United States

New York: Intercompany Royalties Subject to Addback Included in Determining Substantial Intercorporate Transactions

Oct 02, 2017
From KPMG TaxWatch

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Recently, the Tax Appeals Tribunal upheld an Administrative Law Judge (ALJ) determination holding that certain related corporations were required to file a combined report for the tax years at issue. During the audit period, royalties paid to a related member were required to be added back in computing entire net income (unless the parties filed a combined return). If the addback was made, the related member recipient of the royalties was allowed to deduct the royalties in computing its entire net income. Effective for tax years beginning on or after January 1, 2007, New York law was revised to require unitary corporations meeting certain stock ownership requirements to file a combined report if substantial intercorporate transactions (even those conducted at arm’s length) existed between the related corporations. If 50 percent or more of a corporation’s receipts included in the computation of entire net income (excluding nonrecurring items) were from one or more related, unitary corporations, the substantial intercorporate transactions requirement was met and the parties were required to file a combined report. The taxpayer at issue argued that it was not required to file a combined report because it added back the royalties paid to its affiliate, the royalty payments were therefore not factored into the substantial intercorporate transaction test and therefore it did not meet the substantial incorporate transactions test. In other words, the taxpayer argued that because of the addback, it had essentially backed out the intercorporate transactions that actually occurred the taxpayer did not meet the 50 percent test.

The Tribunal agreed with the ALJ and held that the fact that royalty payments were added back by the payor did not mean such payments should be excluded in determining whether the 50 percent test was met and combined reporting was required. In the Tribunal’s view, the royalty addback continued to have a purpose even after the change to the combined reporting law when, for example, combined reporting was not required because the recipient was an alien corporation. The Tribunal did rule in the taxpayer’s favor on the issue of whether it was entitled to an abatement of the substantial understatement penalties. In the Tribunal’s view, the Department’s guidance implied that the intercorporate transactions at issue should be at the same time included and excluded from the calculation of substantial intercorporate transactions. Please contact Russ Levitt at 212-872-6717 with questions on Matter of Whole Foods Market Group, Inc. (N.Y. Tax App. Trib. September 11, 2017).


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The following information is not intended to be "written advice concerning one or more federal tax matters" subject to the requirements of section 10.37(a)(2) of Treasury Department Circular 230.

The information contained herein is of a general nature and based on authorities that are subject to change. Applicability of the information to specific situations should be determined through consultation with your tax adviser.