United States: Ninth Circuit Appellate Court Overturns Tax Court In Altera Case

Altera, a semiconductor company, now a subsidiary of Intel, has been in a dispute with the IRS over its non-inclusion of stock-based compensation (SBC) costs in the payments made under its intangible development qualified cost sharing arrangement (CSA). Altera's position in this matter was based on its belief that including SBC did not meet the regulatory arm's length standard despite clear regulatory requirements to the contrary for the periods concerned. The case moved through the Tax Court with a win for Altera, that the government appealed to the United States Court of Appeals for the Ninth Circuit (Ninth Circuit).

On July 24, 2018, the Ninth Circuit released an opinion on the appeal of the Tax Court ruling in the Altera case, overturning the opinion of the Tax Court. That Ninth Circuit opinion, however, was quickly withdrawn on August 7, 2018. Judge Stephen Reinhardt, who had sided with the majority in overturning the Tax Court's opinion, passed away in March after the hearing but months before the opinion was issued, some parties wondered about the propriety or issuing the final opinion several months after one of the three judges had passed away. More can be read about this in the TP Times released September 5, 2018 available here. After the withdrawal of the opinion, the three-judge panel was reconstituted, replacing Judge Reinhardt with Judge Susan Graber.

On June 7, 2019 the Ninth Circuit released their decision on the appeal.1 This case focused on the validity of amendments made to the cost sharing regulations in August of 2003 (2003 CSA SBC Regulations) which explicitly required the inclusion of SBC costs in intangible development cost (IDC) pools for CSAs. In a 2:1 majority decision, the Ninth Circuit overturned the earlier Tax Court decision and found that Treasury had met the requirements of the Administrative Procedures Act (APA) in promulgating the 2003 CSA SBC Regulations and therefore those regulations were valid, enforceable and IRS proposed adjustments to Altera were appropriate. While this recent opinion has some differences, the basis and nature of the 2019 opinion has much in common with the withdrawn 2018 opinion.

In its majority opinion, the Ninth Circuit provided detailed account of the rule making process around the 2003 CSA SBC Regulations as well as its interpretation of the legislative, regulatory and court finding history under Internal Revenue Code (IRC) §482 and its predecessors. The court's analysis especially focused on the evolution of the tax code, related congressional intent, and Treasury regulations as a result of the Tax Reform Act of 1986, which led to the addition of the commensurate with income (CWI) language in IRC §482 applicable to intangibles to counter perceived abuses related to taxpayer transfer pricing and activity around intangibles and intangible development. It also pointed to the detailed review in the transfer pricing "White Paper" presented to Congress in 1988 and Treasury's subsequent rewrite of its regulations under IRC §482 which were finalized in 1994 generally, and for cost sharing in 1995. The opinion noted that Treasury wrestled with the difficulty in finding reliable comparable transactions between unrelated parties for often unique intangibles in these regulations by clarifying the standard of comparability for the use of transactional methods and including specified non-transactional methods aimed at determining an arm's length result in the absence of more reliable uncontrolled comparable transactions. It interpreted the 1995 CSA Regulations as providing for such a method that sought to determine an arm's length result consistent with congressional intent and therefore standards of comparability more relevant to transaction-based methods were less relevant to cost sharing arrangements.

The Ninth Circuit found Treasury acted reasonably in adapting its regulations to account for changing circumstances, specifically in its promulgation of the 2003 CSA SBC Regulations to address the increased use of employee stock-based compensation by many companies, especially those in technology industries. The Ninth Circuit looked at the rule making process behind the 2003 CSA SBC Regulations and found that Treasury was not arbitrary or capricious. Regarding arguments advanced by Altera that Treasury had not adequately considered and responded to comments about the absence of SBC sharing in similar third-party arrangements, the majority concluded:

"We cannot find a failure in Treasury's refusal to consider comments that proved irrelevant to the decision-making process...because the comments had no bearing on the "relevant factors" to the rulemaking, nor any bearing on the final rule, there was no APA violation."

The majority concluded in this manner because it found that Treasury did not believe the evidence of SBC sharing between unrelated parties were sufficiently comparable transactions to related party CSAs to meaningfully address the question of arm's length outcomes in CSAs. Treasury further believed that the arm's length standard did not require analysis from comparable transactions to address the question of SBC inclusion.

