This document analyzes two issues regarding the application of the income method for valuing intangible assets that are platform contributions in cost sharing arrangements. First, it discusses whether the income method should apply to pre-2009 cost sharing agreements. Second, it argues that the IRS's assumption of perpetual useful life of intangibles under the income method is inaccurate. It reviews two litigation cases, Veritas and Amazon, to illustrate these issues. It also proposes that accounting for a finite useful life of intangibles would provide a more accurate valuation under the income method. In conclusion, the document analyzes challenges with the income method and proposes potential solutions.

1. LITIGATION UNDER THE INCOME METHOD: FROM UNSPECIFIED METHOD
TOWARDS USEFUL LIFE OF PLATFORM CONTRIBUTION
By
Oksana Korenovska
Exam Number: 51348
Transfer Pricing: Selected Topics
Professors David Ernick, Joe Tobin & David Fischer
April 27, 2015

2. 1
Table of Contents:
I. Introduction ………………………………………………………………… 2
II. Background …………………………………………………………………. 3
III. The Income Method…………………………..…………………………… 3
A. Discount Rate …………………………………………………………….7
IV. History of Buy-in/PCT Rules in U.S. Cost Sharing Arrangements…………..8
A. The 1995 Cost Sharing Treasury Regulations…………………………….9
B. Presentation of the Income Method ……………………………………. . 9
V. Litigation under the Income Method…………………………….……… …..12
A. Veritas Software Corp. v. Commissioner……………………………….. 12
B. Possible Outcome in Amazon.com & Subsidiaries v. Commissioner….. 18
C. Issue of Useful Life of Intangibles under the Income Method………..… 24
VI. Conclusion……………………………………………………………………..32

3. 2
I. Introduction
In this paper I analyze two issues regarding application of the income method for valuation of
intangibles that are buy-in/platform contributions (PCTs) in cost sharing arrangements (CSAs).
The first issue is whether the income method should apply to the pre-2009 CSAs. The second
one is whether the IRS’s assumption of perpetual useful life of intangibles implemented under
the income method is accurate. I also touch upon on possible solutions to these problems.
To start, an explanation is provided as to the meaning of the CSAs, description of the income
method and the discount rate under the 2011 cost sharing Treasury Regulations and presentation
of the history of the income method. Then, I proceed with the discussion of current litigation
under the income method. Veritas1
and Amazon2
cases are discussed. In Veritas, I describe the
facts of the case, the Tax Court holding, and the IRS’ respond - Action on Decision (AOD)
N2010-493
and provide my view on the AOD. In Amazon, I provide the facts of the case and
analyze similarities and differences in both cases in order to forecast an outcome in Amazon
which is the respondent’s loss. In addition, I show that had the case been argued under the 2009
cost sharing regulations, it would have turned out differently. Finally, I argue in favor of a finite
useful life of intangible and propose the possible a possible solution to how risk of obsolescence
might be built into the income method.
1
‘Veritas’ refers to Veritas Software Corp. v. Commissioner, 133 TC 297 (2009).
2
‘Amazon’ refers to Amazon.com, Inc. & Subsidiaries v. Commissioner, Docket No. 31197-12 (12/28/12)
[hereinafter the Amazon Petition], available at Tax Analysts, www.taxanalysts.com.
3
Action on Decision N2010-49 on 12/06/2010 available at www.irs.gov/pub/irs-aod/aod201005.pdf. [hereinafter
AOD]

4. 3
II. Background
The two parties of a CSA are the parent corporation, typically located in the U.S. and its foreign
subsidiary, typically located in a foreign jurisdiction. They jointly invest money in research and
development (R&D) of a future intangible located in a foreign jurisdiction which typically has a
lower corporate tax rate than the U.S. Besides the R&D investments, the U.S. parent contributes
a developed in the U.S. intangible (buy-in/pre-existed intangible/platform contribution (PCT)) to
its foreign subsidiary as a part of the investment for the CSA.4
The foreign subsidiary, in turn,
has to make a buy-in/PCT payment for these intangible to the U.S. parent. In return for the buy-
in/PCT payment and R&D investment, the subsidiary receives an ownership of rights to exploit
the pre-existing/PCT and future intangibles specified in the CSA in markets outside the U.S. At
the same time, in return for the R&D investments the U.S. parent receives a right to exploit the
developing intangibles on the U.S. market. One of the core issues that usually arises under the
CSAs is computation of the buy-in/PCT payment.
III. The Income Method
Among the various methods for valuing a buy-in/PCT is the income method. Notwithstanding
that the income approach has been used for a long time,5
it appeared in the Proposed Regulations
only in 2005 and then in the Temporary Regulations in 2009 and the final Regulations in 2011.
4
While pre-existing intangible developed in the U.S. and payment made for them are referred as “buy-in”, “pre-
existing intangible” and “buy-in payment” under the 1995 cost sharing regulations, they are referred as “platform
contribution” (PCT) and “PCT payment” under the new cost sharing treasury regulations. The reason for renaming
the “buy-in intangible” into the “PCT” lies in the IRS’ revision of its approach for valuing this intangible. While the
pre-existing intangible was seen as having only the make-sell rights, the PCT was seen as possessing the R&D rights
in addition to the make-sell rights.
5
See Nestlé Holdings, Inc. v. Commissioner (1995). In Nestle the court found reasonable the IRS’s the relief-from-
royalty method. The method is similar to the income approach. The IRS calculated the fair market value of a
trademark by calculating the net present value of the stream of royalty payments. This stream is calculated by (i)

5. 4
Generally, the income approach values an intangible asset as the present discounted value of the
stream of projected operating profits of the company, after reduction for routine returns and
projected payments.6
The income method introduced by the regulations is a narrowly defined variation of the family of
the income approaches.7
The method measures value of a PCT which a controlled participant
invested into a CSA. The PCT is defined as “any resource, capability, or right that a controlled
participant has developed, maintained, or acquired externally to the intangible development
activity (whether prior to or during the course of the CSA) that is reasonably anticipated to
contribute to developing cost shared intangibles.”8
The method measures the PCT payment based
on the assumption that the PCT contributes to the profit anticipated from sales of existing
products and future products that would incorporate with new intangible developing under the
CSA. The income method generally is limited to the cases where only one of the controlled
participants contributes a non-routine PCT.9
The method measures value of the PCT as the difference between the present value (PV)10
of
profit that the PCT payor, a foreign subsidiary, expects to earn and the PV of profit that it would
determining if the trademark is capable of being licensed, (ii) picking a royalty rate for the trademark, and (iii)
multiplying this rate by the estimated revenue stream of the product associated with the mark.
6
Description is taken from Coordinated Issue Paper on Section 482 CSA Buy-in Adjustment, LMSB-04-0907-62
[hereinafter CSA-CIP]. The CSA-CIP, however, was withdrawn in June 2012 after the rejection of its concept in
Veritas.
7
S. Blough, C. Chandler & P. Subramanian, KPMG LLP, Why is The IRS’s Income Method is Not Really a New
Method, 2011, www.kpmg.com
8
Treasury Regulation §1.482-7(c)(1) (2011)
9
Treasury Regulation §1.482-7(g)(4)(D) (2011)
10
PV is the value of an expected income determined as of a date of valuation. A simplified phrase that describes PV
concept is “A dollar today worth more than a dollar tomorrow.” The formula for PV calculation of future income
stream is PV=C/(1+ἰ)ᴺ, where C is the future income that must be discounted, N is the number of periods, i.e. years
for which you want to discount the income C, and ἰ is the interest rate in a given year.

