U.S. Tax Court Denies Amazon Summary Judgment in Transfer Pricing Case

by: Smith and Howard

September 22, 2014

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The U.S. Tax Court denied Amazon’s motion for a partial summary judgment related to a cost-sharing arrangement (CSA) under the transfer pricing provisions of the U.S. Internal Revenue Code. In, Inc. & Subsidiaries v. Commissioner of Internal Revenue, the court, finding a genuine dispute of material fact, held that Amazon must establish that costs are mixed before applying an allocation method to them.

Tax deficiency notice

U.S.-based Amazon and its U.S. affiliates entered into a CSA with the company’s Luxembourg affiliate to share intangible development costs (IDCs). Amazon developed a formula to allocate costs between the intangible costs and other operating expenses accumulated in six categories the company used to track its expenses. Following the formula, Amazon allocated to intangible costs a portion of the expenses accumulated in the Technology and Content (T and C) category.

The IRS determined that 100% of the T and C category costs constituted IDCs, and, as a result, the amount of those costs allocated to another category (General and Administrative) was also adjusted. The IRS issued a tax deficiency notice to Amazon based on the adjustments.

Amazon sued, seeking partial summary judgment on these two specific issues in the suit:

  1. Whether the IRS abused its discretion by allocating 100% of the T and C category costs to the IDCs under Treasury Regulation Section 1.482-7(d)(1), and
  2. Whether Amazon should be allowed to apply an allocation method to determine IDCs under the regulations.

Sec. 1.482-7(d)(1) provides that “If a particular cost contributes to the intangible development area and other areas or other business activities, the cost must be allocated between the intangible development area and the other areas or business activities on a reasonable basis.”

Court explains decision

The Tax Court held that it couldn’t issue summary judgment (i.e., a judgment solely on the basis of law) on the first issue at the current stage of the litigation. It explained that the issue involved a genuine dispute of a material fact in that the taxpayer must first establish that the T and C category costs are “mixed costs.”

In other words, it must show that the category contains nontrivial costs that contribute to business activities or areas other than the intangible development area. The Tax Court noted that the IRS had sought discovery on this issue and was seeking additional discovery at the time the motion was filed.

The court further held that it couldn’t issue summary judgment on the second issue because it also involved a genuine dispute of a material fact — again, the status of costs as mixed, because that’s a precondition to the application of an allocation method.

The Tax Court accordingly denied Amazon’s motion for partial summary judgment on these two issues.

More to come

In a regulatory filing, Amazon said the IRS is seeking to increase the company’s taxable income over a seven-year period beginning in 2005 that would result in a tax liability totaling $1.5 billion plus interest. The case has been calendared for trial before the Tax Court in November 2014, when the issues for consideration would concern Section 482 deficiencies, as determined by the IRS, in the taxpayer’s income tax for 2005 and 2006.

In addition, Amazon has said foreign tax authorities are investigating its European subsidiaries. The French Tax Administration is investigating the company for the 2006 calendar year. While Amazon said it hasn’t yet received a final assessment, it said it previously received notices of proposed tax assessments for years 2006 through 2010 for additional French taxes of approximately $250 million, including interest and penalties.

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