TG Missouri Corp. v. Comm'r of Internal Revenue, No. 8333–06.
| Citation | 133 T.C. 278,133 T.C. No. 13 |
| Decision Date | 12 November 2009 |
| Docket Number | No. 8333–06. |
| Parties | TG MISSOURI CORPORATION f.k.a. TG (U.S.A.) Corporation, a Missouri Corporation, Petitioner v. COMMISSIONER of INTERNAL REVENUE, Respondent. |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
P develops and uses production molds to manufacture automotive parts for its customers. P contracts with third-party toolmakers to build the production molds that P does not construct. After a third-party toolmaker finishes constructing a production mold, P purchases the mold and incurs additional design and engineering costs to modify the mold so that it can be used to produce the desired component part. P then either sells the completed production molds to its customers or retains ownership of the molds, but in either case P keeps the molds for production of automotive parts. On its 1998 and 1999 tax returns, in calculating its research credit under sec. 41, I.R.C., P included the amounts it paid the third-party toolmakers for the production molds it purchased and sold to P's customers, as the cost of supplies. R determined P improperly included the amounts it paid for such molds as the cost of supplies in computing its sec. 41, I.R.C., research credit because the production molds sold to P's customers are assets of a character subject to depreciation.
Held: The production molds P sold to its customers are not assets of a character subject to the allowance for depreciation for purposes of secs. 41(b)(2)(C), I.R.C., and 174(c), I.R.C. P properly included the costs of the production molds it purchased from third-party toolmakers and sold to its customers as the cost of supplies for calculating its sec. 41, I.R.C., research credit.
William E. Elwood, Andrew W. MacLeod, and Peter J. Kulick, for petitioner.*
Meso T. Hammoud, Elizabeth R. Proctor, Eric R. Skinner, and Christopher B. Sterner, for respondent.
Respondent determined deficiencies in petitioner's Federal income tax of $3,815,746 and $1,544,033 for 1998 and 1999,1 respectively. After concessions,2 the sole issue for consideration is whether production molds petitioner sold to its customers are assets subject to depreciation for purposes of sections 41 and 174.3 The resolution of that issue determines whether the amounts petitioner paid to third-party toolmakers for the molds 4 should have been included as “cost of supplies” in petitioner's qualified research expenses for purposes of computing its tentative research credits for 1997,5 1998, and 1999.
The parties submitted this case fully stipulated under Rule 122. We incorporate the stipulated facts into our findings by this reference. Petitioner's principal place of business was in Missouri when its petition was filed.
Petitioner is in the trade or business of manufacturing injection-molded products, such as steering wheels, air bags, and body side molding, for customers in the automotive industry. Petitioner's manufacturing process ordinarily begins when it receives a request for quotation from a customer. The request for quotation includes general product specifications and requirements and requires petitioner to develop a basic technical design for the injection-molded product. After receiving the request, petitioner contracts with the customer to develop a production mold that will enable petitioner to manufacture the desired product. Under the terms of the contract, petitioner is entitled to payment only if it successfully designs and builds a mold capable of producing a sample product and the customer accepts the products produced using the mold.
Depending on the particular injection-molded product, petitioner will either construct the production mold in-house or contract with a third-party toolmaker. When petitioner contracts with a third-party toolmaker, the toolmaker will construct the production mold according to petitioner's design specifications. The toolmaker does not guarantee that the mold will perform to petitioner's customer's specifications or produce the desired part in accordance with design specifications of petitioner's customers. Once petitioner and the third-party toolmaker develop a design, petitioner works with the toolmaker to build a prototype mold. The purpose of the prototype mold is to permit a limited number of test runs of the component part to isolate design flaws. Partly on the basis of input from testing the component parts of the prototype mold, petitioner then engages the third-party toolmaker to build the production mold. While the third-party toolmaker constructs the production mold, petitioner accumulates all costs relating to the production mold's construction in a tooling inventory account.