6. 5
expect to realize under a “realistic alternative.”11
Treasury Regulation §1.482-7(g)(2)(iii)(A)
states that the reliability of applicable method depends on the degree of consistency of the
analysis with the best realistic alternative. The best realistic alternative is the one which provides
the highest profit.12
The idea behind the realistic alternative concept is that an uncontrolled
taxpayer would have entered into transaction if no alternative is preferable.13
A realistic
alternative for the PCT payor is a license of the intangible from an uncontrolled licensor who
developed the intangible and bore the risks related to the development process.14
Determination
of the PCT payment under the income method involves three steps.15
First, the PV of the profit under the CSA is computed by estimating the PV of the PCT payor’s
profit during the useful life of intangible.16
Second, the PV of the profit under a realistic
alternative is calculated as the PV of the PCT payor’s profit from the license of the intangible.17
To compute the income under the realistic alternative, the CSA Regulations provide CUT royalty
rates or CPM approach.18
Third, the PCT payment is calculated by subtracting the number
determined under the second step from the number determined under the first step.
To illustrate, let’s discuss example 7 provided in Treasury Regulation §1.482-7 (2011). This
example illustrates the PCT payment under CUT with terminal value calculation in a case where
the U.S. parent (USP) and its CFC do not anticipate cessation of the CSA with respect to
11
Description how to calculate a PCT is taken from Blough
12
The description of “realistic alternative” is taken at www.irs.gov/pub/int_practice_units/ISO9411_01_03.PDF
13
Id.
14
Blough
15
Id.
16
Id.
17
Id.
18
Treasury Regulation §1.482-7(g)(4)(iii)

7. 6
technology Z.19
According to this example, platform contribution consists of the USP’s R&D
team Q that developed technology Z and “the rights to further develop and exploit the future
application of Z.”20
The assumed data is depicted in Table 1.
Table 1
Sales 100X in Y1-Y2, 200X in Y3, 400X in Y4, 600X in Y5, 650X in Y6,
700X in Y7, 750X in Y8, annual growth 3% thereafter
Routine and operating cost contributions 60% of gross sale
Cost contributions 25X in Y1-Y2, 50X in Y3-4 and then 10% of gross sale annually
Cost sharing alternative discount rate 14% per year
Licensing alternative discount rate 13% per year
Royalty rate under licensing alternative 30% of sales price
Calculation of the CSA and licensing alternative (LA) is illustrated below in Table 2 and 3.
Table 2: Cost Sharing Alternative
Time Y1 Y2 Y3 Y4 Y5 Y6 Y7 Y8 TV
Discount period 0 1 2 3 4 5 6 7 7
Sales 100 100 200 400 600 650 700 750 3% growth
Routine costs
(60% of sales)
(60) (60) (120) (240) (360) (390) (420) (450) 60% of annual
sales
Cost
contribution
(25) (25) (50) (50) (60) (65) (70) (75) 10% of annual
sales
Profit 15 15 30 110 180 195 210 225 Sales minus
costs
PV (14%
discount rate)
15 13.2 23.1 74.2 107 101 95.7 89.9 842
Total 15 + 13.2 + 23.1 + 74.2 + 107 + 101 + 95.7 + 89.9 + 842 = $1,361X
Table 3: LA
Time Y1 Y2 Y3 Y4 Y5 Y6 Y7 Y8 TV
Discount period 0 1 2 3 4 5 6 7 7
Sales 100 100 200 400 600 650 700 750 3% growth
Routine costs (60%
of sales)
(60) (60) (120) (240) (360) (390) (420) (450) 60% of
annual sales
Operating profit 40 40 80 160 240 260 280 300 Sales minus
costs
PV of profit (13%
discount rate)
40 35.4 62.7 111 147 141 135 128 1313
Total PV of profit 40 + 35.4+ 62.7 + 111 + 147 + 141+ 135 + 128 + 1313 =
$2,112.7X
19
Treasury Regulation §1.482-7(g)(4)(viii)
20
Id.

8. 7
Licensing payment
(30% of sales)
30 30 60 120 180 195 210 225 30% of sales
PV of licensing
payments (13%
discount rate)
30 26.5 47 83.2 110 106 101 95.6 985
Total PV of
licensing payments
30+ 26.5+ 47+ 83.2+ 110+ 106+ 101+ 95.6+ 985=
1,584.5X
Total PV of
licensing alternative
2,112.7 - 1,584.5 = $528X
The lump sum PCT payment is equal to the difference between the PV of LA and the PV of cost
sharing alternative before the PCT payment that is $833X.
There are two noteworthy numerical observations application of which will be discussed further
in this paper. First, without terminal value, the PCT payment would be reduced by $514.2
million or 62% of the PCT payment.21
The $514.2 million is included in the PCT payment as a
result of the assumption that after 8 years the CSA continues to grow infinitely by 3% each year
and that the PCT has a perpetual useful life.22
Second, if the discount rate employed in the cost
sharing alternative increases and in the LA decreases, then the PV of the cost sharing alternative
decreases and the LA increases, which leads to a smaller PCT payment.
A. Discount rate
Under the income method, financial projections of future income are used on the present value
basis as of the date of the PCT. Treasury Regulation §1.482-7(g)(2)(v)(A) provides:
a discount rate or rates should be used that most reliably reflect the market-
correlated risks of activities or transactions and should be applied to the best
estimates of the relevant projected results, based on all the information potentially
21
R.T. Cole updated by D. Souza Correa Talutto, Practical Guide to U.S. Transfer Pricing, Chapter 13 Cost Sharing
Arrangements §13.06[2][a], 3rd
Ed. (2014), available at LexisNexis.
22
Id.

