Intellectual Property: Exploitation and Disposition (Portfolio 558)

Be a trusted advisor to your clients with Bloomberg BNA Tax Portfolios. In this portfolio, Premier tax experts describe the rules relating to the taxation of income from the exploitation and disposition of patents, copyrights, know-how and trade secrets (referred to generically as “know-how”), and trademarks and trade names. 

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The Intellectual Property: Exploitation and Disposition, No. 558-2nd portfolio describes the rules relating to the taxation of income from the exploitation and disposition of patents, copyrights, know-how and trade secrets (referred to generically as “know-how”), and trademarks and trade names. With respect to a fifth type of intellectual property, computer software, this portfolio refers the reader to Tax Management Portfolio, Federal Taxation of Software and E-Commerce, No. 555, which provides a detailed description of the U.S. federal income tax treatment of income from the exploitation and disposition of computer software.

The first section of this portfolio summarizes the analytical framework (both common law tax concepts and specific statutory provisions) for determining the taxation of income from the exploitation and disposition of intellectual property in addition to concepts and provisions which are applicable to more than one type of intellectual property. The second and final section of this portfolio then applies that framework to patents, copyrights, know-how and trade secrets, and trademarks and trade names.

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Bloomberg BNA Portfolios are written by leading tax professionals who set the standard as leaders in their fields. The Intellectual Property: Exploitation and Disposition portfolio was authored by the following attorneys.  




Harsha Reddy is a partner in the law firm's Tax practice and is located in the New York office. He represents U.S. and foreign business entities and individuals in the U.S. federal income tax aspects of international transactions; buyers and sellers in asset and stock purchases and sales; individuals and business entities in tax-free mergers and divestitures; corporations in business restructurings; domestic and foreign issuers and underwriters in offerings of various securities; domestic and foreign lenders and borrowers in various types of financings; and businesses in the tax aspects of project finance.


He is the author of the treatises “Intellectual Property: Acquisition, Development and Ownership” and “Intellectual Property: Exploitation and Disposition” in the Bloomberg BNA Tax Management Portfolio series.


He is also a co-author of the treatise, “Stock Purchases Taxed as Asset Acquisitions - 338,” in the Bloomberg BNA Tax Management Portfolio series.


Credentials / Yale University (1993, magna cum laude, distinction in Economics, Phi Beta Kappa); J.D., Harvard Law School (1996, cum laude); co-author, 788 T.M., Stock Purchases Treated as Asset Acquisitions — Section 338; member, Tax Management U.S. Advisory Board.


Detailed Analysis

I. Introduction

A. Overview

B. Patents and Know–how

C. Capital Gains and Losses

D. Research and Development Expenditures

E. Ancillary Matters

II. Copyrights and Computer Software

A. Substantive Law

1. Overview

a. Copyright Law Until 1976

b. The 1976 Act

c. The Berne Convention

2. Subject Matter and Scope of Copyright

a. What is Protected?

b. Duration

c. Formalities

d. Transfers and Ownership

3. Computer Software

4. Infringement

a. Elements of an Infringement

b. Remedies for Infringement

c. Fair Use

B. Developmental Expenditures

1. Overview

2. Applicability of Section 174 to Copyrights

3. Expenditures of Professional Creators

a. Expenditures Before 1976

(1) Why Pre-1976 Law Is Relevant

(2) Background

(3) Rev. Rul. 73-395 and Section 2119 of the Tax Reform Act of 1976

b. Expenditures from 1976-1986

(1) Section 280

(2) Interpreting Section 280

c. Expenditures After 1986

(1) Overview

(2) Capitalization Under Section 263A

(3) Notice 88-62

(4) TAMRA Changes

(5) Regs. 1.263(a)-4 and Regs. 1.167(a)-3

(6) Summary of the Current Status of the Law

d. Section 195-Start-Up Expenses

4. Developmental Expenditures of Amateurs

a. In General

b. Qualifying for Trade or Business Status

c. Expenditures for the Production of Income

d. Activities Not Engaged in for Profit

5. Computer Software Development Costs

6. Purchase Costs of Existing Copyrights

7. Publisher's Costs

a. Acquisition and Prepublication Costs

(1) General

(2) Costs Before 1987

(3) Costs After 1986

b. Circulation Costs

8. Treatment of Capitalized Costs

a. Depreciation in General

b. Creators

(1) In General

(2) Straight-Line Method

(3) The Income Forecast Method

(4) Other Methods

c. Non-Creators

C. Taxation of Licenses of Copyrights

1. Overview

2. Nonexclusive Licenses

3. Exclusive Licenses-Treatment of Licensor

a. Character

(1) Overview

(2) Section 1221(a)(1) Property

(3) Section 1221(a)(3) Property

(4) Section 1231 Property

(5) Sales by a Third Party

(6) Compensation, Assignment of Income and Other Payments Distinguished

(7) Overlap of Patent and Copyright Protection

(8) Summary

b. What Constitutes an Exclusive License

(1) Overview

(2) Fragmentation by Medium

(3) Geographical Restrictions

(4) Limits on Duration and Reversionary Rights

(5) Right to Defend Against or Sue for Infringement

(6) Right To Terminate

(7) Retention of a Right to Use

(8) Tax Shelter Movie Cases

c. Undivided Interests

d. Tax Treatment of Payments to a Licensor

(1) Creators

(2) Non-Creators

(3) Payment for Infringement

(4) Depreciation Recapture

4. Exclusive Licenses-Treatment of Licensee

a. Nonexclusive Licenses

b. Exclusive Licenses

(1) Lump Sum Payments

(2) Contingent Payments

c. Payments for Infringement

5. Payments to Employees

D. Computer Software

1. Overview

2. Computer Software Purchase Costs and Development Costs

a. Applicability of 174 (Rev. Proc. 2000-50)