The dissent from Justice O'Malley found that the majority has gone out of its way to justify the agency's rulemaking based on grounds that weren't invoked when the rules were being made–a direct violation of what is permissible under case law. In enacting the 2003 amendments to the cost sharing rules, Treasury repeatedly stated that they believed they were being consistent with the arm's length standard–something that's not true based on the finding of Xilinx.

The Ninth Circuit's decision might have also affected the services regulations under Treas. Reg. §1.482-9 effective July 31, 2009 (Services Regulations).2 These regulations also expressly require the inclusion of SBC costs in its definition of costs required for taxpayer's elective application of the Services Cost Method. For other methods, however, the Services Regulations leave open the position on inclusion of SBC costs to the comparability and reliably standards under best method selection, providing several examples of their views in the application of the Services Comparable Profits Method where SBC costs are included. The latest decision leaves these positions intact.

Altera/Intel now must decide whether to continue the dispute over SBC costs either through an application for rehearing by all the Ninth Circuit justices en banc, by appealing the case to the U.S. Supreme Court or to let the decision stand. In an issue that has no shortage of procedural controversy, we note that a similar en banc rehearing was accepted by the Ninth Circuit in the Xilinx case which looked at the same issue for the period preceding the 2003 CSA SBC Regulations, as a result of which the Ninth Circuit vacated a panel opinion overturning the Tax Court decision leaving the underlying Tax Court decision as it stood in favor of Xilinx.

As a result of this latest Ninth Circuit decision on the treatment of stock-based compensation cost, taxpayers with cost sharing arrangements, and potentially those with similar positions under the Services Regulations, have to wrestle with a number of things depending on the materiality of the decision to their facts and circumstances. These include, but are not limited to, various primary and secondary impacts of the case decision such as:

  • Changes to financial accounting tax reserve positions under ASC 740-10 or other GAAP disclosures.
  • Potential disclosures of a post quarter-end event in SEC filings.
  • Changes to SBC-related transfer pricing practices:
    • In the current fiscal year;
    • For closed fiscal years with unfiled tax returns; and
    • For closed fiscal years with filed tax returns.
  • Whether to make historical adjustments in amended tax returns for prior years, or cumulative adjustments in unfiled tax years or the current fiscal year, and the interaction of this opinion with any specific terms agreed between the cost sharing participants around the resolution of this issue in the CSA agreement.3
  • Potential changes to calculations and payments of tax under the 2017 Tax Cuts and Jobs Act (TCJA)4 including:
    • The transition tax on unrepatriated foreign earnings and profits;
    • Global Intangible Low Tax Income (GILTI) income and deduction calculations; and
    • Foreign Derived Intangible Income (FDII) deduction calculations.
    • Foreign tax credits and subpart F
  • Potential changes to pre-TCJA historical dividend repatriations and tax credits;
  • Potential changes to the calculation of other cost share related transactions currently or in the past such as:
    • Initial platform contribution transactions (PCTs);
    • Acquisition PCTs; and
    • Cost sharing change-in-interest transactions for companies that have on-shored, moved or changed their intangible rights under cost sharing.
  • Amendments that may need to be made to a CSA agreement to reflect new transfer pricing practices and related filings with the IRS or other tax authorities around cost sharing arrangements.
  • How and when to treat changes in U.S. state and local tax returns.
  • How and when to treat the adjustments in foreign tax returns.
  • Treatment of SBC cost sharing adjustments in Country by Country filings currently and in the past.

Some of the changes that companies may need to consider will also be informed by what those same taxpayers did when the 2003 regulations were invalidated by the original Tax Court decision or by the CSA agreement terms that the parties have around changes in the tax position on this issue. Hopefully many companies would have contemplated much of this after the previous "false start" associated with the initial withdrawn decision. Regardless, it may be a busy time for many tax departments to assimilate the impact of the decision through their arrangements and numerous filing positions.

Going forward, the net tax effect of the portion of SBC cost that is shared through cost sharing is not as impactful as it was in the past with reduced tax rate differentials between U.S. and non-U.S. income. Foreign profits will be reduced, reducing GILTI income, and the additional U.S. income will potentially be eligible for FDII deductions. TCJA, however, has many complex interactions, so each taxpayer will need to review the impact on their tax profile.