9. 8
available at the time for which the present value calculation is to be performed.
Depending on the particular facts and circumstances, the market-correlated risk
involved and thus, the discount rate, may differ among a company's various
activities or transactions. Normally, discount rates are most reliably determined
by reference to market information.
Further, Treasury Regulation §1.482-7(g)(2)(v)(B) discusses a discount rate variation between
realistic alternative in connection with the best method analysis:
Realistic alternatives may involve varying risk exposure and, thus, may be more
reliably evaluated using different discount rates... In some circumstances, a party
may have less risk as a licensee of intangibles needed in its operations, and so
require a lower discount rate, than it would have by entering into a CSA to
develop such intangibles, which may involve the party's assumption of additional
risk in funding its cost contributions to the intangible development activity (IDA).
Similarly, self-development of intangibles and licensing out may be riskier for the
licensor, and so require a higher discount rate, than entering into a CSA to
develop such intangibles, which would relieve the licensor of the obligation to
fund a portion of the intangible development costs (IDCs) of the IDA.
Thus, the discount rate is an adjustment taking into account the time value of money, risks and
the rate of inflation. A license alternative may have a lower discount rate than a cost sharing
alternative because the licensee bears less risk than a participant of a CSA or a developer of the
intangible.

10. 9
IV. History of Buy-in/PCT Rules in U.S. Cost Sharing Arrangements
A. The 1995 Cost Sharing Treasury Regulations
Introduced in 1995, the first cost sharing regulations described the CSA as an agreement under
which parties share costs of developing intangibles in proportion with their shares of reasonably
anticipated benefits.23
The rights to use developed intangibles were often divided between
participants on the geographical basis.24
In addition, these regulations introduced a buy-in
payment concept which required the participant who did not contribute intellectual property to
the CSA to compensate under the arm’s length principle another participant who provided pre-
existing technology for this arrangement.25
The buy-in payment was determined either under the
comparable uncontrolled transaction (CUT) method or comparable profits method (CPM), or one
of the profit split (PS) methods, or unspecified methods.26
While regulations did not prescribe
priority of methods, general practice dictated that if any specified method was applicable, then
that method was likely to provide a more reliable result than an unspecified method.27
Therefore,
parties of the CSA generally used the CUT method based on a third party license agreement or a
profit split method when more than one party contributed pre-existing intangibles.28
B. Presentation of The Income Method in Treasury Regulations
23
Treasury Regulation §1.482-7(a)(1) (1995)
24
Fact is taken from B. Heriford, H. A. Keates, H. Lamoureux and D. R. Wright, U.S. Cost Sharing: Current Issues
and Court Cases, at 205, International Transfer Pricing Journal July/August 2013, available at
www.wrighteconomics.com
25
Treasury Regulation §1.482-7(g)(2) (1995)
26
Treasury Regulation §1.482-4(a) (1995)
27
Heriford, supra at 205
28
Facts are taken from H.A. Keates, R. Muylle and D.R. Wright, Temporary Cost Sharing Regulations: A
Comment, 16 Intl. Transfer Pricing J. 3 (2009), Journals IBFD

11. 10
By 2005 the IRS concluded that many U.S. corporations moved valuable intangibles offshore for
a modest consideration.29
In the IRS’ view, the problem was that the buy-in intangibles generated
income much longer and cost more than taxpayers calculated under the commonly used methods
on the basis of a third party license agreement.30
The Service claimed that the intangibles
developed in the U.S. provided a basis of the business opportunity, a platform that was
fundamental to further development of the intangibles.31
Being a platform for future intangibles,
the buy-ins are entitled to earn a return during the life of the business opportunity. U.S.
companies, the IRS opined, not just licensed their pre-existing intangibles to their foreign
subsidiaries but rather sold their rights to the CFCs.32
The 2005 Proposed Regulations introduced
an investor model, the concept of PCT and the income method for use in valuing the PCT.33
The
Preamble to the 2005 proposed regulations summarized the investor model as follow:
… each controlled participant may be viewed as making an aggregate investment,
attributable to both cost contributions (ongoing share of intangible development
costs) and external contributions (the preexisting advantages which the parties
bring into the arrangement), for purposes of achieving an anticipated return
appropriate to the risks of the CSA over term of the development and exploitation
of the intangibles resulting from the arrangement.
29
Heriford
30
Id.
31
Id.
32
Id.
33
See Proposed Regulations and Explanation of their provisions, available in the Internal Revenue Bulletin: 2005-
40, http://www.irs.gov/irb/2005-40_IRB/ar13.html

12. 11
This approach is significant in calculating the useful life of transferred intangibles and in
determining the appropriate method of a buy-in payment.34
The income method was proposed as
an appropriate method for valuation of the buy-ins.35
However, the method was classified as an
unspecified one under both the 1995 Regulations and the 2005 Regulations.36
At the same time,
rules of the 1995 Regulations continued to govern the transfer pricing rules.37
In September 2007 the IRS issued the CSA-CIP which stated that “the best method rule
contemplates the possibility that an unspecified method may provide the most reliable measure
of an arm’s length result.” In the case of a buy-in, the IRS claimed, the income method was the
best method.38
Given that the taxpayers frequently applied one of the specified methods, this
paper considered the analytical drawbacks of each of these methods in order to demonstrate why
none of the specified methods is suitable for valuation of buy-ins.39
After the CSA-CIP was
issued, the IRS started to apply the investor model to all CSAs.40
The taxpayers, in turn, were
unwilling to employ the income method instead of the specified methods and argued for the
finite useful life of intangibles instead of a perpetual useful life.41
In December 2008, the IRS issued the Temporary Regulations applicable to CSAs entered on or
after January 5, 2009.42
A PCT concept and the investor model became a part of the transfer
34
Heriford
35
Proposed Treasury Regulation §1.482-7(g)(4) (2005)
36
Heriford
37
Id.
38
CSA-CIP
39
CSA-CIP
40
Heriford
41
Id.
42
Treasury Decision 9441, 74 FR340-391, 5 Jan. 2009, “IRS Final and Temporary Rules (T.D. 9441) on Methods to
Determine Taxable Income in Connection with Cost-Sharing Arrangement,” Background. Explanation of
Temporary Regulations’ provisions is provided in the Internal Revenue Bulletin: 2009-7 available at
www.irs.gov/irb/2009-07_IRB/ar04.html

