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By Che Odom
An administrative law judge will take the next few weeks to decide whether to toss a claim by the District of Columbia’s tax and revenue office against ExxonMobil, Shell, and Hess based on a controversial method for determining income.
Both sides—the oil companies and D.C. tax officials—are also being given the opportunity to summarize in seven-page briefs their arguments based on oral arguments held Sept. 14 ( ExxonMobil Oil Corp. v. D.C. Office of Tax and Revenue , D.C. Office of Admin. Hearings, No. 2011-OTR-00049, hearing 9/14/17 ).
ExxonMobil Corp., Hess Corp., and Dutch Royal Shell Plc are challenging multimillion-dollar assessments for tax years 2007-09 based on transfer pricing studies conducted by Chainbridge Software LLC, an outside contractor for the Office of Tax and Revenue. Transfer pricing is a method in which entities within a company sell goods and services to one another, thereby transferring the cost of those items and the related tax burden.
Looking for income that should be counted as earnings from sales in the District of Columbia, Chainbridge’s transfer pricing method compares the overall profits of a taxpayer with the overall profits of its competitors.
A central issue in the case is whether the tax office was required to distinguish between controlled and uncontrolled transactions and whether the office did so in relying on Chainbridge’s software.
Attorneys for the city’s tax office argued that an evidentiary hearing in the matter ought to be held so that Administrative Law Judge Bernard Weberman of the city’s Office of Administrative Hearings can make an informed decision.
At the end of the Sept. 14 hearing on the companies’ motion for summary judgment, Weberman gave the city three weeks to submit a brief distilling its arguments on the central issues. He will give the companies two weeks to respond, then he will make his decision on the companies’ motion, he said.
Stephen Kranz, a tax attorney and partner at McDermott Will & Emery, said D.C. is the only jurisdiction that relies on Chainbridge software transfer pricing reports for assessing taxes without conducting audits, though other jurisdictions do use the software for other purposes. Minnesota, Alabama, and Vermont are among the jurisdictions using Chainbridge software.
Kranz, who represented Microsoft Corp. in its successful 2012 challenge of D.C.'s tax assessment based on Chainbridge’s transfer pricing method, said the same approach was used to determine Microsoft’s D.C. income.
In the 2012 case, Kranz said his team attained a copy of the Chainbridge software and had its experts pick it apart, finding that the software used tax filings and public securities filings to “spit out a number.”
“There was no analysis of books and records,” he said.
Miller Baker, a partner at McDermott, said that’s a problem because the relevant regulation governing transfer pricing requires city tax officials to at least attempt to distinguish transactions that are “controlled” by the taxpayer and those that are “uncontrolled.” The oil companies should also be taxed on transactions they controlled and that can be attributed to activity in the city.
“During the so-called audit, we asked them to do that, and they said ‘No,’ ” Baker told judge Weberman. Baker is one of three attorneys representing the oil companies in the District of Columbia case.
“They have said they don’t care to separate out controlled and uncontrolled transactions,” Baker told the judge.
The city is attempting to relitigate the 2012 case, in which the D.C. Office of Administrative Hearings rejected the Chainbridge method. Office of Tax and Revenue Chief Counsel Alan Levine said it was decided incorrectly. That decision has no controlling authority, which means Weberman can decide differently.
Attorneys for the Office of Tax and Revenue said the issue is more about economic analysis than law. The method used by Chainbridge, and adopted by D.C., looked at profits of the oil companies and their peers to look for income ExxonMobil, Hess, and Shell may have shifted to other, low-tax jurisdictions away from D.C., Levine told Weberman.
Chainbridge’s transfer pricing method has been criticized by the Council On State Taxation, an organization that represents taxpayers. COST called it “a distorted and erroneous transfer-pricing scheme that failed to comply with the ‘comparable profits method’ prescribed” in Section 482 of the Internal Revenue Code, which is similar to a section of the D.C. Code.
Jessica Brown, assistant general counsel for the tax and revenue office, told the judge that Chainbridge looked at the facts and circumstances surrounding the companies in determining what income should be attributed to the city, which is often a more accurate way of measuring income in global companies of such size and complexity.
Chainbridge found that the D.C. income reported by the three companies was much lower than consolidated income of comparable companies, such that their D.C. related income was negative or very slightly positive, she said. Brown said that demonstrates income was shifted to other jurisdictions.
To contact the reporter on this story: Che Odom in Washington at COdom@bna.com
To contact the editor responsible for this story: Jennifer McLoughlin at firstname.lastname@example.org
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