Tax Court: Western Union/First Data Settles $2B Transfer Pricing Litigation

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On December 15, 2011, Western Union announced that it entered into an agreement with the Internal Revenue Service to settle a long standing transfer pricing dispute with its former parent company, First Data Corporation. According to documents filed with the Securities Exchange Commission, Western Union and First Data agreed to a total of $1.18 billion in transfer pricing related adjustments. The total adjustment included the recognition of $885 million of additional income in 2003 related to First Data’s restructuring plan, which transferred certain intangible assets out of the United States, and additional adjustments between 2004 and 2011 to reach the $1.18 billion total. Penalties were dropped.

Western Union and First Data will make approximately $470 million in payments to satisfy the adjustments under the settlement agreement. Western Union also announced that it will eliminate its tax reserve related to the case and should record a one-time tax benefit of approximately $200 million in 2011.

In March 2009, First Data Corporation filed a petition in the United States Tax Court disputing a notice of deficiency alleging more than $2 billion of transfer pricing related adjustments and penalties. The matter was notable not only for the size of the proposed adjustment but also for several other procedural and tactical moves that took place over the course of the dispute.

While undergoing an examination of its 2003 reorganization and the transfer pricing planning that accompanied that transaction, First Data also was subject to a John Doe Summons in which the IRS sought the names of merchants who transferred money outside the United States using First Data’s services (more particularly Western Union’s services). First Data resisted the Summons but a U.S. District Court judge in Denver ruled that First Data had to turn over the requested information.

Shortly before First Data’s petition was filed in the Tax Court, the Chief Counsel of the IRS issued a Technical Advice Memorandum (TAM), TAM 200907024, which held that the transfer of a portion of a taxpayer’s global delivery business overseas was fully attributable to identifiable intangible assets under section 936(h)(3)(b) therefore gave rise to a deemed royalty under section 367(d). The facts of the TAM were distinctly similar to those of the First Data case and were widely believed be drawn from the First Data examination. Some speculated, appropriately so, that the TAM was part of the IRS’s larger litigation strategy.

Corporate Taxes: Tax Foundation Video

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We don’t get a lot of opportunities to post a video around here so when we do we’re going to take advantage of it. This video provides a pretty direct and succinct explanation of where U.S. Corporate Tax policy has been over the course of the last 25 years. As the title of the video suggests, standing still as a policy has put us behind.

Thanks to The Tax Foundation for producing this video. Check out their Tax Policy Blog too.

Dallas Mavericks Owner on Taxes and Patriotism

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The often outspoken, but unquestionably successful, businessman and owner of the NBA’s Dallas Mavericks, Mark Cuban shared his thoughts on making money (“a boatload of it”) and paying taxes (“lots of taxes”) on his blog a couple of months ago (Sept 19). In short, his take was that the most patriotic thing you could do was to make money, spend money, and pay your taxes.

He followed that post up a couple of weeks ago with his views on corporate taxation. The latter post provoked several comments and the front page of Mr. Cuban’s blog (in post strangely dated September 20) now offers a more detailed explanation of his ideas on the federal government, taxes and small businesses with a list of 10 things that the government should do.

It all makes for fun reading (at least for tax geeks like us) and is shared here for the point that tax policy (or at least strong ideas on tax policy) is increasingly becoming part of the national conversation. It also gives us a chance to post this cool photo of Dirk Nowitzki and Kobe Bryant which is at best tangentially related to anything else on this blog.

Tax Court: Section 951 Inclusions Not Qualified Dividend Income

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The Tax Court, in a Division Opinion by Judge Thornton, determines that required inclusions in income from a controlled foreign corporation pursuant to Section 951 do not constitute qualified dividend income under Section 1(h)(11).

Regular observers of the Tax Court will note this opinion for its careful and persuasive discussion of statutory interpretation and legislative history to decide this issue.

Read the opinion here:
Rodriguez v. Commissioner, 137 T.C. No. 14 (2011)

New York Raises Rates on Highest Earners

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The New York State Legislature, following the lead of Governor Andrew Coumo, may have toppled the domino in the trend to tax higher income earners at higher rates. The two agreed to a measure to increase state income tax rates to 8.82% on those reporting more than $2 million of annual income. Read the New York Times coverage here.

High net worth individuals have been under increased scrutiny by the IRS since the rebranding and reorganization of the Large & Mid Sized Business examination division over a year ago into Large Business & International. Notably the new LB&I organization increased the IRS’s emphasis on the activities of high net worth taxpayers here and abroad. (See the “Wealth Squad” IDR we shared here a few months ago).

Now the talk of increasing rates on America’s highest earners that started with Warren Buffett and William Gates, Sr has found another advocate in the governor and lawmakers of the great state of New York. Whether this is an effect of the Occupy Wall Street movement, a budget necessity or a true compromise as suggested by members of both political parties in the New York General Assembly, the result is higher taxes for the wealthiest New Yorkers and most likely and increased scrutiny of how much they pay.

Tax Court: Look to IRC to Determine Executor for Notice of Deficiency

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In a division opinion, the Tax Court ruled that the beneficiary of an estate who signed the estate tax return and held property of the estate, but had not been appointed executor under state law, was the statutory executor of the estate under IRC Sec. 2203 for purposes of receiving and responding to a statutory notice of deficiency. As such, the Tax Court has jurisdiction to review the estate’s petition.

In an interesting practice note, the opinion also offered the parties guidance on the difference between a motion to dismiss and a motion for summary judgment under the Tax Court rules.

