Another [Treasury Regulation] Bites the Dust, Part 1 of 4

The Eighth Circuit’s recent decision in a significant transfer pricing case reaffirms the post-Loper Bright prioritization of statutory language over the complex rules outlined in the IRS regulations. As the Eighth Circuit explained:

Statutes trump regulations. Over three decades ago, another court decided that the IRS could not tax a domestic parent company on royalties it could not legally receive from a foreign subsidiary. The IRS then authorized by regulation what a statute had not. That strategy might have worked before, but not now, so we reverse.

At issue was the IRS’s attempt to reallocate income the taxpayer received from its Brazilian subsidiary under I.R.C. § 482. While the taxpayer received royalties for the intellectual property utilized by all of its worldwide subsidiaries, royalties it received from its Brazilian subsidiary were capped by Brazilian law. After examination of the taxpayer’s 2006 return, the IRS reallocated an additional $23.7 million in royalties to the taxpayer from its Brazilian subsidiary, notwithstanding the legal cap.

The taxpayer disputed this deficiency in Tax Court, which sided with the IRS, deferring to its interpretation of its regulation. 160 T.C. 50, 279–288 (2023). The taxpayer appealed its case to the Eighth Circuit.

The Eighth Circuit reversed the Tax Court and held in favor of the taxpayer. The 8th Circuit’s reversal was based on three major points (1) the statute is king, and after Loper Bright, courts have to pick the best reading without just deferring to agency rules; (2) “income” under I.R.C. § 482 means you need real dominion and control—if the law blocks that, reallocation is off the table; and (3) interpreting statutes isn’t just about the words, but the bigger picture too.

The Circuit also called out the IRS for flip-flopping on its view of the I.R.C. § 482 regulation after Loper Bright. And when the IRS argued that the subsidiary could have just paid dividends instead of royalties, the Circuit wasn’t buying it—saying that’s just expecting taxpayers to pay more tax than they have to.

We will be covering each element of the 8^th Circuit’s ruling in depth in future posts, so stay tuned…

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8th Circuit, Federal Insight, IRS, tax, Transfer Pricing

About Michelle Levin

Michelle Abroms Levin is a shareholder in Dentons Sirote’s Huntsville office, where she is a member of the Tax practice group. She represents clients during all phases of federal income tax controversies, including IRS audit, administrative appeals, and court proceedings in the U.S. Tax Court, U.S. Court of Federal Claims, federal district court and the Courts of Appeals. Michelle has secured major victories for her clients in the Eleventh Circuit, Fifth Circuit, and Tax Court, elevating important Administrative Procedure Act issues in the tax controversy context. Her experience includes a wide range of complex tax issues. Michelle also counsels clients in tax and business planning. She works with clients to structure transactions in a manner that maximizes tax benefits, reduces risk, and complies with tax law at local, state, and federal levels. Michelle has also been elected as a Fellow of the American College of Tax Counsel.

About Logan Abernathy

Logan Chaney Abernathy is a Senior Managing Associate in Dentons Sirote’s Huntsville, Alabama office. She is a member of the Tax practice group. Logan’s practice focuses on tax controversy, tax litigation, and government investigations.

About Emily Ellis

Emily Ellis is a managing associate in Dentons Sirote's Tax practice in Birmingham, Alabama, where she is a member of the Tax Litigation and Dispute Resolution team focusing on tax controversy and litigation.