Ashland Oil, Inc. v. Comm'r of Internal Revenue, Docket No. 20959-88.
| Decision Date | 27 September 1990 |
| Docket Number | Docket No. 20959-88. |
| Citation | 95 T.C. 348,95 T.C. No. 25 |
| Parties | ASHLAND OIL, INC., AS SUCCESSOR BY ACQUISITION OF ASHLAND TECHNOLOGY, INC., FORMERLY UNITED STATES FILTER CORPORATION, AND ASHLAND TECHNOLOGY, INC., FORMERLY UNITED STATES FILTER CORPORATION, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
DA, a Liberian corporation, is a controlled foreign corporation under sec. 957(a), I.R.C. A Belgian corporation, T, entered into a written agreement with DA, under the terms of which T manufactures chemical products for DA. DA and its affiliates own no stock or other interest, directly or indirectly, in T. T and its affiliates own no stock or other interest, directly or indirectly, in DA or its affiliates. DA and T are therefore not related persons under sec. 954(d)(3), I.R.C. HELD, T is not a ‘branch or similar establishment‘ for purposes of determining the foreign base company sales income of DA. Sec. 954(d)(2), I.R.C. Carl A. Nordberg, Jr., and Sean T. Crimmins, for the petitioners.
Anne Hintermeister, for the respondent.
This case is before the Court on petitioners' motion for summary judgment under Rule 121.
Petitioner Ashland Oil, Inc., a domestic corporation with its principal office in Ashland, Kentucky, is the parent company of petitioner Ashland Technology, Inc., a domestic corporation with its principal office in Atlanta, Georgia. Respondent determined deficiencies in the Federal income taxes of the subsidiary, Ashland Technology, Inc., as follows:
+--------------------+
¦Year ¦Deficiency ¦
+------+-------------¦
¦1975 ¦$119,127 ¦
+------+-------------¦
¦1976 ¦1,791,463 ¦
+------+-------------¦
¦1977 ¦2,046,775 ¦
+------+-------------¦
¦1978 ¦1,919,083 ¦
+------+-------------¦
¦1979 ¦2,480,797 ¦
+--------------------+
Respondent determined the identical deficiencies for the parent, Ashland Oil, Inc., as transferee for the primary liability of Ashland Technology, Inc.
During the years at issue, and prior to its 1981 acquisition by Ashland Oil, Inc., the name of Ashland Technology, Inc., was United States Filter Corporation (U.S. Filter). U.S. Filter and its affiliates timely filed consolidated returns with the Internal Revenue Service at New York, New York, for the years at issue.
The statutory provision here involved is section 954(d)(2), which by its terms applies to a controlled foreign corporation (hereinafter sometimes referred to as a CFC) carrying on activities through a ‘branch or similar establishment.‘ The substantive issues before us are: (1) whether section 954(d)(2) applies to a contractual manufacturing arrangement between a CFC and another corporation, which corporation is unrelated to the CFC apart from the contractual arrangement; and, if so, (2) whether section 1.954-3(b)(1)(ii), Income Tax Regs., which treats manufacturing branches as within the scope of section 954(d)(2), is invalid.
A part of the record is a stipulation of facts, to be used only in our consideration of petitioners' motion for summary judgment. Unless otherwise noted, the background facts described below relate to the years at issue, 1975 through 1979.
U.S. Filter was a domestic corporation. Drew Chemical Corporation (Drew Chemical) was a wholly-owned domestic subsidiary of U.S. Filter. Drew Ameroid International (Drew Ameroid), a wholly- owned foreign subsidiary of Drew Chemical, was organized in 1973 under the laws of Liberia, in large part to save income taxes. Drew Ameroid, with its principal office in Athens Greece, was a ‘controlled foreign corporation‘ of Drew Chemical within the meaning of section 957(a), and Drew Chemical was a ‘United States shareholder‘ of Drew Ameroid within the meaning of section 951(b).
Drew Chemical was engaged in the manufacture and sale of industrial and marine chemical products. Drew Ameroid purchased and sold marine chemicals and other personal property, and did not itself manufacture any of the products it sold. The products sold by Drew Ameroid were manufactured or produced outside Liberia, and were also sold for use, consumption, and disposition outside Liberia.
Much of the record concerns the business relationship between Drew Ameroid and Societe Des Produits Tensio-Actifs et Derives, Tensia, S.A. (Tensia).