13. 12
pricing regulations.43
Thereby, the income method became a specified method. In addition, these
regulations provided stricter rules for using comparable transactions under the CUT method for
valuation of buy-in payment in the CSA.44
In December 2011, the IRS issued final regulations which carried forward the investor model,
the income method and added a “realistic alternative” concept, aggregate valuation and broader
definition of intangibles.45
The regulations highlighted the theory that most of the value of
newly developed intangibles in the CSA is attributed to the platform contribution rather than to
the R&D conducted by the parties under the CSA.46
V. Litigation Under The Income Method
A. Veritas Software Corp. v. Commissioner
Veritas U.S., a U.S. parent corporation and Veritas Ireland, a foreign subsidiary entered in 1999
into a CSA under which the parties agreed to make investments for the development and
manufacturing of storage management software.47
Under the CSA, Veritas U.S, granted to
Veritas Ireland a right to exploit pre-existing intangibles for which Veritas Ireland made a buy-in
payment of $118 million that was determined under the CUP method.48
For comparable
transactions, Veritas U.S. used the license agreement between Veritas U.S. and unrelated third
party, OEMs.49
The useful life of pre-existing intangibles was assumed to be from two to four
43
Treasury Regulation §1.482-7T(c) and (g)(2) (2009)
44
Treasury Regulation §1.482-7T(g)(3) (2009)
45
Final Regulations with explanation of its provisions are provided in the Internal Revenue Bulletin: 2012-12
available at www.irs.gov/irb/2012-12_IRB/ar06.html
46
Id.
47
Veritas
48
Id. Under Treasury Regulation §1.482-4(c) the CUP method “evaluates whether the amount charged for a
controlled transfer of intangible property was arm's length by reference to the amount charged in a comparable
uncontrolled transaction.”
49
Id.

14. 13
years.50
In 2006 the IRS audited Veritas’ 2000 and 2001 taxable years and increased tax for these
years by $758 million.51
Determining the value of buy-in, the IRS employed unspecified
methods - the income method, the market capitalization method, and the acquisition method and
concluded that the buy-in value should have been $2.5 billion.52
Veritas petitioned the Tax Court
for redetermination of the deficiency.53
During the trial, the IRS reduced the buy-in payment
from $2.5 billion to $1.675 billion by applying solely the income method.54
The IRS assumed a
perpetual life for pre-existing intangibles, used discount rate of 13.7% and growth rate of 17.91%
from 2001 to 2005, 13% from 2007 to 2010, and 7% after 2010.55
The Tax Court held that the IRS’s valuation was arbitrary, capricious, and unreasonable, and the
respondent incorrectly took into account subsequently developed intangibles.56
For explaining
his position judge Foley cited §1.482-7(g)(2) (1995) which states:57
If a controlled participant makes pre-existing intangible property… to other
controlled participants for purposes of research in the intangible development area
under a qualified CSA, then each such other controlled participant must make a
buy-in payment to the owner. [Emphasis added.]
The judge noted that according to the above language, a buy-in payment has to be made with
respect to the transfers of “pre-existing intangible property”; the buy-in payment is not required
for subsequently developed intangibles.58
50
Id.
51
Id.
52
Id.
53
Id.
54
Id.
55
Id.
56
Id.
57
Id.

15. 14
In addition, the Tax court found that the IRS employed the wrong useful life, discount rate and
growth rate.59
The court concluded that “even with substantial ongoing R&D, Veritas product
had finite lifecycle.”60
By analyzing actual Veritas’ growth rate from 2004 to 2006, the Tax
Court determined that calculated by the IRS growth rate was too high.61
The court also held that
the discount rate was 20.47% instead of 13.7%.62
Judge Foley held the respondent incorrectly applied Temporary Regulation §1.482-7, issued in
2009 for the years 2000 and 2001.63
The Tax court determined that the IRS’s “akin” to a sale theory, “which encompasses short-lived
intangibles valued as if they have a perpetual life and takes into account intangibles that were
subsequently developed rather than preexisting, certainly does not produce the most reliable
result.”64
The court pointed out that for the years in issue there was not explicit authorization of
“akin to a sale” theory and inclusion of workforce in place, goodwill, or going concern value as
intangible property for the purpose of section 482.65
Finally, the taxpayer’s CUT method, and not the IRS’ income method, was the best method for
determining the value of the buy-in payment.66
Judge Foley rejected the IRS’ argument that pre-
existing intangibles were different from those that were transferred to OEMs and hence were
58
Id.
59
Id.
60
Id.
61
Id.
62
Id.
63
Id.
64
Id.
65
Id.
66
Id.

16. 15
inappropriate comparable for the CUT method.67
At the same time, the court made some
modifications to Veritas application of the CUT method.68
Instead of appealing the Tax Court decision, the IRS issued an action on decision AOD 2010-
05.69
The Service announced that it does not acquiesce with Veritas and would not follow the
decision in cases involving other taxpayers on the issues with similar facts.70
The major
disagreement involved the approach to valuing buy-in intangibles.71
The IRS opined that pre-
existing intangibles serve as the basis for future intangibles and products.72
Specifically, the
Service determined that pre-existing intangibles consist of two major components: the make-sell
rights and the R&D rights.73
While the make-sell rights are attributed to the income which is
anticipated from the sales of existing products, the R&D rights are attributed to the income
which is anticipated from the sales of future products incorporated to the new intangibles.74
The
Court, however, excluded the R&D rights which the income method was intended to measure.75
The Service criticized the Court’s legal conclusion and asserted the following:76
The Court focuses on the words “pre-existing intangible property” and then
incorrectly deduces that such language excludes consideration of subsequently
developed intangibles. The court reads out of the regulation the critical phrase
“for purposes of research in the intangible development area.” Read together, as
the context requires, the buy-in payment relates to making available “pre-existing
67
Id.
68
Id.
69
Action on Decision (AOD) N2010-49 on 12/06/2010 available at www.irs.gov/pub/irs-aod/aod201005.pdf
70
Id. See Internal Revenue Manual §4.10.7.2.9.8.1(4) and §36.3.1.4(2)(C) for the rules regarding “Acq.” Decision.
71
AOD at 2
72
Id.
73
Id.
74
Id.
75
Id. at 6
76
Id. at 4

17. 16
intangible property … for purposes of research in the intangible development
area.” The Court’s interpretation that the relevant value is only for the make sell
rights, and does not include the value attributable to the R&D rights, is erroneous.
The plain meaning requires that the buy-in payment compensate for the value of
making available the “pre-existing intangible property… for purposes of research
in the intangible development area.” Therefore, under the regulation, a valuation
method must take into account the income from intangibles resulting from the
pre-existing intangibles made available for R&D purposes.
Thus, the IRS argues that the idea of compensation of ongoing R&D rights was incorporated in
the 1995 cost sharing regulation, not just in the 2009 Temporary Regulations.77
These R&D
rights, in the Service’s view, could be measured by the income method which was the
unspecified method under the 1995 Regulations.78
I cannot agree with the IRS’s position that the Court’s decision was erroneous. First, the R&D
rights were not incorporated into the 1995 regulations. Even if following the IRS’s
recommendation and reading together “pre-existing intangible property… for purposes of
research in the intangible development area,” nothing in this language suggests that pre-existing
intangibles are expected to make a return generated by the future intangibles. The phrase “for
purposes of research in the intangible development area” describes the future destiny of pre-
existing intangibles rather than prescribes them R&D rights. If the IRS wanted to prescribe the
R&D rights to the pre-existing intangibles, this idea had to be communicated through the rules of
77
Id. at footnote 6
78
Id. Additional disagreements include the value of workforce in place and an aggregate approach. The IRS claims
that experienced team may contribute additional value and insists on application of aggregate valuation when this
theory “provides the most reliable measure of an arm’s length result.” See AOD N2010-49 at 3 and 4.