Read the opinion here:
Estate of Gudie, 137 T.C. No. 13 (2011)

Tax Court: Capital Gains, Casualty Losses and Ecdysiasts

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It only takes a couple of paragraphs to recognize a Tax Court opinion drafted by Judge Mark V. Holmes whose distinctive style is inimitable.  In his latest effort, Judge Holmes expounds on sub-genres of hard rock and heavy metal music and flexes his vocabulary to describe what ordinary folks like us might just call a “strip club.”  The taxpayer’s incarceration, risk management techniques, and references to Great White and Head East only added to the tale.  All of this because of an incorrectly reported capital gain following a condemnation action. Taxation should always be so fun.

The 17 page Summary Opinion (which disposed of the taxpayer’s action but cannot be cited for precendent) had us reaching for the dictionary more than once as illustrated by the following sentence:

He rented out the old house to a tenant who installed minor improvements (e.g., poles) and opened an establishment felicitously–and paronomastically–called the “Landing Strip,” in which young lady ecdysiasts engaged in the deciduous calisthenics of perhaps unwitting First Amendment expression.

We couldn’t even find “paranomasia” (the root for the adverb above) in our three and a half inch thick Webster’s Unabridged Dictionary of the English Language.  Fortunately the internet offered up the answer, which the curious can find here. All in a day’s work for Judge Holmes.

In the end, the taxpayer did get a bit of a break on the capital gain asserted by the IRS in the notice of deficiency but you’ll have to run the math yourself to know exactly how much as decision was entered under Tax Court Rule 155.

Read the opinion (and get the depreciation formula for the taxpayer’s gain) here.
Willson v. Commissioner, T.C. Summ 2011-132

(h/t: TaxProfBlog)

New York Times: Lauder Family Artfully Shelters Taxes

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David Kocieniewski, a leading tax reporter for the New York Times, reports that Ronald S. Lauder and his family, heirs to the Estée Laduer fortune, employ a variety of strategies available only to the rich to reduce their tax liability. The article is interesting for covering certain high net worth strategies that have been investigated by the Internal Revenue Service in recent years, but I’m not sure if Mr. Kocieniewski doesn’t overreach a little bit in his discussion of Mr. Lauder’s father’s valuation case in the United States Tax Court. Mr. Kocieniewski writes:

“When Mr. Lauder’s father, Joseph, died in 1983, family members fought the I.R.S. for more than a decade to reduce their estate tax. The dispute involved a block of shares bequeathed to the family — the estate valued it at $29 million, while the I.R.S. placed it at $89.5 million. A panel of judges ultimately decided on $50 million, a decision that saved the estate more than $20 million in taxes.”

Presumably Mr. Kocieniewski is referring to Estate of Lauder v. Commissioner, T.C. Memo 1994-527 which was the third of three memorandum opinions written by Judge Hamblen on behalf of the Tax Court with regard to the Lauder case. It was this third opinion that focused on the valuation of Mr. Lauder’s estate.

Here’s the bone. The entire case, all three opinions, was about the proper valuation of Mr. Lauder’s estate. However, Mr. Kocieniewski writes that because Judge Hamblen determined the proper valuation of the estate was less than the IRS asserted the litigation “saved the estate more than $20 million in taxes.” Isn’t also possible that the IRS valuation was inflated, inaccurate or maybe simply incorrect? (It seems that Judge Hamblen felt as much.) In which case, Mr. Lauder’s estate didn’t “save” any taxes at all but rather paid the proper tax due.

Certainly valuation cases are complicated, and there were several procedural and substantive issues addressed in the Lauder litigation, but the implication that anyone who prevails in the face of a tax liability incorrectly asserted by the IRS is “saving” taxes seems a bit much.  Unfortunately, we cannot share the text of the Lauder estate opinions here without violating a copyright but if you have the tools to investigate them yourself the citations are: Estate of Lauder v. Commissioner, T.C. Memo 1992-736; Estate of Lauder v. Commissioner, T.C. Memo 1992-736; and the above-mentioned Estate of Lauder v. Commissioner, T.C. Memo 1994-527.

If you would like to read Mr. Kocieniewski’s article you can find it here.

Finally, a post script to Mr. Sheldon Cohen, whose comments in the article about the social value of certain tax benefits for benefactors of the arts are well taken.

Bloomberg Reports: IRS Examining Harvard

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The IRS has another initiative underway to uncover taxpayers who may not have been closely examined before. Bloomberg Business reports that the Internal Revenue Service is reviewing more than 30 major colleges and universities for potential deficiencies in unrelated business income tax (UBIT). The focus of the government’s inquiries is on hotels and other properties which may be generating income subject to UBIT. The Bloomberg article emphasizes Harvard but also notes that Notre Dame, Purdue, the University of Texas at Austin, Texas A&M, the University of North Carolina, and the University of Georgia may also be under review.

Read the article here.

Second Circuit Denies Altria’s SILO/LILO Refund Claim

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The Second Circuit Court of Appeals affirmed the trial jury’s decision denying Altria Group’s claim for a tax refund based on four sale in, lease out (SILO) and lease in, lease out (LILO) transactions in 1996 and 1997.

The jury denied the tax refunds based on the judicial theory of substance over form. The district court denied Altria’s post trial motions to overturn the verdict as a matter of law and for a new trial. What is notable about this case is not only that the Second Circuit affirmed the jury decision but affirmed the application of the substance over form doctrine as the rationale for the decision. Prior to this decision, these transactions and other similar transactions have largely been decided under the economic substance doctrine.

Read the opinion here:
Altria Group, Inc. v. United States