US Inbound: US issues new guidance on allocation of income
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US Inbound: US issues new guidance on allocation of income


Jim Fuller

David Forst

Treasury and the IRS have issued new temporary § 482 regulations. While written from a US outbound perspective, they also can be important, perhaps even helpful, from an inbound perspective.

Temporary Treasury Regulation § 1.482-1T(f)(2)(i)(A) provides that arm's-length compensation must be consistent with, and must account for all of, the value provided between parties in a controlled transaction, without regard to the form or character of the transaction. For this purpose, it is necessary to consider the entire arrangement between the parties, as determined by the contractual terms, whether written or imputed in accordance with the economic substance of the arrangement, in light of the actual conduct of the parties.

The preamble to the new regulations says this requirement is consistent with the principles underlying the arm's-length standard, which require that arm's-length compensation in controlled transactions equal the compensation that would have been paid if a similar transaction had occurred between similarly situated uncontrolled taxpayers.

New Temporary Treasury Regulation § 1.482-1T(f)(2)(i)(B) reflects a more aggressive IRS approach in seeking to aggregate transactions. The aggregation rule, in the existing Treasury Regulation § 1.482-1(f)(2)(i)(A), provides that the combined effect of two or more separate transactions may be considered if the transactions, taken as a whole, are so inter-related that an aggregate analysis of these transactions provides the most reliable measure of an arm's-length result determined under the best method rule of Treasury Regulation § 1.482-1(c).

The new temporary regulation elaborates on this aggregation concept by stating that consideration of the combined effect of two or more transactions may be appropriate to determine whether the overall compensation is consistent with the value provided, including any synergies among items and services provided.

Seven examples illustrate these changes. In one of them, P owns 10 individual patents that in combination can be used to manufacture and sell a successful product. P anticipates that it can earn $25 from the patents based on a discounted cash flow analysis that provides a more reliable measure of the value of the patents exploited as a bundle rather than separately.

P licenses all 10 patents to related person S to be exploited as a bundle. Evidence of uncontrolled licenses of similar individual patents indicates that, exploited separately, each license of each patent would warrant a price of $1, implying a total value for the patents of $10. The example states that it would not be appropriate to use the uncontrolled licenses as comparables for the license of the bundle of patents, because, unlike the discounted cash flow analysis, the uncontrolled licenses considered separately do not reasonably reflect the enhancement to value resulting from the interrelatedness of the 10 patents exploited as a bundle.

Another new example, entitled 'Services Provided Using Intangibles', states that P's worldwide group produces and markets product X and subsequent generations of products that result from research and development activity performed by P's R&D team. Through this collaboration with respect to P's proprietary products, the members of the R&D team have individually and as a group acquired specialised knowledge and expertise subject to non-disclosure agreements.

P arranges for the R&D team to provide research and development services to create a new line of products, building on the product X platform to be owned and exploited by related person S. P asserts that the arm's-length charge for the services is only a reimbursement to P of its associated R&D team compensation costs.

Even though P did not transfer the platform or the R&D team to S, the example states that P is providing value associated with the use of the platform, along with the value associated with the use of the know-how, to S by way of the services performed by the R&D team for S using the platform and the know-how.

A third example deals with allocating arm's-length compensation determined under an aggregate analysis. P provides services to S-1. P licenses intellectual property to S-2 and S-2 sublicenses the intellectual property to S-1. The example states that if an aggregate analysis of the service and license transactions provides the most reliable measure of an arm's-length result, then an aggregate analysis must be performed. If an allocation of the value that results from the aggregate analysis is necessary, for example, for purposes of sourcing the service income that P receives from S-1 or to determine the deductible expenses incurred by S-1, then the value determined under the aggregate analysis must be allocated using the method that provides the most reliable measure of the services income and the deductible expenses.

The new regulations apply to taxable years ending on or after September 14 2015. They are therefore effective immediately and also have retroactive effect back to the beginning of tax years that include September 14 2015. Since the preamble says they are consistent with the arm's-length standard, these new rules may also have some prior year retroactive effect, possibly even a helpful retroactive effect in certain inbound situations.

Jim Fuller ( and David Forst (

Fenwick & West

Tel: +1 650 335 7205; +1 650 335 7274


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