18. 17
the 1995 regulations in a clear language which would not have risen doubts as to be necessity to
include these rights in calculation of the buy-in payments. Ultimately, this was done in the
proposed regulations in 2005 and thereafter. Second, while the Court did not rejected the concept
that pre-existing intangibles might include the R&D rights together with the make-sell rights, the
IRS tried to show that the Court did so. The court held that the R&D rights should not be taken
into consideration for calculation of the buy-in payments under the 1995 regulations which
governed transfer pricing rules for years in issue. This position does not mean that the R&D
rights will not be accounted for in determining the buy-in payment for the CSAs which are
governed by the 2009 Temporary Regulations. The Service, however, says that “the Court may
be understood as implying that technology never has value in excess of the current generation
product line that incorporates such technology, the Court’s implication is erroneous…”79
Third,
the IRS’ approach regarding useful life of intangible are ambiguous. On the one hand, the
Service explains that the court “mischaracterizes” that pre-existing intangible has “perpetual”
life.80
On the other hand, the IRS states that pre-existing intangibles are expected to earn return
from the sales of future product that incorporates the new intangible. The Service does not
provide in the cost sharing regulations the precise rules regarding useful life or how finite useful
life is supposed to be accounted under the income method.
Although the IRS explicitly argues that the 1995 regulations support the R&D right and that the
Court erroneously did not take them into account, in fact, the Service tries to justify the
application of the rules promulgated in 2009, specifically the income method, for the taxable
79
Id. at footnote 3
80
Id. at footnote 4

19. 18
years prior to 2009.81
Following the position stated in the AOD, the Service has continued its
effort to employ the income method for the CSAs entered into before 2009 which leads us to the
second case litigated under this method.
B. Possible Outcome in Amazon.com & Subsidiaries v. Commissioner
Amazon.com, a U.S. parent corporation and Amazon European Holding Technologies (AEHT),
a Luxemburg subsidiary entered in 2005 into the CSA under which Amazon.com granted to
AEHT the right to exploit its pre-existing intangibles, the Amazon.com website and tailor the
website specifically for the European market.82
Deloitte Tax LLP conducted transfer pricing
study for Amazon. The valuation of the pre-existing intangible property reflected the facts that
the useful life of a buy-in is seven years or less; the value of the buy-in decays during its useful
life; and AEHT starts to co-develop the covered intangibles on 01/01/2005; and AEHT was
entitled to income attributable to the pre-existing intangible.83
Deloitte also valued the items of
buy-in in the aggregate and used a 13% discount rate for determination of the buy-in payment.84
The method used by Deloitte for valuation of a buy-in is unclear from Amazon’s Petition.85
Deloitte Tax LLP concluded that the present value of the buy-in payment is $217 million and
that AEHT had to pay royalty in the amount of $73 million in 2005 and $83 million in 2006.86
In
2008-2011 the IRS audited Amazon’s 2005 and 2006 taxable years and increased the buy-in
payment by $1.04 billion in 2005 and by $1.17 billion in 2006.87
Horst Frisch, Inc. hired by the
81
Mark J. Silverman, Gregory N. Kidder & Andrew F. Gordon, Considering Veritas and Future Transfer Pricing
Litigation, October 16, 2014, available at Tax Analysts, www.taxanalysts.com
82
The Amazon Petition
83
Id.
84
The IRS’ Answer available at Tax Analysts
85
Neal Kochman & Stafford Smiley, Amazon.com v. Commissioner: Veritas Redux?, July/August 2013, available at
Westlaw, www.westlaw.com.
86
The Amazon Petition
87
Id.

20. 19
IRS, determined that the PV of the buy-in was $3.6 billion as of January 2005.88
In arriving to
this conclusion, Horst Frisch used the income method as an unspecified method under Treasury
Regulation §1.482-4(d) (1994) and §1.482-7 (1995).89
In addition, Horst Frisch employed profit
projection used by Deloitte for 2005-2011, applied a 3.8% terminal growth rate and an 18%
discount rate.90
Pre-existing intangibles were valued in aggregate.91
In 2012 Amazon petitioned the Tax Court for redetermination of the deficiencies for the 2005
and 2006 taxable years.92
According to the Amazon Petition, the taxpayer heavily relies on
Veritas.93
Amazon argues that Horst Frisch employed the same income method used by the IRS
in Veritas for the valuation of pre-existing intangibles and this method was denied by the Tax
Court.94
The petitioner disagrees with assumed perpetual useful life as opposed to limited useful
life of the buy-in.95
Amazon contends that Horst Frisch incorrectly valued entire business instead
of valuing only pre-existing intangibles.96
Finally, Amazon claims that the AEHT’s income, that
was earned through cost-shared intangibles under Treasury Regulation §1.482-7(a)(2), was
allocated to Amazon incorrectly.97
Although it is hard to forecast how Amazon will end, I come to the conclusion that the petitioner
will win the case because it is similar to Veritas. On the contrary, the IRS takes another
position98
and probably tries to overturn Veritas by bringing Amazon into the Court. Differently
88
Id.
89
Id.
90
Id. The terminal growth rate is a consistent number by which annual income is assumed to grow forever.
91
Id.
92
Id.
93
Id.
94
Id.
95
Id.
96
Id.
97
Id.
98
The IRS’ Answer

21. 20
from Veritas where the IRS had drawbacks in its legal position, the Service stands confidently
and consistently in Amazon.99
For example, in a notice of deficiency addressed to Veritas, the
IRS computed a buy-in payment in the amount of $2.5 billion by applying the income method,
the market capitalization method, and the acquisition method.100
However, later the respondent
concluded based on the income method that the buy-in payment was $1.675 billion instead of
$2.5 billion.101
Thus, the Service’s expert was hesitant about the applicable methodology in
Veritas. In addition, the IRS applied unreasonably high growth rate of 17.91% and
inappropriately low discount rate of 13.7% in Veritas.102
In contrast, in Amazon the Service
presented its well-prepared position by employing the same cash flow projections used in
Deloitte’s transfer pricing study, applying the income method and using much more reasonable
growth rate of 3.8% and discount rate of 13%.103
The discount rate used by the IRS is higher than
one used by Amazon which is advantageous for Amazon and therefore, is not an issue in the
case.104
In addition, when Amazon entered into the CSA, the Service already issued the Proposed
Regulations which set forth the investor model encouraging the application of the income
method for valuation of the buy-ins. Regardless of these rules Amazon did not use the income
method and calculated the buy-in payment under another method. In contrast, the investor model
was not introduced in 2000 when Veritas valued the buy-in.
99
Id.
100
Veritas
101
Id.
102
Id.
103
The Amazon Petition
104
Kochman

