General Electric Co. v. Commissioner
| Decision Date | 13 July 1995 |
| Docket Number | Docket No. 14715-92. |
| Citation | 70 T.C.M. 39 |
| Court | U.S. Tax Court |
| Parties | General Electric Company and Subsidiaries v. Commissioner. |
Mark K. Beams, Laurence A. Hoch, and Craig L. Sigworth, Albany, N.Y., for the petitioner. Lewis R. Mandel and Christopher B. Sterner, for the respondent.
Respondent determined deficiencies of $23,847,089 and $221,968,862 in petitioner's 1979 and 1980 Federal income taxes, respectively. Respondent reflected this determination in a notice of deficiency issued to petitioner on April 2, 1992. Petitioner petitioned the Court on June 30, 1992, to redetermine respondent's determination.
The parties submitted the case to the Court without trial.1 See Rule 122. We must decide whether aircraft engines (engines) and thrust reversers (reversers) sold by General Electric Co. (GE) to Boeing Aircraft, Inc. (Boeing), and McDonnell Douglas Corp. (McDonnell Douglas) were "export property" under section 993(c)(1)(B). Our decision hinges on whether the engines and reversers were "subject to any * * * assembly" under section 1.993-3(d)(2)(iii), Income Tax Regs., following their sale to Boeing and McDonnell Douglas.
We hold that the engines and reversers were not "export property" because they were "subject to * * * assembly" following their sale. Unless otherwise indicated, section references are to the Internal Revenue Code in effect for the years in issue. Rule references are to the Tax Court Rules of Practice and Procedure.
The stipulated facts and attached exhibits are incorporated herein by this reference. Petitioner's principal office was in Fairfield, Connecticut, when it petitioned the Court. GE, the common parent of the affiliated group of corporations that makes up petitioner, manufactures sophisticated engines and reversers. GE sells the engines and reversers to foreign and domestic buyers. The engines power large aircraft. The reversers reverse the thrust of the engines to decelerate the aircraft during landings.
GE sold both the subject engines (GE engines) and the subject reversers (GE reversers) to Boeing and McDonnell Douglas during GE's 1979 and 1980 taxable years. GE made these sales through its wholly owned subsidiary, General Electric International Sales Co. (International). International qualified as a "domestic international sales corporation" (DISC), see sec. 992(a)(1), during those years. International was GE's export sales agent, and was entitled to receive commissions on GE's export sales. The commissions equaled the maximum commissions permitted to be received by a DISC under section 994.
Boeing and McDonnell Douglas manufacture airframes. Basically, airframes are the full aircraft less engines and reversers. After manufacturing the airframes, Boeing and McDonnell Douglas install engines and reversers thereon and deliver the finished aircraft to foreign purchasers for their use, consumption, or disposition outside of the United States.
For the years in issue, GE accrued the following income from its sale of GE engines and GE reversers:2
GE Engines GE Reversers
1979 ................ $203,255,148 $38,634,051
1980 ................ 306,506,587 61,984,661
Each GE engine was an identifiable product that the aviation industry viewed as having a separate and independent identity throughout its useful life. Each reverser was viewed by the aviation industry as part of the airframe throughout the reverser's useful life.
The Federal Aviation Administration (FAA) supervises and regulates the manufacture of aircraft engines and airframes in the United States. The FAA maintains separate records for the ownership of aircraft engines and the ownership of airframes. The FAA views engines as separate and distinct items. Each engine has a separate serial number that allows the engine to be tracked throughout its useful life by the FAA, GE, and the airline that owns the engine.3
During the years in issue, the FAA issued Aircraft Engine Type Certificates and Aircraft Engine Production Certificates to GE with respect to its engines. An Aircraft Engine Type Certificate signifies that the FAA formally approved the manufacturer's design for manufacturing the engines. An Aircraft Engine Production Certificate signifies that the FAA formally approved the quality control system for the manufactured engines based on certain airworthiness standards. Airframe manufacturers were required to obtain separate Aircraft Engine Type Certificates and Aircraft Engine Production Certificates, as well as Export Certificates of Airworthiness,4 for their aircraft powered by engines. Each application that Boeing and McDonnell Douglas submitted for an Export Certificate of Airworthiness was required to separately identify the serial numbers of the engines attached to the airframes.
