Computervision Intl. Corp. v. Commissioner
| Decision Date | 18 March 1996 |
| Docket Number | Docket No. 25135-93.,Docket No. 25134-93. |
| Parties | Computervision International Corp. v. Commissioner. Computervision Corporation and Subsidiaries<SMALL><SUP>1</SUP></SMALL> v. Commissioner. |
| Court | U.S. Tax Court |
John S. Brown, George P. Mair, Donald-Bruce Abrams, Jody E. Forchheimer, Boston, Mass., for the petitioners. Charles W. Maurer, Jr. and John C. Galluzzo, Jr., for the respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
Respondent determined a deficiency of $9,460,419 in the Federal income tax of petitioner Computervision International Corp. (CVI) for its taxable year ended January 31, 1984.
Respondent determined the following deficiencies in the Federal income tax of petitioners Computervision Corp. (CV) and subsidiaries for the following years:
Taxable Year Ended Deficiency
Dec. 31, 1983 ...................... $ 25,226
Dec. 31, 1984 ...................... 32,279
Dec. 31, 1987 ...................... 4,720,840
Feb. 5, 1988 ....................... 570,819
After concessions, the following issues remain for decision:
(1) Whether CVI qualifies as a domestic international sales corporation (DISC) for its taxable years ended January 31, 1983 and 1984;
(2) whether petitioners are entitled to net interest income against interest expense in calculating CV's deduction for commissions payable to CVI with respect to each of CVI's taxable years ending January 31, 1983 and 1984, and December 31, 1984; and,
(3) whether the net proceeds of the sale of a certain stock warrant held by CV are long-term capital gain, ordinary income, or a reduction in CV's cost of goods sold.
Unless otherwise indicated, all Rule references are to the Tax Court Rules of Practice and Procedure, and all section references are to the Internal Revenue Code in effect for the years in issue. Some of the facts have been stipulated for trial pursuant to Rule 91. The parties' stipulations are incorporated in this Memorandum Opinion by reference and are found accordingly except as noted below with respect to certain stipulations to which objections were reserved.
The principal place of business of both CV and CVI was Bedford, Massachusetts, at the time each filed its petition in the instant case. CV, a Delaware corporation, designs, manufactures, and sells computer-aided design, computer-aided manufacturing, and computer-aided engineering (CAD/CAM/CAE) products. CV maintains its books and records on an accrual accounting basis using a calendar year.2 During relevant periods, CVI, a Massachusetts corporation, maintained its books and records on an accrual accounting basis using a fiscal year ending January 31.3 During CV's and CVI's taxable years ending in 1983 and 1984, CVI was a wholly owned subsidiary of CV.
CVI was organized in 1972 to serve as a sales agent for CV with respect to CV's sales of its products to customers located outside the United States. CVI qualified as a DISC for each of its taxable years ending prior to the taxable years for which its DISC status is in issue in the instant case (viz, its taxable years ending January 31, 1983 and 1984 (relevant taxable years)). Throughout the periods relevant to the instant case, Martin Allen was CVI's president, Richard Krieger was its treasurer, and James Spindler was its clerk. They were also the directors of CVI.
CV and CVI entered into a series of agreements with respect to their export sales activities. Under a written agreement entitled "Commission Agreement" (commission agreement) dated as of March 22, 1972, that was in effect during the periods relevant to the instant case, CVI was appointed CV's sales agent with respect to CV's sales of CV's products to customers located outside the United States. The commission agreement provided that, in exchange for services provided under the agreement, CVI would receive a commission equal to the maximum amount allowable pursuant to section 994.
Pursuant to a written agreement entitled "Agreement Designating Foreign Marketing Departments and Related Intercompany Accounts" (export promotion agreement) dated as of February 1, 1980, that was also in effect during the periods relevant to the instant case, certain departments within CV were designated foreign marketing departments of CVI for purposes of accounting for export promotion expenses within the meaning of section 994(c) to be incurred by CVI and certain accounts were designated as export promotion expense accounts. Pursuant to the export promotion agreement, CVI obligated itself to reimburse CV annually for export promotion expenses accounted for in the designated accounts that were to be paid by CV in the first instance. The export promotion agreement provided that CV would bill the expenses to CVI at the close of CVI's fiscal year and that the amount due was payable within 60 days after billing.