22. 21
Moreover, Veritas employed the CUT method while Amazon probably did not.105
It is unlikely
that the Amazon website, being the basis of the competitive advantage for its entire business,
was licensed to third parties and therefore, comparable transactions under the CUT method might
be absent.106
Due to the prevalence of the CUT method over other methods in practice under the
1995 cost sharing Regulations, availability of comparable transactions seems to be a significant
argument in rejecting the income method in Veritas as opposed to Amazon.107
Furthermore, pre-existing technologies in Veritas and in Amazon are somehow different.
Whereas Veritas’ pre-existing intangibles were sold by Veritas and other resellers and
distributers, the Amazon website is unlikely to be available for sale to unrelated third parties.
This suggests that the Amazon website is likely to have a longer useful life than Veritas software
had.
While Amazon and Veritas have some differences, they share significant similarities as well.
Both petitioners valued their pre-existing technologies as having finite useful life - 4 years of
useful life in Veritas and 7 years of useful life in Amazon. In both cases, however, the IRS
attempted to prescribe indefinite useful life for the pre-existing intangibles.
In addition, neither Veritas nor Amazon employed the income method in calculating the buy-in
payments. First, it was unclear for Veritas in 2000 and for Amazon in 2005 when the income
method prevails over the specified methods. The detailed CSA-CIP, which explained the
advantages of the income method and disadvantages of the specified methods in calculating the
105
Id.
106
Id.
107
Id.

23. 22
buy-in payments, was issued only in 2007, i.e. seven years after Veritas entered into the CSA and
two years after Amazon entered into a similar arrangement.
Second, till 2009 the income method was an unspecified one, a method of a last resort, a
disfavored one in a certain sense and taxpayers were hesitant to apply it. The Code lays
limitations on use of unspecified method under a risk of penalties.108
The taxpayer meets the
unspecified method requirements if he “reasonably concludes … that none of the specified
methods was likely to provide a reliable measure of an arm’s length result…”109
For reaching
this conclusion the taxpayer has “to evaluate the potential applicability of the specified method”
under the best method rule.110
Given that Veritas reasonably concluded that the CUP method
provided a reliable measure of an arm’s length result, the consideration of the income method,
which was an unspecified one, would have put the company in a situation where it could face
penalty. Therefore, I assume, Veritas did not want to employ the unspecified method once it
concluded that the specified one was applicable. In the same way Amazon did not consider
applicability of the unspecified method, assuming that Amazon concluded that a specified
method (CPM or profit split) provided the most reliable result.
The best method rule under Treasury Regulation §1.482-1(c) states “there is no hierarchy of
methods…” If Veritas believed that the CUP provided the most reliable result, the taxpayer was
not obligated to consider an unspecified method. In a similar way Amazon was not obliged to
consider an unspecified method, had it applied a specified one properly.
108
Penalties are discussed in IRC §6662
109
Treasury Regulation §1.6662-6(d)(3)(ii)(B)
110
Id.

24. 23
Finally, like in Veritas, the Service applied the income method in Amazon for taxable years
which were governed by rules of the 1995 Treasury Regulations that did not suggest application
of the income method as the best one for the CSAs. In both cases the Service’s trial position
“reflects rules promulgated in January 2009, ten years after the cost sharing transaction” 111
in
Veritas and four years after the cost sharing transaction in Amazon. These 2009 Temporary
Regulations prescribe the income method as a specified one and paramount for valuation of a
PCT when one participant makes non-routine contribution.112
“For the years in issue, however,
there was no explicit authorization of respondent’s … theory… Taxpayers are merely required to
be compliant, not prescient.”113
Thus, just like in Veritas, the Tax Court is likely to prohibit
application of the rules retroactively and reject the income method in Amazon. In conclusion, in
case of denial of the Service’s approach, the court might determine proper allocation for the buy-
in payment if Amazon’s approach for calculation of the buy-in payment does not meet the arm’s
length standard.114
To put it simply, the IRS’ position in Amazon does not have a strong legal support, is
inconsistent with its own grandfathering rule and existing judicial precedent.115
However, the 2009 Temporary Regulations and the 2011 Regulations are consistent with the
Service’s arguments in Veritas, Amazon and the AOD.116
Had Amazon been argued under the
new rules, they would have applied the income method. Amended the best method rule dictates:
111
Veritas
112
Temporary Treasury Regulation §1.482-7(g)(4) (2009)
113
Id.
114
Sundstrand Corp. & Subs. v Commissioner, at 354
115
Silverman
116
Kochman

25. 24
“See § 1.482-7 for the applicable methods in the case of a cost sharing arrangement.”117
Treasury
Regulation §1.482-7 (2011) authorizes use of unspecified methods and five specified methods
for the CSAs one of which is the income method. The income method is available where only
one participant makes a PCT and may be used even if another participant provides significant
operating contributions.118
Given that only Amazon attributed the PCT to the CSA, the petitioner
would have been compliant to the application of the income method unless “comparability and
the quality of data, the reliability of the assumption, and the sensitivity of the results to possible
deficiencies in the data and assumptions…” had provided unreliable measure of an arm’s length
result.119
Once Amazon had applied the income method, the issue of useful life of the PCT would
have been raised.
C. Issue of Useful Life of Intangibles under the Income Method
The taxpayers may notice that the IRS acknowledges the finite useful life of intangibles. First,
the language of the cost sharing regulations does not state explicitly that PCTs cannot have finite
useful life.120
Second, the regulations suggest that technology might have finite useful life.121
For
example, “in the preamble to the 2009 regulations, the IRS and Treasury Department responded
to criticisms that the income method creates an unrealistic ‘perpetual life’ for the PCTs”122
,
pointing out that –
117
Treasury Regulation §1.482-1(c)(1)
118
Treasury Regulation §1.482-7(g)(4)(D) (2011)
119
Treasury Regulation §1.482-7(g)(4)(vi) (2011)
120
M.J. Bowes & J. Das, PCT Valuations of Technology Intangibles: Perpetual or Finite?, International Tax
Review, 09/19/2014.
121
Id.
122
Citation is taken from the Comment of the Tax Executive Institute, Inc. on the Proposed Regulations on Methods
to Determine Taxable Income in Connection With Cost Sharing Arrangement, REG-144615-02 submitted to the IRS
on 04/14/2009 at 13, available at www.tei.org.

