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Ninth Circuit reverses itself in Xilinx.

The Ninth Circuit Court of Appeals affirmed the Tax Court's holding that allowed a semiconductor company to deduct costs of employee stock options (ESOs) without having to share them with its Irish subsidiary in a joint venture (Xilinx v. U.S., docket nos. 06-74246 and 06-74269, 3/22/2010). Thus the Ninth Circuit overruled its own holding last year that had reversed the Tax Court (5/27/2009, withdrawn). For Tax Matters coverage of the earlier appellate decision, see "Related Parties Must Share Employee Stock Options Costs," Oct. 09, page 69).

Xilinx and the subsidiary, Xilinx Ireland, entered a cost-sharing agreement for developing new technology that did not specifically address ESOs. Xilinx's business expense deductions for tax years 1997 through 1999 included a total of $177 million in costs of employee exercises of options. It also claimed related research and development credits totaling $84 million. The IRS issued a deficiency, claiming the costs should have been shared with Xilinx Ireland. Xilinx cited Treas. Reg. [section] 1.482-1(b)(1), which says that the arm's-length standard for determining taxable income of controlled parties is to be applied "in every case" and that uncontrolled parties operating at arm's length typically do not share ESO costs as part of a cost-sharing agreement. The IRS countered with Treas. Reg. [section] 1.482-7(d)(1), which provides that controlled parties in a cost-sharing agreement must share all costs related to developing intangible assets. The Ninth Circuit said the two provisions were irreconcilable. (Since the tax years at issue, the regulations have been amended to specifically include ESOs in shared costs.)

In its earlier ruling, the Ninth Circuit held that the general requirement of the former provision did not override the more specific provision of the latter. In its redetermination, the court rejected that tenet of construction as "all too pat." Rather, it said, the "dominant purpose" of the regulations should be respected: to provide parity between taxpayers in controlled and uncontrolled transactions.

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Title Annotation:employee stock options' tax deduction
Publication:Journal of Accountancy
Date:Jun 1, 2010
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