[Federal Register Volume 61, Number 93 (Monday, May 13, 1996)]
[Rules and Regulations]
[Pages 21955-21957]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-11781]
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DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 1
[TD 8670]
RIN 1545-AU20
Revision of Section 482 Cost Sharing Regulations
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Final regulations.
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SUMMARY: This document contains final regulations relating to qualified
cost sharing arrangements under section 482 of the Internal Revenue
Code. These regulations reflect technical changes to the requirements
for qualification as a controlled participant under the final cost
sharing regulations published in the Federal Register on December 20,
1995.
DATES: These regulations are effective May 13, 1996.
These regulations are applicable for taxable years beginning on or
after January 1, 1996.
FOR FURTHER INFORMATION CONTACT: Lisa Sams of the Office of Associate
Chief Counsel (International), IRS (202) 622-3840 (not a toll-free
number).
SUPPLEMENTARY INFORMATION:
Background
Section 482 was amended by the Tax Reform Act of 1986, Public Law
99-514, 100 Stat. 2085, 2561, et. seq. (1986-3 C.B. (Vol. 1) 1, 478).
On January 30, 1992, a notice of proposed rulemaking concerning the
section 482 amendment in the context of cost sharing was published in
the Federal Register (INTL-0372-88, 57 FR 3571).
Written comments were received with respect to the notice of
proposed rulemaking, and a public hearing was held on August 31, 1992.
On December 20, 1995, final regulations were published in the
Federal Register (INTL-0372-88, 60 FR 65553) as Treasury Decision 8632.
These final regulations amend the regulations contained in Treasury
Decision 8632 by making technical changes to the requirements for
qualification as a controlled participant contained in Sec. 1.482-7(c).
The agency has decided not to issue a second notice of proposed
rulemaking with respect to the modifications to TD 8632 contained in
these final regulations. The rules to which the modifications relate
(concerning qualification as a controlled participant) were the subject
of the notice of proposed rulemaking published on January 30, 1992, and
comments on those rules were received in connection with those proposed
regulations. Therefore, a further comment period on these rules is
unnecessary. Taxpayers need prompt guidance on how to conform their
arrangements to the rules set forth in TD 8632, which is effective for
taxable years beginning on or after January 1, 1996, and which provides
a one year transition period for amending arrangements. The
modifications contained in these final regulations will aid taxpayers
in that regard, and any delay caused by a second notice of proposed
rulemaking would be impracticable and contrary to the public interest.
Unsolicited comment letters were received in connection with TD 8632
and are available for public inspection in the FOIA reading room.
Explanation of Provisions
The purpose of these regulations is to rectify problems in
qualifying as a controlled participant caused by the technical
requirements of the active conduct rule of Sec. 1.482-7(c). This rule
provided that a controlled taxpayer may be a controlled participant
only if it uses or reasonably expects to use covered intangibles in the
active conduct of a trade or business.
Under the 1992 proposed cost sharing regulations, a member of a
group of controlled taxpayers could participate in a qualified cost
sharing arrangement on behalf of, and could satisfy the active conduct
rule based on activities performed by, one or more other members of the
group (a cost sharing subgroup). The participating subgroup member
would then transfer or license the intangibles developed under the
arrangement to the nonparticipating subgroup member(s). The proposed
regulations would have measured benefits in such case on the basis of
the benefits of the entire subgroup from exploiting the intangibles. TD
8632, in streamlining the participation rules, omitted the subgroup
rules. Taxpayers commented that the change would force them to amend
existing arrangements to include as a participant every operating
company that predictably would be using covered intangibles.
These regulations further streamline the participation rules. The
principal reason for the active conduct rule was to ensure that a
controlled participant stands to benefit from the use of covered
intangibles in a manner that can be reliably measured. The Treasury and
Service have concluded that this purpose can be accomplished without
the active conduct rule. No distinction need be made based on the
nature of a participant's use of covered intangibles, so long as its
benefits from such use (whether from directly exploiting the
intangibles or from transferring or licensing them to others) can be
reliably measured.