Tensia was organized in 1950 as a corporation under the laws of Belgium, which was also the location of its principal place of business. Tensia manufactured household and industrial detergents, soaps, and other cleaning products, including marine chemicals. No Tensia stock or other interest was owned, directly or indirectly within the meaning of section 958, by U.S. Filter, Drew Chemical, Drew Ameroid, or any of their affiliates. Similarly, neither Tensia nor any of its affiliates owned, directly or indirectly within the meaning of section 958, any stock or other interest in U.S. Filter, Drew Chemical, Drew Ameroid, or any of their affiliates. Tensia was not a related person with respect to Drew Ameroid within the meaning of section 954(d)(3).
Drew Ameroid and Tensia entered into a Manufacturing, License and Supply Agreement (the Agreement) as of September 15, 1973. Although the Agreement was generally subject to termination by either contracting party upon 12 months' written notice, it remained effective and unamended throughout the years at issue.
Under the Agreement, Drew Ameroid transferred to Tensia proprietary technical information, trade secrets, specifications, know-how, and other information (including designs, drawings, formulas, methods, techniques, and processes), to be used by Tensia in manufacturing, processing, and/or compounding approximately 25 products for Drew Ameroid. Tensia, for its part, agreed to adhere strictly to production and quality control specifications. The selling price for a product sold by Tensia to Drew Ameroid was the cost of the raw materials and packaging to Tensia plus a ‘conversion fee,‘ which included labor, overhead, financing, and remuneration (profit) to Tensia. Assuming that Tensia satisfactorily performed its contractual obligations under the Agreement, Tensia was guaranteed a profit.
Tensia purchased raw materials, for use in meeting its obligations under the Agreement, from several sources. Tensia purchased most of these raw materials, however, from vendors suggested by Drew Ameroid or from Drew Ameroid affiliates functioning as sourcing intermediaries. Tensia, rather than Drew Ameroid, owned the raw materials while they were in that state.
The Agreement required Tensia to deliver products within 30 days of the receipt of an order from Drew Ameroid. Tensia delivered the products directly to Drew Ameroid or to whomever Drew Ameroid designated, using labeling and packaging instructions provided by Drew Ameroid. As labeled by Tensia, a given product bore trademarks and tradenames of Drew Ameroid, an affiliate of Drew Ameroid, or a customer of Drew Ameroid.
The negotiation and consummation of the finished product resales were solely the responsibility of Drew Ameroid. As with the raw materials, Tensia owned the finished products until purchased by Drew Ameroid or its affiliates.
The Agreement provided that during its term, and for two years after its termination, Tensia could not manufacture or sell products similar to those covered by the Agreement for distribution to the same customers.
At least one employee of Drew Chemical or Drew Ameroid visited Tensia's manufacturing facilities monthly.
Tensia's gross sales under the Agreement never exceeded eight percent of its total gross sales:
+--------------------------------------------+
¦Year ¦Total gross sales ¦Under agreement ¦
+------+-------------------+-----------------¦
¦1974 ¦$62.7 million ¦$4.8 million ¦
+------+-------------------+-----------------¦
¦1975 ¦55.9 million ¦4.3 million ¦
+------+-------------------+-----------------¦
¦1976 ¦83.4 million ¦5.1 million ¦
+------+-------------------+-----------------¦
¦1977 ¦98.2 million ¦5.3 million ¦
+------+-------------------+-----------------¦
¦1978 ¦139.5 million ¦6.4 million ¦
+------+-------------------+-----------------¦
¦1979 ¦126.4 million ¦6.6 million ¦
+--------------------------------------------+
In contrast, at least 80 percent of Drew Ameroid's income was attributable to the resale of products manufactured by Tensia. Drew Ameroid had overall profits as follows:
+------------------+
¦Year ¦Profits ¦
+------+-----------¦
¦1974 ¦$3,556,987 ¦
+------+-----------¦
¦1975 ¦2,804,328 ¦
+------+-----------¦
¦1976 ¦2,750,721 ¦
+------+-----------¦
¦1977 ¦3,867,166 ¦
+------+-----------¦
¦1978 ¦4,058,346 ¦
+------+-----------¦
¦1979 ¦5,082,143 ¦
+------------------+
In his notices of deficiency, respondent determined that the manufacture of products by Tensia for Drew Ameroid, and the subsequent sales by Drew Ameroid to unrelated third parties, resulted in foreign base company sales income under the ‘branch or similar establishment‘ rule of section 954(d)(2).
A United States shareholder (Drew Chemical in this case) of a controlled foreign corporation (Drew Ameroid) generally must include in gross income a pro rata share of the CFC's subpart F income for the taxable year. Sec. 951(a)(1). Subpart F income includes, among other things, foreign base company income. Sec. 952(a)(2). Foreign base company income includes, among other things, foreign base company sales income. Sec. 954(a)(2).
As defined in section 954(d)(1), foreign base company sales income arises from the following transactions in personal property: the purchase from a related person and sale to any person, the purchase from any person and...
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