26. 25
The income method is premised on the assumption that, at arm’s length, an
investor will make a risky investment (for example, in a platform for developing
additional technology) only if the investor reasonably anticipates that the present
value of its reasonably anticipated operational results will be increased at least by
a present value equal to the platform investment. It may be, depending on the facts
and circumstances, that the technology is reasonably expected to achieve an
incremental improvement in results for only a finite period (after which period,
results are reasonably anticipated to return to the levels that would otherwise have
been expected absent the investment). The period of enhanced results that justifies
the platform investment in such circumstances effectively would correspond to a
finite, not a perpetual, life. (2009-7 I.R.B. at 466) [Emphasis added]
Furthermore, Example 3 and Example 7 in Treasury Regulation §1.482-7(g)(4)(viii) (2011)
support this statement as well. Example 3 illustrates calculation of the PCT payment for
technology with useful life of five years after which “the software application will be rendered
obsolete and unmarketable by the obsolescence of the storage medium technology to which it
relates.”123
Example 7 describes the condition under which the use of a “terminal value” is
possible.124
The terminal value is possible when parties “do not anticipate cessation of the CSA
with respect to the PCT.”125
In other words, if parties plan cessation of the CSA, the PCT might
become obsolete.126
Third, the AOD states that “the Court mischaracterized the Service as
123
Treasury Regulation §1.482-7(g)
124
Id.
125
Id.
126
Bowes

27. 26
contending that the pre-existing intangibles had a ‘perpetual’ useful life.”127
In other words, the
Service does not contend that the pre-existing intangible has perpetual life.
Despite some reserve for the finite life, the IRS intents to measure the PCTs in perpetuity what is
clearly reflected in the CSA-CIP, the AOD, and the cost sharing Treasury Regulations, and the
Service’s position in Veritas and Amazon.
In the CSA-CIP the Service provides its view on the life of the pre-existing intangibles claiming
that
… the rights for which the buy-in payments are due consist of the rights to use the
pre-existing intangible property for purposes of research and development so as to
acquire co-ownership of resulting intangible property…Sharing of ongoing R&D
entitles the CFC to share in the future incremental value expected from the R&D.
[Emphasis added]
Further, the AOD states that the PCT is “expected to contribute to income anticipated from sales
of existing … and future products that would incorporate the new intangibles resulting from the
R&D...”128
In addition, Treasury Regulation §1.482-7(g)(2)(ii)(A) (2011) states:
… each controlled participant aggregate net investment in the CSA Activity … is
reasonably anticipated to earn a rate of return … appropriate to the riskiness of the
controlled participant’s CSA Activity over the entire period of such CSA Activity.
[Emphasis added]
127
AOD at footnote 4
128
AOD at 2

28. 27
If the cost shared intangibles themselves are reasonably anticipated to contribute
to developing other intangibles, then the period described in the preceding
sentence includes the period, reasonably anticipated as of the date of the PCT, of
developing and exploiting such indirectly benefited intangibles. [Emphasis added]
Veritas Court also highlights the IRS’ intent to value intangible as having perpetual life pointing
out that “respondent inflated the determination by valuing short-lived intangibles as if they have
a perpetual useful life and taking into account income relating to future products created pursuant
to the RDA.”
Thus, the income method is intended to measure the income derived from the sale of the existing
product and also from the sales of future products which is incorporated into the new intangible.
The taxpayers, who are bound by this method, would probably try to challenge its validity
because the method assumes perpetual useful life which significantly increases the PCT
payment. The assumption of perpetual life raises the following issues.
First, the Service’s approach regarding useful life contradicts with the reasoning under other
laws. Consider the concept of the useful life which is employed for the purposes of depreciation.
The useful life is seen as a period over which the property might be depreciated if it is utilized
for business purposes. This concept is intended to allow certain deductions to a taxpayer; this is
beneficial. On the contrary, perpetual useful life under the investor model is an unfriendly
concept for the taxpayer. As a result of the assumption that the PCT has perpetual useful life a
taxpayer’s PCT payment raises significantly as opposed to a finite life. This was demonstrated
above in example 7 and in the comment to it. Higher PCT payment leads to a higher tax due.

29. 28
In a like manner, the Service’s approach regarding useful life contradicts the rules governing
intellectual property. While approach to the useful life is disadvantageous for the taxpayer under
the income method, it is intended to benefit a person or an entity under the principles of
intellectual property. For purposes of the patent law useful life is seen as a barrier to entry. The
patent law grants to an inventor a 17-year protection to exclude others from using the new
technology. This rule is intended to benefit the inventor in order to promote the progress of
science and useful arts under the U.S. Constitution, Article 1, Section 8, clause 8. Contrary to the
patent laws, the income method which assumes perpetual life is hostile for the taxpayer.
While the intellectual property law allows the public to use technology for free after certain time
passes, the IRS believes that the public cannot utilize technology without making the PCT
payment regardless of how much time has passed. To illustrate, the patent law provides that the
technology goes to the public domain when the patent expires, which is after 17 years. After this
the creator cannot benefit from technology and public, other people can use it openly. If we
apply this principle to the PCT, then a CFC should be entitled to use the PCT without payment
after the patent expiration date. However, an assumption of perpetual useful life requires the
CFC to pay the PCT payment beyond the patent expiration date.
Second, the income method intends to measure useful life in perpetuity regardless of how much
change occurs in a new developing intangible. I believe that if the new intangible has been
transformed significantly over time under the CSA, at some point the PCT starts adding much
less value to the new intangible, if any, and is not entitled to earn income from the sales of future
products, i.e. does not possess the R&D rights. Parallel to my view, the copyright law has a
“transformative use” doctrine according to which a new intangible, which was substantially

30. 29
transformed on the basis of an old one, might be seen as independent from the original one and
disseminated without permission of the copyright owner. Dissemination of copyrighted work
without acquiring permission from the rights holder is authorized by the fair use doctrine.129
To
illustrate, in Campbell v. Acuff-Rose Music, Inc., 510 U.S. 569 (1994) the Supreme Court
reviewed a case involving a rap group, 2 Live Crew. The band had borrowed the opening
musical tag and the words (but not the melody) from the first line of the song “Pretty Woman”
(“Oh, pretty woman, walking down the street”). The rest of the lyrics and the music were
different. In its decision, the Supreme Court ruled that the borrowing was fair use. Part of the
decision was based on the fact that so little was borrowed. But the Supreme Court also added a
new dimension to the fair use analysis. The use of the lyrics was transformative because they
poked fun at the norms of what was “pretty.” Justice Souter wrote:
… the enquiry focuses on whether the new work merely supersedes the objects of
the original creation, or whether and to what extent it is “transformative,” altering
the original with new expression, meaning, or message. The more transformative
the new work, the less will be the significance of other factors, like
commercialism, that may weigh against a finding of fair use.
Analogous to the song which was altered with a new meaning and message, and therefore,
constituted a fair use, a new developing technology, which was tailored for a new market and
substantially transformed, should be seen as independent from the PCT.
129
A good discussion of the transformative use doctrine and a fair use concept is provided in the article of Matthew
D. Bunker, Eroding Fair Use: The “Transformative” Use Doctrine After Campbell, Communication Law and
Policy, Winter 2002 available at Westlaw.

