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Section 482 Allocations: Judicial Decisions and IRS Practice (Portfolio 553)

Product Code: TPOR40
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Section 482 Allocations: Judicial Decisions and IRS Practice, written by Brian D. Lepard of the University of Nebraska College of Law, examines judicial decisions and IRS practice involving the interpretation and application of §482 and the regulations thereunder to transactions between U.S. controlled taxpayers. This Portfolio is a companion to 551 T.M., Section 482 Allocations: General Principles in the Code and Regulations; and 552 T.M., Section 482 Allocations: Specific Allocation Methods and Rules in the Code and Regulations.  

This Portfolio focuses on an analysis of judicial decisions and IRS guidance, such as revenue rulings and internal IRS rulings and memoranda, applying the provisions of §482 and the extensive regulations under that section to transactions between U.S. taxpayers. It should be consulted in tandem with 551 T.M. and 552 T.M., which lay the analytical foundation for the discussion in this Portfolio and also contain an extensive review of the history of §482 and the regulations and of the detailed rules in the regulations. Naturally, most judicial decisions and sources of IRS guidance refer to this history and those rules and can only be understood in the context provided by them. 

This Portfolio  

  • explains how Section 482 applies only at the discretion of the commissioner and not at the request of the taxpayer and how taxpayers may initiate adjustments to accord with the Arm's-Length Standard 
  • discusses the constitutionality of §482 and the judicial decisions and IRS Practice interpreting the Arm's-Length Standard in the regulations 
  • explores the relationship of §482 to other Code provisions 
  • explains the meaning of “allocation,” allocation of deductions, income, and the allocation of investment tax credits 
  • includes judicial decisions and IRS practice relating to the creation of income doctrine and the commissioner's authority to impute unrealized income 
  • provides a definition of “organization,” exempt organizations, and a flexible interpretation of “trade or business”

Section 482 Allocations: Judicial Decisions and IRS Practice allows you to benefit from:

  • Hundreds of hours of original research on specific tax planning topics from leading practitioners in this area
  • Invaluable practice documents including tables, charts and lists
  • Plain-English guidance from world-class experts
  • Real-world and in-depth analysis that lets you explore various options
  • Time-saving access to relevant sections of tax laws, regulations, court cases, IRS documents and more
  • Alternative approaches to both common and unique tax scenarios

This Portfolio is part of the U.S. Income Portfolios Library, a comprehensive series that includes more than 200 Portfolios, which covers every federal tax topic with expert, in-depth analysis, and offer commentary on a wide range of federal taxation topics, including Compensation Planning, Deductions and Credits, Partnerships and Corporations, Special Pass-Through Entities, Corporate Reorganizations, Real Estate, Procedure and Administration, and more. 

Buy Section 482 Allocations: Judicial Decisions and IRS Practice (Portfolio 553) now.

Detailed Analysis

I. Introduction

A. The Purpose of the Portfolio

B. The Function of Section 482 and a Brief History

1. The Code

2. Congress’ Purpose in Enacting § 482

3. The Regulatory History

C. An Example of Income Shifting and Possible Incentives for Income, Deduction or Credit Shifting

D. An Overview of Alternative Allocation Methods

E. IRS Practice in Pursuing Domestic § 482 Cases

F. Organization of the Portfolio

G. A Suggested Approach to § 482

II. Some Problems of Interpretation under the Statute Addressed in Judicial Decisions and IRS Practice

A. Introduction

B. The Relationship of § 482 to Other Code Provisions

1. Introduction

2. A Suggested Approach

3. Judicial Decisions and IRS Practice

C. Definitions of “Organizations, Trades or Businesses”

1. The Statutory Purpose of the Language: A Codification of General Tax Avoidance Principles for all Taxpayers or a Focus on Income Shifting Among Businesses Only?

2. Definition of “Organization”

3. Exempt Organizations

4. Corporations Filing a Consolidated Return

5. A Flexible Interpretation of “Trade or Business”

6. Investment Activities as a “Trade or Business”

7. Leasing Activities as a “Trade or Business”

8. Permissibility of Allocations Among Different Trades or Businesses Conducted by a Single Legal Entity

9. The Trade or Business of Being an Employee

10. Judicial Decisions and IRS Practice Involving Personal Service Corporations

a. Sole Proprietorship Cases

b. Employee Cases Not Involving a Sole Proprietorship

11. Judicial Decisions and IRS Practice Involving Entities Other Than Personal Service Corporations

D. Definition of “Owned or Controlled Directly or Indirectly by the Same Interests”

1. The Statutory Language

2. Definition of “Control”

a. Introduction

b. Judicial Decisions and IRS Practice on the Definition of “Control”

(1) Actual or Effective Control

(2) Time When Common Control Must Exist

(3) Presumption of Control

(4) Control of Trusts and Estates

(5) Parent-Subsidiary Entities

(6) Brother-Sister Entities

(7) Ownership of a Corporation by Two 50% Shareholders

(8) Common Design

3. Judicial Decisions and IRS Practice Relating to the Definition of “Ownership”

E. The Meaning of “Allocation”

1. Judicial Decisions and IRS Practice Relating to the Creation of Income Doctrine and the Commissioner's Authority to Impute Unrealized Income

