporary regulations under Code section 7805(e)(2).
The new regulations are substantially similar to the temporary and proposed regulations, with some new language incorporating certain guidance that the IRS had issued under the temporary regulations (Notice 2007-5), as well as a number of clarifications and non-substantive changes.
The new regulations are generally applicable for taxable years beginning after August 4, 2009. Taxpayers may elect to apply the new regulations retroactively to any taxable year beginning after September 10, 2003 (the issuance date of an earlier set of proposed regulations) and for all subsequent taxable years.
Although the new regulations essentially reflect a continuation of rules that already have been in effect for more than a year, the issuance of the rules in the form of final regulations should cause all affected taxpayers to revisit their intercompany services and intangibles arrangements with the new rules in mind.
Important issues that companies may need to address include the following:
- Whether various intercompany services are eligible to be charged at cost under the new “services cost method” or instead require a mark-up
- Whether activities performed by a corporate parent in its capacity as such qualify as “shareholder activities,” and thus do not require compensation, under the new rules’ highly restrictive “sole effect” test
- Whether the “shared services arrangement” (SSA) mechanism under the new rules might be used to allocate the costs of shared or centralized services
- Whether a profit-split method may or must be applied, based on significant “non-routine contributions” being made by more than one controlled taxpayer (which may be the case under the new rules even in situations in which only one controlled taxpayer owns intangible property or bears entrepreneurial risks)
- How to apply the various pricing methods provided under the new rules
- Whether any intercompany arrangements involving the development of intangible property might be exposed to a risk of recharacterization under the “economic substance” or “realistic alternatives” language in the new rules
For companies that may have been waiting for the “dust to settle” before undertaking major new initiatives to ensure compliance with the rules or to take advantage of new methods under the rules, the dust has now settled, and the time to act is now.