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US inbound: Ninth Circuit issues decision on § 482 in Altera v Commissioner case

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James Fuller and David Forst of Fenwick & West analyse the Ninth Circuit’s opinion in Altera v Commissioner, in which the majority held that the “commensurate with income” method can be employed to meet the arm’s length standard.

The Ninth Circuit Court of Appeals issued its second opinion in Altera v Commissioner, upholding the Treasury and the Internal Revenue Service's (IRS) § 482 cost sharing regulations. The 2-1 decision reached the same conclusion as the court's withdrawn July 2018 majority opinion, but is more narrowly drafted. Judge Kathleen M O'Malley again wrote a very strong dissent addressing and rejecting all of the arguments raised in the majority opinion.

Majority opinion

The Ninth Circuit stated that the issue is "relatively straightforward." It stated that under the governing § 482 statute, the "arm's length" standard applies. Altera argued that a comparability analysis using comparable transactions between unrelated business entities is the method that is required to meet the arm's length standard. The government disagreed that the arm's length standard requires the specific comparability method in all cases and asserted successfully that an arm's length result can be achieved by applying a purely internal method of allocations, distributing the costs of employee stock options in proportion to the income enjoyed by each related taxpayer.

The court said that its task is not to assess the better tax policy, nor the wisdom of either approach, but rather to examine whether the Treasury's regulations are permitted under the statute. It relied on the statutory addition of the "commensurate with income" sentence in 1986 to support the interpretation that the use of employee stock option costs is permissible under § 482.

The court stated that the Treasury reasonably understood § 482 as an authorisation to require internal allocation methods, provided that the costs and income allocated are proportionate to the economic activity of the related parties and that these internal allocation methods are reasonable methods for reaching the arm's length results.

The decision will mark a change in US tax law regarding the § 482 arm's length standard and what it means, with pro-taxpayer and pro-government comparables apparently no longer an absolute requirement in all cases.


The dissent stated that the Treasury and the IRS have consistently asserted that a comparability analysis is the only way to determine the arm's length standard. Indeed, the Treasury made clear that a comparability analysis is the cornerstone of the arm's length standard. Despite these consistent practices and declarations in its preamble to the § 482 cost sharing regulations, the Treasury and the IRS stated, for the first time and with no explanation, that it may, instead, employ the commensurate with income standard to reach the required arm's length result.

The dissent said that the Treasury's and the IRS's resort to the commensurate with income standard to jettison the arm's length standard altogether is "a justification Treasury never provided and one which does not withstand careful scrutiny." Thus, the court's majority, "suppl[ied] a reasoned basis for the agency's action that the agency itself has not given."


Altera will most probably seek full court review of the decision, and if unsuccessful, might seek a review by the US Supreme Court. Taxpayers, in the meantime, are left with questions regarding what to do. Certainly, the Altera decision is the government's view of the law. Thus, placing reliance on the decision in determining arm's length prices and preparing § 482 transfer pricing documentation would not seem unreasonable, although one would think decisions like these should be approached judiciously.

Fenwick & West

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