Pursuant to a written agreement entitled "Accounts Receivable Purchase Agreement" (master receivables purchase agreement) dated as of January 31, 1981, CVI was authorized to purchase from time to time an undivided interest in CV's accounts receivable arising from certain of the types of transactions that give rise to qualified export receipts pursuant to section 993(a)(1) and on which CVI was entitled to receive a commission (qualified export receivables). Pursuant to the master receivables purchase agreement, the purchase price to be paid for the undivided interest in the qualified export receivables was to be determined at the time of purchase and was to reflect a reasonable discount on the amount of the receivables purchased. The agreement also provided that CV would produce, upon demand by CVI, a list of the qualified export receivables in which CVI had an interest, including the identity of the account debtor, the amount of each receivable, and the date on which it arose. CV was required to bill and collect all payments on the qualified export receivables in which CVI had an interest on CVI's behalf and, unless requested to remit the proceeds to CVI, to substitute an undivided interest in additional receivables for those discharged.
Using the commissions paid it by CV, CVI, pursuant to the master receivables purchase agreement, periodically purchased at a discount interests in CV's qualified export receivables that were qualified export assets within the meaning of section 993(b). During its 1981 taxable year, CV entered into the following sales of qualified export receivables to CVI at a discount under the master receivables purchase agreement:
Receivables
Date of Sale Face Amount
Oct. 1, 1981 ..................... $23,345,288
Oct. 15, 1981 .................... 1,874,000
Dec. 1, 1981 ..................... 4,028,369
Under the terms of the sales, CV was obligated to pay to CVI all proceeds collected with respect to CVI's interest in the qualified export receivables on September 30, 1982.
During 1982, CV made an election to use the installment method to report its income with respect to domestic and foreign sales. Because CV believed that further purchases of qualified export receivables by CVI would result in recognition of income by CV at the time of the purchases, a plan was developed during September 1982 by CV's tax department and its outside accountants, Price Waterhouse, both to avoid recognition of income from the purchase of qualified export receivables and to maintain CVI's status as a DISC (the plan). Under the plan, when CV became obligated to pay CVI the proceeds collected with respect to CVI's interest in the qualified export receivables on September 30, 1982, CVI would use the proceeds of the investment to fund demand loans to CV that would not be "qualified export assets" within the meaning of section 993(b). CVI would call those loans prior to the end of its taxable year and use their proceeds to (1) purchase qualified export receivables, (2) reimburse CV for export promotion expenses incurred on behalf of CVI, and (3) pay a dividend to CV. It was expected that the execution of the plan would cause CVI to satisfy the 95 percent of assets test provided by section 992(a)(1)(B) at the close of its taxable year. The plan was approved by Mr. Krieger and Mr. Spindler. By purchasing CV's qualified export receivables at the end of January of 1983, CVI sought to minimize the amount of the receivables that might be paid before the end of its taxable year because the conversion of the receivables to cash could have caused CVI to fail the 95 percent of assets test.
The following series of events occurred pursuant to the plan. First, CVI made demand loans to CV on the following dates in 1982 in the following amounts:
Date Amount of Loan
Sept. 30 ...................... $27,272,888.00
Oct. 29 ....................... 1,142,311.00
Nov. 1 ........................ 1,135,689.50
Nov. 16 ....................... 1,046,278.76
Dec. 1 ........................ 1,099,944.32
Then, on January 27, 1983, CVI made written demand for payment of both the principal amounts of the loans (viz, $31,697,111.58) and accrued interest thereon (viz, $1,386,326.55), which totaled $33,083,438.13. On January 31, 1983, the following occurred: (1) CV wired the sum to CVI in full payment of the principal amounts and interest, and the sum was deposited in CVI's account with the First National Bank of Boston; (2) CVI received the proceeds of two maturing time deposits, totaling $5,663,970.38, that were also deposited on that date in the account; (3) CVI wired both the payment it had received from CV and the proceeds of the maturing time deposits to CV, transferring a total of $38,747,408.51.
The receipt by CVI of the proceeds of its maturing time deposits was recorded in its general ledger by entries recorded and approved between January 20, 1983, and January 25, 1983. The repayment...
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