US Tax Alert: Big Victory for the IRS… Not So Fast

A&M Tax Advisor Weekly

The U.S. Court of Appeals for the Ninth Circuit today announced the withdrawal of a decision filed July 24, 2018, in the Altera Corp. v. Commissioner case “to allow time for the reconstituted panel to confer on this appeal.”

Background

On July 24, 2018, the Internal Revenue Service (IRS) received (or so they thought) a much-needed, and by most accounts highly unexpected, victory in a significant transfer pricing case. The U.S. Court of Appeals for the Ninth Circuit (the “Ninth Circuit”), by way of a 2-1 vote, reversed a prior 2015 decision of the Tax Court (Altera v. Commissioner), holding that related parties in a qualified cost-share arrangement (QCSA) must also share stock-based compensation (SBC) costs. For all companies currently in a QCSA, or considering entering into one, this is a fundamental court ruling, especially for those which rely on stock-based compensation as a significant portion of their payroll and incentive to attract and retain top talent. Following the initial 2015 Tax Court decision, companies continued to exclude SBC costs from their QCSAs, but would often include language in the QCSA agreements to specifically mention the Altera ruling and any impact that a reversal of this case would have.

Reversal, Twice Over

Following the widely unexpected July 24 decision by the Ninth Circuit, companies had immediately begun to discuss the consequences of the Court’s ruling in their financial filings with the Securities and Exchange Commission (SEC) and had begun to calculate the potential tax impacts on their effective tax rates based on inclusion of SBC in its cost sharing arrangements (i.e., with the allocation of SBC costs to their foreign subsidiaries, U.S. participants are potentially increasing their taxable income). However, in yet another twist, the Ninth Circuit withdrew its July 24 decision just two weeks later, on August 7. This dramatic turn of events results following the death of Judge Stephen Roy Reinhardt, a member of the three-judge panel in the Ninth Circuit adjudicating the appeal, before the final ruling was announced. Judge Reinhardt did, however, formally concur in the majority opinion prior to his death. Following the empaneling of a replacement Judge, the Ninth Circuit issued a simple one-page order, stating that “[t]he Opinions filed July 24, 2018, are hereby withdrawn to allow time for the reconstituted panel to confer on this appeal.”