After the third-party toolmaker finishes constructing the production mold, petitioner purchases the mold. However, the production mold petitioner purchases from the third-party toolmaker is not capable of producing sample products in accordance with the specifications of petitioner's customers. Consequently, petitioner incurs additional design and engineering costs to modify the production mold so that the mold produces the desired component part. These costs are primarily wages paid to petitioner's engineers.6 The completed production mold is then used in the mass production of the single component part desired by the customer. From the request for quotation until the time the customer accepts the production mold, it generally takes 24 to 36 months to develop, design, construct, and test it.
Depending on the terms of the agreement between petitioner and the customer, the customer may either purchase the completed production mold from petitioner or, in certain cases, it may have petitioner retain ownership of the mold. The process for developing a production mold and the use of the mold in petitioner's business to produce the parts for the customer is the same regardless of whether petitioner retains ownership of the mold or the customer purchases the mold. If petitioner retains ownership of the production mold, it depreciates the cost of the mold, and the customer effectively pays for the production mold by paying a higher per-unit price for the part produced using the mold. Petitioner does not claim any research expenses or credit for the production molds it owns and depreciates.
If the customer purchases a completed production mold, title to the mold shifts to the customer once construction of the mold is completed and the customer pays for the mold. However, petitioner retains possession of the mold for production of the component part, and the customer retains the risk of loss for the mold.7 Petitioner also reduces its tooling inventory account by the cost of the mold when it sells the mold to the customer.
Petitioner timely filed its 1997–99 Forms 1120, U.S. Corporation Income Tax Return. On its 1998 and 1999 returns, petitioner capitalized and depreciated the costs paid to third-party toolmakers for the production molds for which it retained ownership. However, with respect to the production molds sold to customers, petitioner included the costs paid to the third-party toolmakers as qualified research expenses for purposes of computing its section 41 research credit. On its 1997, 1998, and 1999 returns, petitioner included in its qualified research expenses, for purposes of computing its research credit for each year, “cost of supplies” of $32,055,348, $15,192,035, and $5,347,217, respectively.8 Of those amounts, $25,909,801, $12,192,783, and $4,602,854 were attributable to the costs petitioner paid to third-party toolmakers for the production molds in 1997, 1998, and 1999, respectively.
On its 1997 tax return petitioner claimed a $2,316,601 research credit; petitioner used $48,675 of this amount in 1997 and carried forward $2,267,926 to 1998. On its 1998 tax return, petitioner claimed a $1,225,235 research credit; petitioner used $306,636 of this amount in 1998 and carried forward $918,599 to 1999. On its 1999 tax return, petitioner claimed a $399,472 9 research credit; petitioner used $231,558 of this amount in 1999 and carried forward $167,914.
On February 6, 2006, respondent mailed petitioner a notice of deficiency for 1998 and 1999.10 Respondent determined that the $25,909,801, $12,192,783, and $4,602,854 petitioner claimed in 1997, 1998, and 1999, respectively, for costs incurred in purchasing the production molds from third-party toolmakers did not qualify as research expenses for purposes of computing petitioner's tentative research credit for each year. As a result of this and other adjustments,11 respondent reduced petitioner's claimed research credit for 1997, 1998, and 1999 by $1,695,028, $876,992, and $301,610, respectively, and adjusted the amounts available for petitioner to carry over from these years. Respondent's adjustments resulted in total allowable research credits to petitioner of $921,141 and $97,862 for 1998 and 1999, respectively, and total reductions to petitioner's allowable section 38 general business credit, as set forth in the notice of deficiency, of $216,357 and $623,684, respectively, for these years.
Petitioner timely filed a petition with this Court challenging respondent's adjustments. Petitioner alleges in the petition that the costs it incurred in 1997, 1998, and 1999 in producing the production molds sold to its customers qualify as research expenditures for purposes of the section 41 research credit. Petitioner asserts that it is entitled to the research and development tax credits it claimed for 1998 and 1999 and is entitled to carry over to those years all excess tax credits arising from 1997–99.
When this case was called from the trial calendar of this Court, the parties moved pursuant to Rule 122 to submit this case fully stipulated. We granted the motion and set a briefing schedule. Both parties filed timely posttrial briefs in accordance with the briefing schedule.
Subsequently, Northrop Grumman Corp. filed a motion for leave to file a brief as...
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