[Federal Register Volume 76, Number 247 (Friday, December 23, 2011)]
[Proposed Rules]
[Pages 80309-80310]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2011-32730]
[[Page 80309]]
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DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 1
[REG-145474-11]
RIN 1545-BK71
Use of Differential Income Stream as an Application of the Income
Method and as a Consideration in Assessing the Best Method
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Notice of proposed rulemaking by cross-reference to temporary
regulations and notice of proposed rulemaking.
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SUMMARY: In the Rules and Regulations section of this issue of the
Federal Register, temporary regulations provide guidance on how an
analysis of the differential income stream may provide a best method
consideration for evaluating an application of the income method to
determine taxable income in connection with a cost sharing arrangement.
The text of those regulations also serves as the text of regulations
that are proposed by cross-reference to the temporary regulations. This
document also contains proposed regulations providing guidance on the
use of the differential income stream as a specified application of the
income method to determine taxable income in connection with a cost
sharing arrangement.
DATES: Written or electronic comments and requests for a public hearing
must be received by March 22, 2012.
ADDRESSES: Send submissions to: CC:PA:LPD:PR (REG-145474-11), Room
5205, Internal Revenue Service, P.O. Box 7604, Ben Franklin Station,
Washington, DC 20044. Submissions may be hand-delivered Monday through
Friday between the hours of 8 a.m. and 4 p.m. to CC:PA:LPD:PR (REG-
145474-11), Courier's Desk, Internal Revenue Service, 1111 Constitution
Avenue NW., Washington, DC, or sent electronically, via the Federal
eRulemaking Portal at www.regulations.gov (IRS REG-145474-11).
FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulations,
Joseph L. Tobin or Mumal R. Hemrajani, (202) 435-5265 (not a toll-free
number); concerning submission of comments and/or requests for a
hearing, [email protected].
SUPPLEMENTARY INFORMATION:
Background
A notice of proposed rulemaking and notice of public hearing
regarding additional guidance to improve compliance with, and
administration of, the rules in connection with a cost sharing
arrangement (CSA) were published in the Federal Register (70 FR 51116)
(REG-144615-02) on August 29, 2005 (2005 proposed regulations). A
correction to the notice of proposed rulemaking and notice of public
hearing was published in the Federal Register (70 FR 56611) on
September 28, 2005. A public hearing was held on December 16, 2005.
The Treasury Department and the IRS received numerous comments on a
wide range of issues addressed in the 2005 proposed regulations. In
response to these comments, temporary and proposed regulations were
published in the Federal Register (74 FR 340-01 and 74 FR 236-01) (REG-
144615-02) on January 5, 2009 (2008 temporary regulations). Corrections
to the 2008 temporary regulations were published in the Federal
Register on February 27, 2009 (74 FR 8863-01), March 5, 2009 (74 FR
9570-01, 74 FR 9570-02, and 74 FR 9577-01), and March 19, 2009 (74 FR
11644-01). A public hearing was held on April 21, 2009.
The Treasury Department and the IRS received comments on a range of
issues addressed in the 2008 temporary regulations. Final regulations
were issued in a previous issue of the Federal Register (REG-144615-02)
(TD 9568) in December 2011 (final regulations). Certain guidance
regarding discount rates was reserved in the final regulations because
the Treasury Department and the IRS believe it is appropriate to
solicit public comments on that subject matter.
Temporary regulations (TD 9569) in the Rules and Regulations
section of this issue of the Federal Register contain amendments to the
final regulations and implement the use of the differential income
stream as a consideration in assessing the best method in connection
with a CSA. The text of those regulations also serves as the text of
the regulations contained in this document that are proposed by cross-
reference to the temporary regulations (Sec. 1.482-7T(g)(2)(v)(B)(2)
and (4)(vi)(F)(2)). This document also contains a proposed amendment to
the regulations under section 482 that describes the specific
application of the income method using the differential income stream
(Sec. 1.482-7(g)(4)(v)).
