The case arose in 2004 when the Internal Revenue Service (IRS) denied Bluetooth SIG, which was incorporated in 2000 as a Delaware non-profit corporation, tax exemption under Internal Revenue Code (IRC) section 501(c)(6). Bluetooth SIG has been appealing the IRS's decision ever since, but the latest ruling looks to be the end of the process.
"They could go to the Supreme Court, but it's very unlikely to happen as the Supreme Court takes hardly any tax cases," said Donald Korb, a tax partner at Sullivan & Cromwell and former chief counsel for the IRS. "This is likely to be the end of the line."
Bluetooth SIG was formed by several companies to own the name and patents for Bluetooth wireless communications technology. The non-profit group applied for a tax exemption in 2002 under IRC section 501(c)(6), which exempts business leagues from taxation. But the IRS denied the application on the grounds that Bluetooth SIG's primary purpose is to promote a single brand, rather than to improve the business conditions of one or more lines of business.
Based on Treasury regulations on what constitutes a business league, the district court devised a six-factor test. In particular, it looked at whether or not Bluetooth SIG engages in a business ordinarily conducted for profit and whether or not activities are directed to the improvement of business conditions of one or more lines of business rather than the performance of particular services for individual persons.
The court found that the overwhelming purpose of SIG's promotional activities was to benefit the Bluetooth brand. The district court recognised that the Bluetooth trademark is a valuable commodity, which is for sale. Instead of forming the SIG, Ericsson, the original manufacturers, might have decided to license the brand. As such, the group is engaging in a business ordinarily conducted for profit.
"Any benefit on the wireless communication industry or non-Bluetooth manufacturers was, in fact, merely incidental. SIG's advertising was neither an incidental part of its operations nor only incidentally biased in favour of its members as opposed to others in the industry," the court said.
The Ninth Circuit upheld the District Court's ruling that Bluetooth SIG was not entitled to a refund of the $900,000 in taxes it paid between 2000 and 2002. The group will now have to pay federal income tax for years after 2002.
"Without the advantage of tax-exempt status, Bluetooth SIG may undergo a restructuring or dissolution," said Shane Hamilton, a partner at Anthony & Middlebrook who specialises in tax-exempt organisations.
"The Bluetooth SIG is incorporated as a not-for-profit corporation and each year we try to match revenue and expenses such that we don't have any profit," said Michael Foley, executive director of Bluetooth SIG. "As such, while this ruling is disappointing, it doesn't affect the day-to-day operations of the SIG."
Foley says it will be interesting to see how the ruling affects other groups with similar purposes to Bluetooth SIG.
"During the oral arguments in the summer of 2009, the IRS made clear that if this ruling was upheld, it intended to reexamine the 501(c)(6) status of other organisations," said Foley. "This ruling may also affect how new industry organisations are formed as they most likely will not be granted 501(c)(6) status from the IRS."
Foley hopes that the ruling will not affect the commitment companies give to creating and implementing standards such as Bluetooth, Wi-Fi and USB.
"It is through this commitment that consumers are provided the opportunity to purchase interoperable products from competing vendors," said Foley. "If this ruling erodes companies' commitment to standards, it will be the consumer that loses in this ruling, not the Bluetooth SIG."
Hamilton does not believe the decision sets a particular precedent.
"The Ninth Circuit for the most part applied well-settled legal principles that a trade association must benefit an industry as a whole, not individual members, and that any specific benefits to members must be incidental," he said.
Hamilton advised that other section 501(c)(6) organisations should ensure their activities are directed at benefiting a sufficiently broad industry and are not providing more than incidental benefits to members.
"The Ninth Circuit's decision relied heavily on the conclusion that the product at issue in the case was 'something the members banded together to create' as opposed to a product that already existed in the marketplace and was being sold by both members and non-members," Hamilton said.
He pointed out that organisations should also look at what benefits non-members receive from their operations because the Ninth Circuit's decision emphasised that "a benefit to non-members is a key characteristic of a business league".
"The case will likely be cited and relied upon by the IRS and federal courts faced with the question of whether the industry a trade association or business league purports to promote is sufficiently broad to justify conferring tax-exempt status on the association," Hamilton said. "A key finding by the Ninth Circuit was that there was no industry in the case, 'only an organisation promoting one of a number of possible technologies for the interest of its members as opposed to an industry writ large'."
