tax notes international - Tuck School of Business - Dartmouth College

Figure 10
FS
A
Mfg
20%
10% incentive rate
11. Example 9 — Figure 11
FS has two branches, Branch A and Branch B, located
in Country A and Country B, respectively. FS
purchases from a related person raw materials that are
physically manufactured into Product X by an unrelated
corporation (CM). CM manufactures the product
outside FS’s country of organization. FS manages
manufacturing costs and capacities for the manufacture
of Product X through employees located in Country
M. Employees of FS located in Country M oversee the
coordination between the branches.
Branch A, through the activities of employees of FS
located in Country A, designs Product X, controls
manufacturing-related logistics, and controls the raw
materials and work-in-process during manufacturing.
Branch B, through activities of employees of FS located
in Country B, provides quality control and oversight
and direction during the manufacturing process.
Employees of FS located in Country M sell Product X
to unrelated persons for use outside Country M. Country
M imposes an effective rate of tax on sales income
of 10 percent, Country A imposes an effective rate of
tax on sales income of 12 percent, and Country B imposes
an effective rate of tax on sales income of 24
percent. None of the remainder, Branch A or Branch
B, independently satisfies the manufacturing tests, although
FS as a whole provides a substantial contribution
to the manufacture of Product X. The activities of
the remainder of FS and Branch A, if considered together,
would not provide a demonstrably greater contribution
to the manufacture of Product X than the
activities of Branch B.
The tested sales location is Country M. The location
of Branch B is the tested manufacturing location because
there is a tax rate disparity and Branch B is the
only manufacturing branch that would be treated as a
separate corporation. The manufacturing activities performed
in Country A will be included in the contribution
of the remainder of FS for purposes of determin-
ing the location of the manufactured Product X,
because there is not a tax rate disparity. The location of
manufacture is Country B. Branch B is treated as a
separate corporation. To determine whether income
from the sale of Product X is FBCSI, the remainder of
FS takes into account the activities of Branch A because
there is no tax rate disparity. The remainder of
FS is considered to have manufactured Product X because
the manufacturing activities of the remainder
and Branch A, considered together, make a substantial
contribution to the manufacture of Product X. Therefore,
income from the sale of Product X by the remainder
of FS does not constitute FBCSI. (See Figure 11.)
Figure 11
FS
A B
SPECIAL REPORTS
Activities
10%
Activities 12% Activities 24%
Location of
Mfg MFG
Cost Sharing: Temporary Regulations
The IRS and Treasury issued temporary and proposed
regulations that cover cost-sharing arrangements
(CSAs) beginning on January 5, 2009, but with important
grandfather rules for existing CSAs. (For the temporary
regs, see Doc 2008-27341 or 2009 WTD 1-24.) The
temporary regulations apply to buy-in transactions
(now called platform contribution transactions, or
PCTs) that occur on or after the date of a material
change in the scope of a grandfathered CSA. Whether
a material change in scope has occurred is determined
on a cumulative basis, and a series of expansions, any
one of which is not a material expansion by itself, may
collectively constitute a material expansion.
While the temporary regulations represent an improvement
over the proposed regulations, the temporary
regulations still rely heavily on the controversial
‘‘investor model’’ and the special pricing methods for
PCTs. At the inception of a CSA, all participants in
the CSA should expect to earn a return on their total
investment that is appropriate given the risk associated
with each participant’s activities under the CSA. The
investor model treats each participant in the CSA as
having made an investment composed of its share of
TAX NOTES INTERNATIONAL FEBRUARY 2, 2009 • 459
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