Amazon is an online retailer that sells products through Amazon.com and related websites. Amazon also sells third-party products for which it receives a commissions.
In a series of transactions in 2005 and 2006, Amazon US transferred intangibles to Amazon Europe, a newly established European HQ placed in Luxembourg.
- A Cost Sharing Arrangement (“CSA”), whereby Amazon US and Amazon Europe agreed to share costs of further research, development, and marketing in proportion to the benefits
- A License Agreement, whereby Amazon US granted Amazon Europe the right to Amazon US’s Technology IP
- An Assignment Agreement, whereby Amazon US granted Amazon Europe the right to Amazon US’s Marketing IP and Customer Lists.
For these transfers Amazon Europe was required to make an upfront buy-in payment and annual payments according to the cost sharing arrangement for ongoing developments of the intangibles.
In the valuation, Amazon had considered the intangibles to have a lifetime of 6 to 20 years. On that basis, the buy-in payment for pre-existing intangibles had been set to $254.5 million.
The IRS disagreed with the valuation and calculated a buy-in payment of $3.5 billion, by applying a discounted cash-flow methodology to the expected cash flows from the European business. The IRS took the position, that the intangibles transferred to Amazon Europe had an indefinite useful life and had to be valued as integrated components of an ongoing business rather than separate assets.
The case brought before the US Tax Court HAD two issues had to be decided:
- Amazon Europe’s buy-in payment with respect to the intangibles transferred; and
- The pool of cost, on which Amazon Europe ongoing cost sharing payments were to be calculated.
The Courts decision on Amazon Europe’s buy-in payment
IRS’s position of “indefinite useful life” in the valuation of the intangibles and the buy in payment was rejected by the court, and the comparable uncontrolled transaction (“CUT”) method applied by Amazon – after appropriate upward adjustments – was found to be the best method.
The Courts decision on Cost Share Payments
The Court found that Amazon’s method for allocating intangible development costs, after adjustments, was reasonable.
US CSA regulations pre- and post 2009
US CSA regs in effect for 2005-2006 refer to the definition of intangibles set forth in section 1.482-4(b), Income Tax Regs. Here intangibles are defined to include five enumerated categories of assets, each of which has “substantial value independent of the services of any individual.” These include patents, inventions, copyrights, know-how, trademarks, trade names, and 20 other specified intangibles. The definition of intangibles in the pre 2009 CSA regs did not include value of workforce in place, going concern value, goodwill, and growth options, corporate resources or opportunities.
In 2009 new CSA regs were introduced in the US where the concept of “platform contribution transaction” (PCT) applies. According to the new regs. there are no limit on the type of intangibles that must be compensated under a cost sharing arrangement. But these new US CSA regulations did not apply to the years 2005 – 2006 in the Amazon case. See also the US vs. Veritas case from 2009.