Engines cannot be installed on an airframe until the engines have been "built-up." The "building-up" process involves attaching to each engine over 2,000 parts received from more than 40 different vendors. The process involves attaching Quick Engine Change Hardware (QECH) that, in part, permits the installation of the engine on the airframe, permits the engine to power the aircraft's operating system, and permits the attachment of various connectors designed to transmit information concerning the operating system to the airframe's cockpit. The engine build-up process took approximately 110 to 160 hours during the years in issue. Neither Boeing nor McDonnell Douglas performed directly any of the building-up activities; they subcontracted the work to third parties.
After build-up, four bolts were used to attach the engines to the airframe's wing pylon. This process took approximately 3 hours. The reversers and their external coverings were then attached to the airframe using additional bolts. This installation took another 60 to 65 hours.
For safety reasons, aircraft engines have a stringent maintenance regime. After build-up, GE engines were designed to be quickly and easily separated from the airframe.5 This design was intended to expedite maintenance of the GE engines and installation of a different GE engine to the airframe. The ability to interchange GE engines maximized airframe productivity by shortening the time an airframe had to be grounded while an engine was undergoing maintenance. An engine removed from one aircraft for maintenance was usually reinstalled on another when the maintenance was complete. Alternatively, the engine was stored and held as a "ready spare" until needed. An active secondary market also existed for the purchase and sale of used engines and aircraft.
The QECH and the engines were subject to independent maintenance schedules. After a GE engine was detached from the airframe for maintenance, the QECH was removed and pooled with similar QECH. The GE engines and the originally attached QECH were usually decoupled from each other and from the airframe to which they were originally attached. The process of: (1) Removing the GE engine for maintenance, (2) removing the QECH from the engine, (3) separately maintaining the GE engine and the QECH, (4) attaching different QECH to the GE engine, (5) attaching the original QECH to different GE engines, and (6) substituting a different GE engine on the original airframe, continued at 12- to 15-month intervals over the useful life of each GE engine.
During all years relevant herein, none of the major airframe manufacturers in the world manufactured aircraft engines. Whenever an airframe manufacturer entered into an agreement to sell a new aircraft to an airline, the manufacturer would require the airline to select the make of the aircraft engines that it wanted to power the airframe.6 The airframe manufacturer would then purchase the engines from the engine manufacturer selected by the airline.
GE actively solicited orders for its engines and reversers directly from prospective airline purchasers, both foreign and domestic. GE did so without regard to whether: (1) The ultimate purchase would occur by the airline's selection of the GE engines in purchasing an aircraft from an airframe manufacturer or (2) the airline would purchase the engines and reversers directly from GE. GE advertised its products in a number of international and domestic aviation publications.
Whenever GE learned that an airline might be interested in purchasing engines and reversers, GE contacted and met with the airline, described the advantages of GE's products, and negotiated the terms that would apply if the airline chose to purchase GE's products.
When a foreign airline agreed to use GE's products on a newly purchased aircraft, GE and the airline generally entered into an agreement (separate from the aircraft purchase contract) specifying the discounts and allowances (e.g., cash rebates, free parts, free upgrade kits, advertising allowances) that GE would provide the airline in return for its purchase of a new aircraft equipped with GE engines and GE reversers. As a variation to this approach, GE sometimes executed a general agreement as a result of direct marketing activities conducted before the airline was ready to make a purchase. The general agreement specified the terms that would apply if the airline decided to purchase products (either directly or from an airframe manufacturer) at that time or in the future.
With respect to each of its sales of the GE engines and GE reversers, GE agreed to provide some type of discount or allowance to the foreign airline in return for the airline's agreement to use GE products on a new aircraft. The costs of the GE engines and the GE reversers were approximately 18 percent and 1.5 percent, respectively, of the total cost of the finished aircraft to which they were attached. At the time GE shipped each of the GE products at issue, GE knew the identity of the foreign airline that was expected to receive a new aircraft that included GE's products.
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