Explanation of Provisions
See the Explanation of Provisions for the temporary cost sharing
regulations published in this issue of the Federal Register for an
explanation of how proposed Sec. 1.482-7(g)(2)(v)(B)(2) and
(4)(vi)(F)(2) build upon and augment Sec. 1.482-7(g)(4)(vi)(F)(1)
(Reflection of similar risk profiles in cost sharing alternative and
licensing alternative) of the final regulations.
These proposed regulations also build upon and augment Sec. 1.482-
7(g)(4)(vi)(F)(1) of the final regulations by providing a new specified
application of the income method. Section 1.482-7(g)(4)(v) of the
proposed regulations provides that the determination of the arm's
length charge for the PCT Payment can be derived by discounting the
differential income stream at an appropriate rate. The differential
income stream approach to determining PCT Payments depends on reliably
determining the discount rate associated with the differential income
stream. This, in turn, requires an understanding of the economic
meaning of the differential income stream. For example, assume a CSA in
which the PCT Payor does not contribute any platform or operating
contributions, and undertakes only routine exploitation activities for
which it anticipates a routine return. In such case, the total
undiscounted anticipated profits (before PCT Payments) to the CSA in
the PCT Payor's territory can be thought of as comprising the
anticipated routine exploitation profits plus the anticipated
development value of the cost shared intangibles in the PCT Payor's
territory. Under the licensing alternative, on the other hand, the PCT
Payor's total undiscounted anticipated profits consist solely of the
anticipated routine exploitation profits. Thus, the differential income
stream conceptually corresponds to the development value of the cost
shared intangibles. For these reasons, an appropriate discount rate for
the differential income stream might be determined based, for example,
on the weighted average cost of capital of uncontrolled companies whose
activities consist primarily of developing intangibles similar to the
cost shared intangibles, and whose resources, capabilities, or rights
are similar to the platform contributions and cost shared intangibles
under the CSA. These proposed regulations also add Sec. 1.482-
7(g)(4)(viii) Example 9 to illustrate this newly specified application
of the income method.
[[Page 80310]]
Proposed Effective Dates
Prop. Treas. Reg. Sec. 1.482-7(g)(2)(v)(B)(2), (4)(vi)(F)(2) and
(viii), Example 8 are proposed to be applied to taxable years beginning
on or after December 19, 2011.
Prop. Treas. Reg. Sec. 1.482-7(g)(4)(v) and (viii), Example 9 are
proposed to apply to taxable years beginning on or after the date of
publication of a Treasury decision adopting such rules as final
regulations in the Federal Register.
Special Analyses
It has been determined that this notice of proposed rulemaking is
not a significant regulatory action as defined in Executive Order
12866. Therefore, a regulatory assessment is not required. It has also
been determined that section 553(b) of the Administrative Procedure Act
(5 U.S.C. chapter 5) does not apply to this regulation, and because the
regulation does not impose a collection of information on small
entities, the Regulatory Flexibility Act (5 U.S.C. chapter 6) does not
apply. Pursuant to section 7805(f) of the Internal Revenue Code, these
regulations have been submitted to the Chief Counsel for Advocacy of
the Small Business Administration (CCASBA) for comment on their impact
on small businesses. CCASBA had no comments.
Comments and Requests for Public Hearing
Before these proposed regulations are adopted as final regulations,
consideration will be given to any written (a signed original and eight
(8) copies) or electronic comments that are submitted timely to the
IRS. Treasury and the IRS request comments on all aspects of the
proposed rules. All comments will be available for public inspection
and copying. A public hearing will be scheduled if requested in writing
by any person that timely submits written comments. If a public hearing
is scheduled, notice of the date, time, and place for the public
hearing will be published in the Federal Register.
Drafting Information
The principal authors of these proposed regulations are Joseph L.
Tobin and Mumal R. Hemrajani, Office of the Associate Chief Counsel
(International). However, other personnel from the IRS and the Treasury
Department participated in their development.