2. Allocation of Deductions as Well as Income

a. In General

b. Cases Involving the “Prohibited Disallowance” Doctrine

c. Cases Involving Formulary Apportionment of Deductions

d. Other Cases Involving Allocation of Deductions

e. Allocation of Investment Tax Credits

F. Tax Evasion Not a Prerequisite to an Allocation

G. Common Control by Itself Does Not Warrant an Allocation

H. Section 482 Applies Only at the Discretion of the Commissioner and Not at the Request of the Taxpayer; However, Taxpayers May Initiate Adjustments to Accord with the Arm's-Length Standard

I. The Constitutionality of § 482

III. Judicial Decisions and IRS Practice Interpreting the Arm's-Length Standard in the Regulations

A. Introduction

B. Interpretation of the General Arm's-Length Standard

C. Some Specific Problems Relating to Interpretation of the Arm's-Length Standard in the Regulations

1. The Meaning of “Uncontrolled Taxpayers”: Does “Uncontrolled” Mean “Unrelated” or Could It Also Encompass “Related But Uncontrolled Taxpayers” or Even “Controlled Taxpayers”?

2. Role of the Actual Transaction Undertaken

3. A Focus on Results, Not Methods

4. No Allocation of Assets

5. Compulsory Consolidation No Longer Prohibited

6. The “Best Method Rule” in the 1994 Regulations

7. Code Recharacterization of Transactions

8. Special Circumstances

a. Market Share Strategy

b. Different Geographic Markets

c. Location Savings

9. The Arm's-Length Range and the Standard of Review

10. Consideration of Multiple Year Data

IV. Judicial Decisions and IRS Practice Involving the Relationship Between Section 482 and Traditional Judicial Anti-Tax Avoidance Doctrines

