As a rule, the U.S. Tax Court is the venue for transfer pricing litigation in the U.S. But recently, transfer pricing analyses have come up in both a bankruptcy case involving Nortel Networks and a whistleblower case involving Vanguard Group Inc. In the Nortel case, the company's defunct Canadian parent and its U.S. and European subsidiaries are deeply divided over how or whether a transfer pricing agreement that governed research and development among the companies should dictate the allocation of $7.3 billion in liquidated assets. And U.K. pensioners argue that the fairest way to proceed is not to allocate the assets at all, but to divide the funds on a pro rata basis—an argument one bankruptcy expert says faces very long odds.
Meanwhile, a former employee of the management company for Vanguard has filed a petition in New York Supreme Court charging that the mutual fund giant has operated as an “illegal tax shelter” for nearly 40 years. David Danon worked as an in-house tax attorney for Vanguard Group Inc. until he was discharged in 2013, and claims that VGI violated Section 482 by providing administrative and management services “at cost” to its affiliated funds. This pricing strategy, he says, has not only sheltered millions in state and U.S. taxes, but given Vanguard a competitive edge in the mutual fund industry.
Excerpts from both stories, written by Transfer Pricing Reportstaff writer Dolores W. Gregory, follow.
The transfer pricing arrangements of defunct telecommunications giant Nortel Networks may dictate how the proceeds from the multinational's liquidation are divided, according to documents filed in the U.S. Bankruptcy Court for the District of Delaware.
In a proceeding being tried simultaneously in Delaware and Canada, Nortel Networks Inc. (NNI), its Canadian parent and its European affiliates are battling each other and some 56,000 pensioners in the U.K. and Canada over the division of $7.3 billion in proceeds from the multinational's liquidation. Of those funds, $2.9 billion was generated by the sale of individual lines of business, while $4.5 billion resulted from the sale of some 7,000 patents to a consortium of high-technology giants that included Microsoft Corp., Apple Inc. and Sony Corp.
On June 24, the U.S. Bankruptcy Court in Wilmington, Del., and the Ontario Superior Court of Justice in Toronto concluded six weeks of testimony from various parties who advanced radically different notions of how those funds should be allocated.
While the three debtor groups involved appear to agree that the allocation should be based on the value of the property transferred or surrendered by the debtors, they are deeply divided about the basis for the valuation.
The most extreme position, taken by the Canadian debtors, is that the bulk of the estate—including the entire patent portfolio—should be allocated to Canada because Nortel Networks Ltd. (NNL), the operating parent, held legal title to the property before the asset sale. The Canadian debtors argue that the appropriate allocation of assets would be 82.2 percent to Canada, 13.7 percent to the United States, and 4.1 percent to the European debtors.
'One of the Greatest Heists of Value'
Such an allocation scheme would put NNL's creditors at a significant advantage over the creditors of other debtor estates, including 36,000 pensioners in the United Kingdom, and it is bitterly opposed by the other parties. According to the Ad Hoc Group of Bondholders, in a brief filed May 12, “the Canadian Debtors' position, if adopted, would represent one of the greatest heists of value in history” and is a theory “concocted solely for this litigation.”
The appropriate allocation, the bondholder group says, is the one proposed by the U.S. interests, which is based on the fair market value of the affiliates' licenses to the intellectual property.
The U.S. interests group represents NNI and related affiliates, along with the Official Committee of Unsecured Creditors. It argues that its valuation approach is consistent with the terms of the master R&D agreement that granted various Nortel subsidiaries exclusive licenses to exploit the company's intellectual property within their territories.
According to the U.S. interests, nearly 74.3 percent of the patent portfolio and 70 percent of the business lines proceeds should be allocated to the U.S., while 9.7 percent of the patent portfolio and 11.9 percent of the business lines proceeds should go to Canada. The remainder of the portfolios—16 percent and 18 percent, respectively—should be allocated to the European debtors.
Positions of the Estates
The positions of the other debtor estates and creditor groups are laid out in court filings. Among them:
“The issues presented in the complaint are far too complex to get a full and proper hearing in the news media,” she said in an e-mail, adding that “Vanguard has operated under its unique structure for nearly 40 years and has always considered it a highest priority to satisfy our obligations under the law and the rules set forth by the SEC, the IRS, and the DOL, among other regulators and agencies.”
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Molly Moses, Managing Editor, Transfer Pricing Report
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