31. 30
Third, the income method does not take into account the risk of obsolescence due to severe
competition on the market. The more competition is in the market, the shorter the useful life of
the intangible. Veritas Court observed this phenomenon by pointing out:
In the rapidly changing storage software industry, products with state-of-the-art
function lost value quickly as that functionality was duplicated by competitors or
supplanted by new technology. Even with substantial ongoing research and
development (R&D), VERITAS U.S. products had finite lifecycles. Intense
competition (i.e., from OEMs offering comparable products) and the rapid pace of
technological advances forced VERITAS U.S. to innovate constantly. By the time
a new product model became available for purchase, the next generation was
already in development.130
In a like manner, Jim Carrol, an innovation speaker, notices in his blog “Innovating in the Era of
Instant Obsolescence” that “in the hi-tech industry, the “decline” phase caused by instant
obsolescence can even occur during the introduction [of new technology].”131
To illustrate, in 1998, Symbian, a mobile operating system and computing platform designed for
the smartphones, started as a joint venture between Nokia, Ericsson, Motorola and Psion.132
It
was tremendously successful and was the world's most used mobile platform.133
In 2000 the
market valued Symbian at $10 billion.134
In 2007 Nokia was valued as 5th
most valued brand in
130
Veritas
131
The Jim Carrol blog “Innovation in the Era of Instant Obsolescence”, citation available at
www.jimcarroll.com/2010/09/product-lifecycle-2-0-and-the-era-of-instant-obsolescence/#.VQuLd010zIU
132
Matt Warman, Nokia Ends Symbian Era, The Telegraph (24 Jan., 2013, 2:34 PM),
www.telegraph.co.uk/technology/nokia/9824179/Nokia-ends-Symbian-era.html
133
Id.
134
Scott Anthony, Why Nokia Bought Symbian, Then Gave It Away, Harvard Business Review (06/25/2008),
hbr.org/2008/06/why-nokia-bought-symbian-then

32. 31
the world.135
Since 2007 Symbian faced severe competition from Google and Apple. By 2013
Symbian operating system was pushed out by Google's Android ecosystem and Apple's iOS.136
Nokia shipped its last phones with Symbian operating system in 2013.137
Thus, the intangible
became obsolete after only 14 years. If, for example, Nokia were an American multinational
corporation, which had entered in 2009 into the CSA, Nokia would have calculated the PCT
payment for Symbian under the income method. The payment would have caused excessive
overvaluation because the income method presumes perpetual useful life and does not take into
account to competitors’ business plans and innovations.
How the risk of obsolescence should be calculated under the income method remains unclear.138
Some practitioners suggest that those who anticipate obsolescence of their PCTs with predictable
certainty may “build the risk of obsolescence into financial projection.”139
At the same time
those who anticipate obsolescence as a result of competition on the market may account the risk
of obsolescence through a discount rate which will rise in accordance with increasing
competition.140
For example, it would be wise for Amazon to account for the risk of
obsolescence through analysis of potential competitors in the European market, such as Netflix,
EBay or Alibaba.141
Increasing market competition would increase the discount rate for the CSA
135
Sophie Curis, Nokia: Timeline in Picture, The Telegraph (03 Sept., 2013, 11:19 AM),
www.telegraph.co.uk/technology/nokia/10282657/Nokia-a-timeline-in-pictures.html
136
Christopher Null, The End of Symbian: Nokia Ships last handset With the Mobile OS, PCWorld (01/14/2013,
09:19 AM), www.pcworld.com/article/2042071/the-end-of-symbian-nokia-ships-last-handset-with-the-mobile-
os.html
137
Id.
138
KPMG LLP, Determining Taxable Income in Connection With a Cost Sharing Arrangement: A Review and
Analysis of The Temporary Cost Sharing Regulation at 20,
www.kpmg.com/US/en/IssuesAndInsights/ArticlesPublications/Documents/cost-sharing.pdf
139
Id.
140
Id.
141
J. Samuel & J. Strassurg reported on the WSJ on 09/17/2014 that Alibaba highlights European Growth Plans
available at blogs.wsj.com/moneybeat/2014/09/17/alibaba-highlights-european-growth-plans-as-roadshow-comes-
to-london. In addition, C. Zara informed on the International Business Times on 21/05/2014 that Netflix expanding
in Germany, France and other European countries, but faces competition from Amazon.

33. 32
and, consequently, decrease Amazon’s projected revenue under the CSA. On the contrary, a
discount rate under the licensing alternative would not be as sensitive to risks as it would be
under the CSA. As a result of this dynamic between the discount rates in the CSA and the LA,
the PCT payment would drop.
VI. Conclusion
Even though the income approach has been used by the IRS for a long time in transfer pricing
cases, it became a specified method only in 2009 and was tailored specifically to valuation of the
PCT. The latter is expected to contribute to the income derived from sales of existing products
and future products which utilized the developing intangibles. The approach of viewing pre-
existing intangibles as a foundation for the future intangibles and prescribing them return on
sales attributed to the future intangibles raised two problems. The first one is whether the income
method should apply to the CSA entered into before 2009. The Veritas Court provided an answer
to this question and ruled that the Service cannot apply the rules retroactively. Notwithstanding
this decision, the IRS’s decided to retest the application of the income method for the CSAs
entered prior 2009 by bringing Amazon into the Court. In my view, Amazon and Veritas are
similar and therefore, Amazon will win the case. The taxpayers who entered into the CSAs after
2009, however, are obligated to employ the income method.
The second issue is whether the assumption of perpetual useful life is proper. Although the IRS
acknowledges finite useful life of intangibles, in fact, it attempts to measure the useful life in
perpetuity. This assumption contradicts with reasoning under other laws, does not take into
account changes occurred in the newly developed intangibles and does not consider the risk of

34. 33
obsolescence due to market competition. One possible way to account the finite useful life of
intangibles is through a discount rate.