On August 4, the IRS issued final regulations on the treatment of controlled services transactions under Sec. 482 and the allocation of income from intangible property (T.D. 9456). The regulations also modify existing Sec. 861 regulations on stewardship expenses.
Sec. 482 allows the IRS to allocate gross income, deductions, and credits among members of a controlled group in order to prevent tax evasion or more clearly reflect income. Regulations issued in 1968 (33 Fed. Reg. 5849 (4/16/68)) have generally governed a wide range of controlled transactions, including transfers of tangible and intangible property and the provision of services. In 2006, temporary regulations were issued that dealt with allocation of income from intangible property and stewardship expenses (T.D. 9278). (See News Notes, 37 The Tax Adviser 568 (October 2006).) The IRS received many comments in response to the 2006 temporary regulations, and the final regulations, while generally following the 2006 temporary regulations, contain some changes that respond to the comments.
Controlled services: The final regulations adopt the services cost method described in the temporary regulations, which is meant to provide a practical and administrable method of identifying low-margin services. To be eligible for the services cost method, a service must be a covered service as defined in the regulations, the service cannot be an excluded activity, the service cannot be precluded from constituting a covered service by reason of the business judgment rule, and adequate books and records must be maintained with respect to the service.
The regulations specify that application of the services cost method is within the control of the taxpayer and that taxpayers are not required to use it even if all the conditions for that method apply. The requirements for the services cost method have been rearranged in the final regulations to clarify that failure to satisfy one of the requirements renders a service ineligible for services cost method treatment regardless of whether any of the other requirements are satisfied.
The final regulations adopt the temporary regulations’ shared services arrangements provisions, which provide a mechanism for allocating costs from shared or centralized services.
Income attributable to intangibles: The final regulations provide rules for determining the owner of intangible property for purposes of Sec. 482 and also provide rules for determining the arm’s-length compensation in situations where a controlled party other than the owner makes contributions to the value of intangible property.
Stewardship expenses: The regulations modify Regs. Sec. 1.861-8(e)(4) to conform to and be consistent with the revised language on controlled services transactions set forth in Regs. Sec. 1.482-9(l).