b. Tax Credit for Increasing R & D Costs

3. Licenses of Computer Software

a. Patent vs. Copyright vs. Trade Secret

b. Nonexclusive Licenses

(1) Treatment of Licensor

(2) Personal Holding Company Issues

(3) S Corporation Passive Income

(4) Treatment of Licensee

c. Exclusive Licenses

(1) General

(2) Character of Income

4. Classification of Transactions Involving Computer Programs

a. Transfers of a Copyright Right

b. Transfer of a Copyrighted Article

c. Provision of Services

d. Provision of Know-How

e. Effective Date

III. Trademarks, Service Marks, Trade Names and Franchises

A. Overview

B. Substantive Law

1. What is Protectable?

a. Trademarks

b. Trade Dress

c. Trade Names

d. Service Marks

2. Requirements for Protection

a. Distinctiveness

(1) Arbitrary and Fanciful Marks

(2) Suggestive Marks

(3) Descriptive Marks

(4) Generic Marks

b. Secondary Meaning

c. Functionality

3. Legal Protection

a. Protection Through Use

b. Federal Registration

4. Infringement

a. Likelihood of Confusion

b. Duration

c. Fair Use

C. Costs to Develop, Acquire and Defend a Trademark Prior to the 1993 RRA

1. Overview

2. Currently Deductible Costs

3. Section 174

4. Infringement and Related Expenditures

a. Overview

b. Payments in Settlement of Litigation

c. Payments to Restrain Infringement

d. Payments to Defend

e. Former 177

5. Package Design Costs

D. Transfers of Trademarks, Service Marks, Trade Names and Franchises

1. Overview

a. Historical Background

b. Section 1253

(1) Reasons for Enactment

(2) Overview of the Statute and Regulations

(3) Transfers Outside Section 1253: Sales for Lump Sums with No Retention of Interest

2. Transfers Under Section 1253

a. What Transfers Are Covered

(1) What Is a Franchise, Trademark or Trade Name?

(2) What Is A Transfer?

(3) What Is a Significant Power, Right or Continuing Interest

(4) Transfers from Existing Franchisees

b. Treatment of Payments - Transferor

(1) Fixed Sum

(2) Contingent

c. Treatment of Payments - Transferee

(1) Payments Under the 1993 RRA

(2) Fixed Sum Payments

(3) Contingent Payments

3. Non– 1253 Transfers

a. Treatment by the Transferor

b. Treatment by the Transferee

4. Personal Holding Company Issues

5. Payments for Infringement

a. Payee's Treatment

b. Payor's Treatment

6. Payments to Cancel A Distributor's Agreement - 1241

7. Payments to Acquire or Cancel a Right

IV. Ancillary Considerations

A. Personal Holding Company Issues

1. General

2. Copyrights

3. Computer Software

4. Trademarks and Franchises

B. Deferred Payment Sales

1. Fixed Sum Payment Sales

2. Contingent Payment Sales

a. Installment vs. Open Transaction Reporting

b. Interest

C. Assignment of Income Issues

D. Size of Retained Royalties on Sales for Contingent Payments

E. Licenses Between Related Parties

1. General

2. Arm's Length

3. Section 267 - Losses

4. Sections 1239 and 707-Ordinary Income

F. Foreign Related Transactions

G. Charitable Contributions

V. Amortization Under the 1993 RRA

A. Overview

B. Section 197 Intangibles

1. Amortizable Section 197 Intangibles

2. Copyrights

3. Computer Software

4. Franchises, Trademarks and Trade Names

5. Other Assets

C. Period of Amortization

1. Copyrights and Computer Software

2. Franchises, Trademarks and Trade Names

3. Safe Harbor Amortization

D. Dispositions of 197 Intangibles

E. Anti-Churning Rules

1. What Transfers Do Not Qualify

2. Exception Where Gain is Recognized

F. Effective Date

1. General Rule

2. Election to Have Section 197 Apply

3. Elective Binding Contract Exception


Working Papers

Table of Worksheets

Other Resources

Worksheet 1 Revenue Ruling 60-226: Contingent Payment Allowed

Worksheet 2 Revenue Ruling 73-395: Inventory of Publishing Costs

Worksheet 3 Notice 88–62: Uniform Capitalization Rules for Authors of Creative Properties

Worksheet 4 Revenue Ruling 89-23: Package Design Costs

Worksheet 5 Revenue Procedure 97-35: Methods of Accounting for Package Design Costs

Worksheet 6 Revenue Procedure 69-21: Amortization of Software Costs

Worksheet 6A Revenue Procedure 97-50: Year 2000 Conversion Costs

Worksheet 6B Rev. Proc. 2000-50, 2000-52 I.R.B.

Worksheet 7 1986 Blue Book Explanation of Provisions Relating to Active Business Computer Software, Joint Committee on Taxation, General Explanation of the Tax Reform Act of 1986, P.L. 99–514, 99th Cong., 2d Sess. 371–374 (1987).

Worksheet 8 1993 RRA Conference Report Explanation of the Treatment of Intangibles, H.R. Rep. No. 213, 103d Cong., 1st Sess. 672–698 (1993).

Worksheet 9 [Reserved]

Worksheet 10 Preambles to REG-209709-94, 62 Fed. Reg. 2336 (1/16/97); and T.D. 8865, 65 Fed. Reg. 3820 (1/25/00) (Regs. 1.197-2)