Accordingly, these regulations eliminate the active conduct rule of
Sec. 1.482-7(c) as a requirement for qualification as a controlled
participant in a qualified cost sharing arrangement. Section 1.482-
7(c)(1) of these regulations substitutes a general rule that a
controlled taxpayer may be a controlled participant in a cost sharing
arrangement only if it reasonably anticipates that it will derive
benefits
[[Page 21956]]
from the use of covered intangibles. In addition, Sec. 1.482-
7(f)(3)(ii) provides that if a controlled participant transfers covered
intangibles to another controlled taxpayer, the participant's benefits
will be measured with reference to the transferee's benefits rather
than with reference to any consideration paid by the transferee. (This
gives rise to results similar to those under the subgroup rules of the
proposed regulations by different mechanics.) Finally, Sec. 1.482-
7(f)(3)(ii) continues to provide that the amount of benefits that each
of the controlled participants is reasonably anticipated to derive from
covered intangibles must be measured on a basis that is consistent for
all such participants.
These changes ensure that a controlled participant must benefit
from the arrangement, that the basis for measuring benefits must be
consistent for all controlled participants, and that, in the event of
intragroup transfers, there will be ``look through'' treatment for
reliably measuring benefits. These rules allow a participant to exploit
covered intangibles itself or through transferring or licensing them to
others, so long as the benefits to be derived can be consistently and
reliably measured for all controlled participants.
These regulations also clarify that the documentation requirements
of Sec. 1.482-7(j)(2) will satisfy the principal document requirement
of Sec. 1.6662-6(d)(iii)(B) with respect to a qualified cost sharing
arrangement.
Special Analyses
It has been determined that this Treasury decision is not a
significant regulatory action as defined in EO 12866. Therefore, a
regulatory assessment is not required. It also has been determined that
section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5)
and the Regulatory Flexibility Act (5 U.S.C. chapter 6) do not apply to
these regulations, and, therefore, a Regulatory Flexibility Analysis is
not required. Pursuant to section 7805(f) of the Internal Revenue Code,
the notice of proposed rulemaking preceding these regulations was
submitted to the Small Business Administration for comment on its
impact on small business.
Drafting Information
The principal author of these regulations is Lisa Sams, Office of
Associate Chief Counsel (International), IRS. However, other personnel
from the IRS and Treasury Department participated in their development.
List of Subjects in 26 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
Adoption of Amendments to the Regulations
Accordingly, 26 CFR part 1 is amended as follows:
PART 1--INCOME TAXES
Paragraph 1. The authority for part 1 continues to read in part as
follows:
Authority: 26 U.S.C. 7805. * * *
Par. 2. Section 1.482-0 is amended by revising the entries for
Secs. 1.482-7 (c) and (j) to read as follows:
Sec. 1.482-0 Outline of regulations under 482.
* * * * *
Sec. 1.482-7 Sharing of costs.
* * * * *
(c) Participant.
(1) In general.
(2) Treatment of a controlled taxpayer that is not a controlled
participant.
(i) In general.
(ii) Example.
(3) Treatment of consolidated group.
* * * * *
(j) Administrative requirements.
(1) In general.
(2) Documentation.
(i) Requirements.
(ii) Coordination with penalty regulation.
(3) Reporting requirements.
* * * * *
Par. 3. Section 1.482-7 is amended as follows:
a. By revising paragraph (c)(1)(i).
b. By adding paragraph (c)(1)(iv).
c. By removing paragraphs (c)(2) and (c)(3) and redesignating
paragraphs (c)(4) and (c)(5) as paragraphs (c)(2) and (c)(3),
respectively.
d. By revising newly designated paragraph (c)(2)(ii).
e. By adding a sentence after the second sentence in paragraph
(f)(3)(ii).
f. By revising Example 8 of paragraph (f)(3)(iii)(E).
g. By redesignating the text of paragraph (j)(2) following the
heading as paragraph (j)(2)(i) and adding a heading for newly
designated paragraph (j)(2)(i).
h. By removing the language ``(j)(2)'' and adding ``(j)(2)(i)'' in
its place in the first sentence of newly designated paragraph
(j)(2)(i).
i. By adding a paragraph (j)(2)(ii).
The additions and revisions read as follows:
Sec. 1.482-7 Sharing of costs.
