Attorney-at-Law

“THINGS GO BETTER WITH COKE”

In Uncategorized on 12/14/2017 at 16:50

In fact, they go much better with Coke, as that Philosopher-Judge and Judicial Surgeon Extraordinaire Judge Lauber hands The Coca-Cola Company & Subsidiaries, 149 T. C. 21, filed 12/14/17 summary J that the quarter-billion dollars they paid Mexico as Mexican corporate income tax was “compulsory,” thus satisfying one branch of the Section 901(a) hunt for the gold of Foreign Tax Credits (“FTC”).

Thanks, Judge; today this blogger gets a present, just like The Girl of My Dreams.

It’s the famous Section 482 licensing by a US parent of intangibles like trademarks, trade dress and everything but the magic formula locked in a concrete vault somewhere in Georgia, to a related offshore entity in a tax-friendly jurisdiction. The offshore pays low-ball royalties to the US-based licensor, resulting in inflated earnings by the offshore that are favorably taxed offshore. The engorged earnings get parked offshore, and the reduced royalties get taxed in the US below their true worth.

Mexico fit the bill for the years at issue.

Of course, all this may be obsolete for years beginning a couple weeks from now (hi, Judge Holmes).

Fifteen (count ‘em, fifteen; eight for Coke and seven for IRS) lawyers later, we get this.

“…IRS issued petitioner a notice of deficiency determining (among other things) that the royalties the Mexico Licensee had paid to petitioner were not calculated at arm’s length, i.e., were too low.  As corollaries of these proposed adjustments, the IRS determined that the Mexico Licensee had claimed insufficient deductions for royalty payments on its Mexican corporate returns and to that extent had overpaid its Mexican income tax.  To the extent of these alleged overpayments the IRS determined that the taxes paid to Mexico were not ‘compulsory’ and hence were not ‘taxes’ within the meaning of section 901.  See sec. 1.901-2(a)(2)(i), Income Tax Regs. (‘A foreign levy is a tax if it requires a compulsory payment pursuant to the authority of a foreign country to levy taxes.’).” 149 T. C./ 21, at p. 4.

The royalty deal was the 10-50-50. Now faithful readers of this my blog need no refresher about the 10-50-50, right? Of course not, so I’ll merely mention my blogpost “The Big Enchilada,” 9/7/17, where the potential chops came off the table.

Not a good start for IRS, and it doesn’t get better.

For years prior to the years at issue, the Mexican licensee had a deal with the SAT (that’s Mexico’s IRS) that the 10-50-50 split for royalties was muy bien. When the last deal expired, Coke’s Mexican tax lawyer, who had been advising the Cokers since 1974 and who had negotiated the deals with SAT, told the Cokers to keep going on the same basis.

“He based this advice on his belief that there had been no changes in petitioner’s operations or transactional relationship with the Mexico Licensee sufficient to justify a higher royalty rate.  And he believed that the SAT would not have permitted the Mexico Licensee to reduce its Mexican income tax by paying higher royalties, especially since all of petitioner’s other supply points continued to pay (with IRS approval) royalties calculated under the 10-50-50 method.” 149 T. C. 21, at p. 9.

So would I have done. IRS had acquiesced in the deal for years before the years at issue, reserving its rights to come back and fight. SAT made no waves. So why rock the boat?

IRS suggested the Cokers deal with the competent authority in Mexico, per the treaty, to avoid double taxation, but then refused to go along because IRS wanted to litigate. The only issue now on the table is the foreign tax credits for the years at issue. Coke’s income for tax purposes would be the same.

To get the FTC, the tax must be compulsory. There’s a two-part test. The taxpayer must comply with the foreign taxing authority’s law and regs in “…’a manner that is consistent with a reasonable interpretation and application’ of Mexican law, so as to minimize its reasonably expected liabilities for Mexican corporate income tax. See sec. 1.901-2(e)(5)(i), Income Tax Regs.” 149 T. C. 21, at p. 15.

Advice from competent professionals counts.

IRS claims the Cokers shifted production to the Emerald Isle, cutting the Mexican take, but that’s irrelevant. The formula was the same, whatever the results.

