tax notes international - Tuck School of Business - Dartmouth College
tax notes international - Tuck School of Business - Dartmouth College
tax notes international - Tuck School of Business - Dartmouth College
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there are differences in market-correlated risks between<br />
the two scenarios, different discount rates should be<br />
used for the two scenarios. 4<br />
Arm’s-Length Range<br />
The temporary regulations provide guidance on the<br />
use <strong>of</strong> arm’s-length ranges for some methods in computing<br />
PCT payments. Some <strong>of</strong> the methods specified<br />
in the temporary regulations (for example, the income<br />
method) have a structure in which an arm’s-length result<br />
is estimated by performing calculations that depend<br />
on two or more impute parameters such as the<br />
relevant discount rate, certain financial projections, and<br />
a return for routine activities. The temporary regulations<br />
address the arm’s-length range in the context <strong>of</strong><br />
these methods.<br />
CUT Method<br />
The proposed regulations provided for possible use<br />
<strong>of</strong> the CUT method to determine the arm’s-length<br />
charge in the PCT when appropriate in accordance<br />
with the standards <strong>of</strong> the intangibles transfer and controlled<br />
services provisions <strong>of</strong> the section 482 regulations.<br />
Some commentators suggested that any arrangements<br />
that uncontrolled parties may call a cost-sharing<br />
arrangement should serve as a CUT, even though the<br />
arrangement may involve materially different risk allocations<br />
and provisions than addressed in the costsharing<br />
rules.<br />
The temporary regulations, in response, describe the<br />
relevant considerations for purposes <strong>of</strong> evaluating<br />
whether a potential CUT may reflect the most reliable<br />
measure <strong>of</strong> an arm’s-length result. Although all <strong>of</strong> the<br />
factors entering into a best method analysis must be<br />
considered, comparability and reliability under the<br />
CUT method in the CSA context are particularly dependent<br />
on: similarity <strong>of</strong> contractual terms; degree to<br />
which allocation <strong>of</strong> risks is proportional to reasonably<br />
anticipated benefits from exploiting the results <strong>of</strong> intangible<br />
development; similar period <strong>of</strong> commitment as<br />
to the sharing <strong>of</strong> intangible development risks; and<br />
similar scope, uncertainty, and pr<strong>of</strong>it potential <strong>of</strong> the<br />
subject intangible development.<br />
This includes a similar allocation <strong>of</strong> the risks <strong>of</strong> any<br />
existing resources, capabilities, or rights, as well as <strong>of</strong><br />
the risks <strong>of</strong> developing other resources, capabilities, or<br />
rights that would be reasonably anticipated to contrib-<br />
4 At least, I think this is the conclusion in the example. The<br />
concluding sentence <strong>of</strong> the analysis states that ‘‘the Commissioner<br />
concludes that the differences in market-correlated risks<br />
between the two scenarios, and therefore the differences in discount<br />
rates between the two scenarios, relate to the differences in<br />
these components <strong>of</strong> the financial projections.’’ Temp. Treas. reg.<br />
section 1.482-7T(g)(2)(v), Example. Examples illustrating the income<br />
method rules are clearer in illustrating the use <strong>of</strong> different<br />
discount rates. Temp. Treas. reg. section 1.482-7T(g)(4)(vii), Examples<br />
1-3.<br />
SPECIAL REPORTS<br />
ute to exploitation within the parties’ divisions that are<br />
consistent with the actual allocation <strong>of</strong> risks between<br />
the controlled participants.<br />
Income Method<br />
The proposed regulations made the income method<br />
a specified method for purposes <strong>of</strong> evaluating the<br />
arm’s-length charge in a PCT. The arm’s-length charge<br />
was an amount that equated to a controlled participant’s<br />
present value <strong>of</strong> entering into a CSA with the<br />
present value <strong>of</strong> the controlled participant’s best realistic<br />
alternative.<br />
In one application, based on a CUT analysis, the<br />
PCT payee’s best realistic alternative was assumed to<br />
be to develop the cost-shared intangible on its own,<br />
bearing all the intangible development costs (IDCs)<br />
itself, and then to license the cost-shared intangibles. In<br />
the second application, based on a comparable pr<strong>of</strong>its<br />
method analysis, it was assumed that the PCT payer’s<br />
best realistic alternative would be to acquire the rights<br />
to external contributions (renamed platform contributions<br />
under the temporary regulations) for payments<br />
with a present value equal to the PCT payer’s anticipated<br />
pr<strong>of</strong>it, after reward for its routine contributions<br />
to its operations, from the CSA activity in its territory.<br />
Both income method applications provided for a<br />
cost contribution adjustment in order to allocate to the<br />
PCT payer the return for its additional risk, as compared<br />
to its realistic alternative, <strong>of</strong> bearing its RAB<br />
share <strong>of</strong> the IDCs.<br />
Commentators criticized the income method because<br />
it strips away risk returns from the PCT payer.<br />
Commentators pointed to the potential risk differentials<br />
between cost sharing and the alternative arrangements.<br />
Cost sharing would generally be more risky for the<br />
PCT payer than licensing as a result <strong>of</strong> its sharing with<br />
the PCT payee the risks <strong>of</strong> the IDA. Cost sharing, on<br />
the other hand, would generally be less risky for the<br />
PCT payee than licensing. Those comments observed<br />
that these risk differentials would ordinarily be reflected<br />
in different discount rates being appropriate under<br />
the cost-sharing and licensing alternatives.<br />
The temporary regulations in any event adopt the<br />
income method but provide more guidance. In general,<br />
they provide that the best realistic alternative <strong>of</strong> the<br />
PCT payer to entering into the CSA would be to license<br />
intangibles to be developed by an uncontrolled<br />
licensor that undertakes the commitment to bear the<br />
entire risk <strong>of</strong> intangible development that would otherwise<br />
have been shared under the CSA. Similarly, the<br />
best realistic alternative <strong>of</strong> the PCT payee to entering<br />
into the CSA would be to undertake the commitment<br />
to bear the entire risk <strong>of</strong> intangible development that<br />
would otherwise have been shared under the CSA and<br />
license the resulting intangibles to an uncontrolled licensee.<br />
TAX NOTES INTERNATIONAL FEBRUARY 2, 2009 • 465<br />
(C) Tax Analysts 2009. All rights reserved. Tax Analysts does not claim copyright in any public domain or third party content.