List of Subjects in 26 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
Proposed Amendments to the Regulations
Accordingly, 26 CFR part 1 is proposed to be amended as follows:
PART 1--INCOME TAXES
Authority: 26 U.S.C. 7805 * * *.
Section 1.482-7 is also issued under 26 U.S.C. 482. * * *
Par. 2. Section 1.482-7 is amended by adding paragraphs
(g)(2)(v)(B)(2), (g)(4)(v), and (g)(4)(vi)(F)(2), and Examples 8 and 9
to paragraph (g)(4)(viii).
The additions read as follows:
Sec. 1.482-7 Methods to determine taxable income in connection with a
cost sharing arrangement.
* * * * *
(g) * * *
(2) * * *
(v) * * *
(B) * * *
(2) [The text of the proposed amendment to Sec. 1.482-
7(g)(2)(v)(B)(2) is the same as the text of Sec. 1.482-
7T(g)(2)(v)(B)(2) published elsewhere in this issue of the Federal
Register].
* * * * *
(4) * * *
(v) Application of income method using differential income stream.
In some cases, the present value of an arm's length PCT Payment may be
determined as the present value, discounted at the appropriate rate, of
the PCT Payor's reasonably anticipated stream of additional positive or
negative income over the duration of the CSA Activity that would result
(before PCT Payments) from undertaking the cost sharing alternative
rather than the licensing alternative (differential income stream). See
Example 9 of paragraph (g)(4)(viii) of this section.
* * * * *
(vi) * * *
(F) * * *
(2) [The text of the proposed amendment to Sec. 1.482-
7(g)(4)(vi)(F)(2) is the same as the text of Sec. 1.482-
7T(g)(4)(vi)(F)(2) published elsewhere in this issue of the Federal
Register.]
* * * * *
(viii) * * *
Example 8. [The text of the proposed amendment to Sec. 1.482-
7(g)(4)(viii) (Example 8) is the same as the text of Sec. 1.482-
7T(g)(4)(viii) (Example 8) published elsewhere in this issue of the
Federal Register.]
Example 9. The facts are the same as in Example 1, except that
additional data on discount rates are available that were not
available in Example 1. The Commissioner determines the arm's length
charge for the PCT Payment by discounting at an appropriate rate the
differential income stream associated with the rights contributed by
USP in the PCT (that is, the stream of income in column (11) of
Example 1). Based on an analysis of a set of public companies whose
resources, capabilities, and rights consist primarily of resources,
capabilities, and rights similar to those contributed by USP in the
PCT, the Commissioner determines that 15% to 17% is an appropriate
range of discount rates to use to assess the value of the
differential income stream associated with the rights contributed by
USP in the PCT. The Commissioner determines that applying a discount
rate of 17% to the differential income stream associated with the
rights contributed by USP in the PCT yields a present value of $446
million, while applying a discount rate of 15% to the differential
income stream associated with the rights contributed by USP in the
PCT yields a present value of $510 million. Because the taxpayer's
result, $464 million, is within the interquartile range determined
by the Commissioner, no adjustments are warranted. See paragraphs
(g)(2)(v)(B)(2), (g)(4)(v), and (g)(4)(vi)(F)(1) of this section.
* * * * *
(l) Effective/Applicability Dates. Treas. Reg. Sec. 1.482-
7(g)(2)(v)(B)(2), (g)(4)(vi)(F)(2) and (g)(4)(viii), Example 8 apply to
taxable years beginning on or after December 19, 2011. Treas. Reg.
Sec. 1.482-7(g)(4)(v) and (viii), Example 9 apply to taxable years
beginning on or after the date of publication of a Treasury decision
adopting these rules as final regulations in the Federal Register.
* * * * *
Steven T. Miller,
Deputy Commissioner for Services and Enforcement.
[FR Doc. 2011-32730 Filed 12-19-11; 11:15 am]
BILLING CODE 4830-01-P