And the famous closing agreement, over which many electrons were discomposed, has nothing to do with what the Cokers told Señor Ortiz, Esq. Nor could Sr. Ortiz, Esq., predict what a trial in 2018 would produce as to the assets of the Mexican bottler ten years earlier.

“The second half of the regulatory test for a ‘compulsory’ tax requires that the taxpayer must ‘exhaust[] all effective and practical remedies, including invocation of competent authority procedures available under applicable tax treaties, to reduce, over time, the taxpayer’s liability for foreign tax.’  Sec. 1.901-2(e)(5)(i), Income Tax Regs.; see Rev. Rul. 76-508, 1976-2 C.B. 225, 226.  A remedy is considered effective and practical ‘only if the cost thereof * * * is reasonable in light of the amount at issue and the likelihood of success.’  Sec. 1.901-2(e)(5)(i), Income Tax Regs.

“Petitioner contends that respondent’s reliance on section 482 adjustments that have not yet been adjudicated, combined with his refusal to participate in competent authority proceedings, means that petitioner has exhausted its available remedies for FTC purposes.  We agree with petitioner.  Respondent cannot point to any effective and practical remedy that petitioner could now pursue to reduce its liability for Mexican tax.  If the Mexico Licensee were to file a refund claim in Mexico, that claim would be premature because respondent’s proposed section 482 adjustments have not yet been adjudicated.  Cf. Rev. Rul. 92-75, 1992-2 C.B. 197; Rev. Rul. 80-231, 1980-2 C.B. 219 (holding that a taxpayer generally must file a foreign refund claim in order to exhaust administrative remedies).” 149 T. C. 21, at p. 23.

And even if the claim for refund in Mexico isn’t premature, Sr. Ortiz, Esq., told the Cokers Mexico wouldn’t drop the 10-50-50 allocation, which had been in place since 1998, and there’s no need for a taxpayer to engage in Don Quixote-style windmill-tilts, especially since IRS declined the competent authority gambit.

But IRS isn’t through. In a move worthy of a Taishoff “Oh, Please,” First Class with oak leaves and overseas clasp, IRS says “let’s try the 482 adjustments to a finish, then go talk to Mexico. If they don’t cut your taxes, call the competent authority, and if you don’t get a refund, take the credit at the end of that rainbow.”

Judge Lauber: “This is not the procedure that Congress envisioned when it enacted the Code.  Congress anticipated the difficulty of ascertaining, at the time a taxpayer files its U.S. return, the exact amount of foreign tax that will ultimately be allowable as a credit.  It accordingly provided, in section 905(c), a special procedure for adjusting the credit when the taxpayer’s ultimate foreign tax liability varies from the amount claimed.  Section 905(c)(1) specifies three situations, sometimes referred to as ‘foreign tax redeterminations,’ in which a U.S. taxpayer’s foreign tax credit must be adjusted.  One of these situations is where ‘any tax paid is refunded in whole or in part.’  Sec. 905(c)(1)(C).” 149 T. C. 21, at p. 26.

Remember Panagiota Pan Sirotopoulos, and her busted UK movie deals? Same story. See my blogpost “Give It Back, Take It Back,” 5/1/17.

IRS claims if Tax Court says the Cokers exhausted their remedies, they’d have no incentive to fight with Mexico. OK, says Judge Lauber, then IRS can start discussions with the Mexican competent authority their own selves. If not, there’s no requirement that a US taxpayer fight to a finish in a foreign jurisdiction before claiming the FTC. And the Mexico Licensee did comply based on good faith reliance on expert local counsel.

And besides, IRS, you made the hospital corners. Now sack out.

“Because respondent’s section 482 adjustments have not yet been adjudicated, petitioner currently has no remedy before the Mexican tax authorities. The only remedy that would be ‘effective and practical’ at the moment would be a competent authority proceeding, in which the IRS has refused to participate.  We accordingly hold that the Mexican taxes paid by the Mexico Licensee for [years at issue] were ‘compulsory’ levies for which petitioner is entitled to FTCs under section 901(a).” 1439 T. C. 21, at p. 32.

Things definitely did go better with Coke.

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