* * * * *
(c) * * * (1) * * *
(i) Reasonably anticipates that it will derive benefits from the
use of covered intangibles;
* * * * *
(iv) The following example illustrates paragraph (c)(1)(i) of this
section:
Example. Foreign Parent (FP) is a foreign corporation engaged in
the extraction of a natural resource. FP has a U.S. subsidiary (USS)
to which FP sells supplies of this resource for sale in the United
States. FP enters into a cost sharing arrangement with USS to
develop a new machine to extract the natural resource. The machine
uses a new extraction process that will be patented in the United
States and in other countries. The cost sharing arrangement provides
that USS will receive the rights to use the machine in the
extraction of the natural resource in the United States, and FP will
receive the rights in the rest of the world. This resource does not,
however, exist in the United States. Despite the fact that USS has
received the right to use this process in the United States, USS is
not a qualified participant because it will not derive a benefit
from the use of the intangible developed under the cost sharing
arrangement.
(2) * * *
(ii) Example. The following example illustrates this paragraph
(c)(2):
Example. (i) U.S. Parent (USP), one foreign subsidiary (FS), and
a second foreign subsidiary constituting the group's research arm
(R+D) enter into a cost sharing agreement to develop manufacturing
intangibles for a new product line A. USP and FS are assigned the
exclusive rights to exploit the intangibles respectively in the
United States and the rest of the world, where each presently
manufactures and sells various existing product lines. R+D is not
assigned any rights to exploit the intangibles. R+D's activity
consists solely in carrying out research for the group. It is
reliably projected that the shares of reasonably anticipated
benefits of USP and FS will be 66\2/3\% and 33\1/3\, respectively,
and the parties' agreement provides that USP and FS will reimburse
66\2/3\% and 33\1/3\%, respectively, of the intangible development
costs incurred by R+D with respect to the new intangible.
(ii) R+D does not qualify as a controlled participant within the
meaning of paragraph (c) of this section, because it will not derive
any benefits from the use of covered intangibles. Therefore, R+D is
treated as a service provider for purposes of this section and must
receive arm's length consideration for the assistance it is deemed
to provide to USP and FS, under the rules of Sec. 1.482-
4(f)(3)(iii). Such consideration must be treated as intangible
development costs incurred by USP and FS in proportion to their
shares of reasonably anticipated benefits (i.e., 66\2/3\% and 33\1/
3\%, respectively). R+D will not be considered to bear any share of
the intangible development costs under the arrangement.
* * * * *
(f) * * *
(3) * * *
(ii) * * * If a controlled participant transfers covered
intangibles to another
[[Page 21957]]
controlled taxpayer, such participant's benefits from the transferred
intangibles must be measured by reference to the transferee's benefits,
disregarding any consideration paid by the transferee to the controlled
participant (such as a royalty pursuant to a license agreement). * * *
(iii) * * *
(E) * * *
Example 8. U.S. Parent (USP), Foreign Subsidiary 1 (FS1) and
Foreign Subsidiary 2 (FS2) enter into a cost sharing arrangement to
develop computer software that each will market and install on
customers' computer systems. The participants divide costs on the
basis of projected sales by USP, FS1, and FS2 of the software in
their respective geographic areas. However, FS1 plans not only to
sell but also to license the software to unrelated customers, and
FS1's licensing income (which is a percentage of the licensees'
sales) is not counted in the projected benefits. In this case, the
basis used for measuring the benefits of each participant is not the
most reliable because all of the benefits received by participants
are not taken into account. In order to reliably determine benefit
shares, FS1's projected benefits from licensing must be included in
the measurement on a basis that is the same as that used to measure
its own and the other participants' projected benefits from sales
(e.g., all participants might measure their benefits on the basis of
operating profit).
* * * * *
(j) * * *
(2) Documentation--(i) Requirements. * * *
(ii) Coordination with penalty regulation. The documents described
in paragraph (j)(2)(i) of this section will satisfy the principal
documents requirement under Sec. 1.6662-6(d)(2)(iii)(B) with respect to
a qualified cost sharing arrangement.
* * * * *
Approved: May 2, 1996.
Margaret Milner Richardson,
Commissioner of Internal Revenue.
Leslie Samuels,
Assistant Secretary of the Treasury.
[FR Doc. 96-11781 Filed 5-9-96; 8:45 am]
BILLING CODE 4830-01-U