A. Background

B. Judicial Decisions and IRS Practice

1. Involving the Sham Entity Doctrine

a. In General

b. Surtax Exemption Cases

2. Involving an Agency Relationship

3. Involving the Sham Transaction Doctrine

4. Involving the Substance over Form Doctrine

5. Involving the Business Purpose Doctrine

6. Involving the True Earner Principle

7. Involving the True Earner Principle and the Completed Contract Method of Accounting

8. Involving the Assignment of Income from Property Doctrine

9. Involving the Step Transaction Doctrine

V. Judicial Decisions and IRS Practice Addressing the Burden of Proof in § 482 Cases

A. Judicial Decisions and IRS Practice under Pre-1998 Law

1. General Principles

2. Cases Involving No Shifting of the Burden of Proof

3. Cases Involving the Shifting of the Burden of Proof to the IRS

4. Cases Where the Court Did Not Shift the Burden Because it Found Fair Warning

5. Cases Holding § 482 Not to Apply at All Where No Fair Warning

6. Cases Finding No Shifting of Burden Even Where IRS Did Not Rely on § 482

7. Section 482 May Be Invoked Only by the Treasury Department and Not by the Department of Justice

B. Judicial Decisions and IRS Practice under the 1998 Act

VI. Judicial Decisions and IRS Practice Involving Transfers of Tangible Property

A. Overview

B. The Comparable Uncontrolled Price (“CUP”) Method

1. General Overview

2. Judicial Decisions and IRS Practice Involving the CUP Method in the Regulations

C. The Resale Price Method

1. General Overview

2. Judicial Decisions and IRS Practice Involving the Resale Price Method

D. The Cost Plus Method

1. General Overview

2. Judicial Decisions and IRS Practice Involving the Cost Plus Method

E. Unspecified (“Fourth”) Methods

1. In the Regulations

2. In Judicial Decisions and IRS Practice

VII. Judicial Decisions and IRS Practice Involving the Use of Tangible Property

A. The General Arm's-Length Standard

1. Excessive Rental Charges

2. Insufficient Rental Charges

3. Nonpayment of Rents Due Under a Lease Agreement

4. Arm's-Length Rent Equals Zero

5. No Income Realized from Assumption of a Lease with Excessive Rents

B. Safe Haven Rental Charge for Pre-May 1986 Leases

C. Deemed Arm's-Length Rental Charge for Subleases

VIII. Judicial Decisions and IRS Practice Involving the Performance of Services

A. The General Arm's-Length Standard

1. In the Regulations

2. Relationship Between the General Arm's-Length Standard in the Regulations and the True Earner Principle

3. Judicial Decisions and IRS Practice

a. Involving Personal Service Corporations

b. Other Cases Involving Domestic Transactions

c. IRS Practice Involving an Arm's-Length Charge for Services

B. The Safe Harbor Deemed Arm's-Length Charge

1. In the Regulations

2. Judicial Decisions and IRS Practice

C. The General Arm's-Length Standard Applicable to Services That Are an “Integral Part” of the Taxpayer's Business

D. Services Rendered in Connection with the Transfer of Property

E. Conclusion

IX. Judicial Decisions and IRS Practice Involving Loans or Advances

A. Introduction

B. The General Arm's-Length Standard

1. Judicial Decisions and IRS Practice Involving the Issue of Bona Fide Indebtedness

2. Judicial Decisions and IRS Practice Involving a General Arm's-Length Interest Rate

C. The Financially Troubled Debtor

D. Safe Haven Interest Rates

E. The Situs Rule

F. Intercompany Trade Receivables

G. Personal Holding Company Income

X. Judicial Decisions and IRS Practice Involving the Transfer of Intangibles

A. Introduction

B. General Principles in the Regulations

C. Judicial Decisions and IRS Practice Involving the Transfer of Intangibles

1. Applying the Commensurate with Income Standard

2. Applying Specified Methods in the Regulations

3. Applying Unspecified Methods

a. Bonds or Notes

b. Stock

c. Oil Rights

d. Patents

e. Licenses or Contract Rights

f. Trade Names, Good Will, Franchise Agreements, and Similar Intangibles

D. Conclusion

XI. Judicial Decisions and IRS Practice Involving the Comparable Profits Method

A. Overview

B. Judicial Decisions and IRS Practice

C. Conclusion

XII. Judicial Decisions and IRS Practice Applying Profit Split Methods

A. General Principles in the Regulations

B. Judicial Decisions Applying Profit Split Methods

C. IRS Practice Applying Profit Split Methods

D. Conclusion

XIII. Judicial Decisions and IRS Practice Involving Collateral Adjustments

A. Introduction

B. Overview of Regulatory Provisions Relating to Correlative Allocations

C. Overview of Regulatory Provisions Relating to Conforming or Secondary Adjustments

1. Definition and Function of Conforming Adjustments

2. Rev. Proc. 99-32 and Rev. Proc. 65-17 Relief

D. Judicial Decisions and IRS Practice Involving Correlative Allocations and Conforming Adjustments

1. Correlative Allocations

2. Conforming Adjustments

a. Conforming Adjustments Involving Brother-Sister Corporations

(1) Constructive Distribution Followed by Capital Contribution

(2) Direct transfer

b. Conforming Adjustments Involving Parent-Subsidiary Corporations

E. Other Collateral Effects

XIV. Judicial Decisions and IRS Practice Involving Setoffs

A. General Principles in the Regulations

B. Judicial Decisions and IRS Practice

XV. Judicial Decisions and IRS Practice Involving the Effect of Legal Restrictions

A. Introduction

B. General Principles in the Regulations

C. Judicial Decisions and IRS Practice

XVI. Judicial Decisions and IRS Practice Involving the Relationship Between § 482 and Nonrecognition Transactions

A. Introduction

B. General Principles in the Regulations

C. Critique of the Provisions of the Regulations

D. Judicial Decisions and IRS Practice

1. Involving the Relationship Between § 482 and § 351 or § 118

a. Involving Allocation of Income or Losses from the Corporation to the Shareholder

(1) Cases and Rulings in Which an Allocation Was Upheld

(2) Cases or Rulings in Which an Allocation Was Not Upheld or Made

b. Involving § 351 and the Separation of Expenses from Related Income

2. Involving the Relationship Between § 482 and Other Code Sections

a. Section 311

b. Sections 336 and 337

c. Sections 354, 356, and 361

d. Section 1031

e. Section 108

f. Section 704

g. Section 721

h. Sections 731 and 732

i. Sections 1501 et seq.

j. Subchapter T Cooperatives

XVII. Judicial Decisions and IRS Practice Involving Cost Sharing Arrangements

A. Background: The Use of Cost Sharing Arrangements

B. Judicial Decisions Involving Cost Sharing Arrangements

C. IRS Practice Involving Cost Sharing Arrangements

XVIII. Judicial Decisions and IRS Practice Involving Penalties

A. Overview of the Code and Regulations

B. Judicial Decisions Involving Penalties

C. IRS Practice Involving Penalties

D. Conclusion

Working Papers

Table of Worksheets

Worksheet 1 Preamble to the 1994 § 482 Regulations

Worksheet 2 Preamble to the 1995 § 482 Cost Sharing Regulations

Worksheet 3 The 1935 Regulations

Bibliography

OFFICIAL

Statutes:

Legislative History:

Treasury Regulations:

Treasury Rulings:

Cases:

UNOFFICIAL

Treatises:

Periodicals:

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Brian D. Lepard
Brian D. Lepard is Associate Professor of Law at the University of Nebraska College of Law, where he has taught the basic course on taxation and courses on the international aspects of U.S. income taxation, the corporate tax, tax policy and business planning. He has published an article on the arm's length standard and is the principal co-author of BNA's Health Law & Business Portfolio No. 2000, Unrelated Business Income Tax Issues in Health Care (1996). Before becoming a professor of law he worked for six years as an associate at the Philadelphia law firm of Dechert Price & Rhoads, where he practiced tax law with an emphasis on the international aspects of U.S. income taxation and the taxation of exempt organizations.