The Ninth Circuit's decision also directly affects the later amendments to the cost sharing regulations under Treas. Reg. §1.482-75 finalized in December 2011 (2011 CSA Regulations), which include the exact same SBC inclusion language. It also may be an indication of how the Ninth Circuit could approach other cases still before it and future cases. For example, the Amazon case, in which the Tax Court found in favor of the taxpayer referencing comparable uncontrolled transactions over IRS arguments to apply more formulary than transactional benchmarked valuation concepts and methods under the 2011 CSA Regulations which were not effective at the time.6 Future cases directly under the 2011 CSA Regulations will include consideration of its changes that arguably make conforming CSA's an elective. These regulations also require consideration of the realistic alternatives of the parties and state that selected methods for the valuation of a transfer of intangible property and intangible development rights under CSAs under Treas. Regs. §§ 1.482-4 and 1.482-7 should in aggregate yield results consistent with the specified Income Method; the Income Method being a results-based rather than comparable-based valuation approach.7 It also impacts the application of the TCJA on intangibles valuation which made more fundamental changes to the list of compensable intangibles and codified many of the previously mentioned regulatory changes around aggregation and realistic alternatives.

Internationally, the OECD transfer pricing guidance on cost contribution arrangements is largely silent on the issue of SBC costs. Among individual countries, the view and treatment of SBC's as a cost is mixed. Some, like the UK, have positions similar to the U.S. Treasury; other countries, like Canada, seemingly not. There seems to be a trend among countries addressing the impact of SBC's towards their recognition as a cost for financial reporting GAAP purposes which then often leads to similar positions for tax and transfer pricing as can be seen in India. With respect to cost sharing, with inclusion of SBC' in financial reporting costs, there is an increased likelihood of observable arrangements between unrelated parties that include SBC costs while many may still expressly exclude them because of their nature and the subjectivity around valuation. The same likelihood of observations for the treatment of SBC's as costs is true of services, however, it seems unlikely that the U.S. Federal Acquisition Regulation will be amended to allow inclusion of SBC's in cost-based service fee arrangements it enters into with its unrelated contractors and suppliers.8

Perhaps more importantly, a further secondary consequence of this decision may well be to fuel on-going debate over the applicability and use of the arm's length standard in the international community which is still trying to find consensus and under heavy pressure within the OECD BEPS Action 1 initiative and debate around the future taxation of the digital economy. In particular, it may embolden the use, and potential abuse, of results based non-transactional or methods, including the profit split methods, by tax authorities that prefer allocation-based methods in cases involving intangible contributions. The reliability of these methods and their consistency and relationship with the arm's length standard seems to be the key to any international consensus, and the Altera decision.

While Treasury are probably very pleased with the outcome of the Altera case, many taxpayers and practitioners are surprised by the decision, and opinion is certainly divided. A continuation of the dispute seems possible and, regardless of this case, the issue and what it represents more broadly will continue to be the subject of considerable ongoing debate.

1The Tax Court Case was Altera Corp. v. Com'r., 145 T.C. 91 (2015)
2T.D. 9456, 1.482-9 Treatment of Services Under Section 482; Allocation of Income and Deductions from Intangible Property; Apportionment of Stewardship Expense (26 CFR Parts 1 and 31, and 602)
3Many companies put in claw back payment provisions for cost shared SBC's with specific triggering events when the 2003 CSA SBC regulations were promulgated. When the Xilinx and/or Altera Tax Court decisions came out many companies stopped sharing SBC costs and may have also included additional adjustment terms in the event that SBC's were later found to be chargeable.
4H.R. 1, Public Law 115–97 (12/22/2017)
5T.D. 9568, 1.482-7 Section 482: Methods to Determine Taxable Income in Connection With a Cost Sharing Arrangement (26 CFR Parts 1, 301 and 602)
6We note that the Ninth Circuit did not try and apply the regulations retroactively in the Xilinx case, and we hear again Judge Foley's comments in the opinion in the Veritas case about taxpayers needing to be "compliant but not prescient".
7Consideration the realistic alternatives of the parties and aggregation were both part of the 1994/1995 rewrite of the Treasury regulations under IRC §482 but the terms were only added to the language of IRC §482 as part of the TCJA at the end of 2017.
8FAR 31.205-6(i) deems compensation based upon stock performance strictly an unallowable cost, stating in part: "Any compensation which is calculated, or valued, based on changes in the price of corporate securities is unallowable."

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Similar Articles
Relevancy Powered by MondaqAI
In association with
Related Topics
Similar Articles
Relevancy Powered by MondaqAI
Related Articles
Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Mondaq Free Registration
Gain access to Mondaq global archive of over 375,000 articles covering 200 countries with a personalised News Alert and automatic login on this device.
Mondaq News Alert (some suggested topics and region)
Select Topics
Registration (please scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.


The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.


Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions