3M Transfer Pricing Court Case

On February 9, 2023, the Tax Court delivered its opinion on an important transfer pricing case, 3M v. Commissioner, siding with the IRS. The crux of the issue arises in the context of a 2006 Brazilian industrial property law requirement that prevented the payment of select royalties by a Brazilian subsidiary of 3M. 3M’s adherence to this Brazilian law, resulted in lower royalty payments from the Brazilian Subsidiary to 3M. The IRS disagreed 3M’s decision and determined that 3M’s U.S. royalty income should be increased by $23,651,332 to reflect an arm’s length royalty rate under section 482. The IRS’ determination did not consider the effect of the Brazilian legal restrictions 3M had followed.

The core issue of the case was determining if the validity of the blocked income regulation is controlled by the Supreme Court Court’s 1972 decision in Commissioner v. First Security Bank of Utah, and whether the blocked income regulation meets the promulgation requirements of the Administrative Procedure Act.

In its main opinion, the Tax Court reasoned that the IRS was correct in its determination because, among other things, the blocked income regulations require that the foreign legal restriction apply equally to controlled and uncontrolled parties, be publicly promulgated, and prevent the payment or receipt of an arm’s-length amount in any form. The Court determined that the Brazilian law 3M was following did not meet these criteria and, as a result, 3M should have charged its Brazilian subsidiary for its full use of IP. This decision upheld the IRS’ tax adjustment to 3M’s royalty income, increasing the amount by approximately $23 million.

Notably, the Tax Court could not reach a majority decision and a total of eight judges dissented from the decision. This indicates disagreements on key issues across the case. Coupled with the large tax adjustment for 3M, it would not be surprising to see an appeal at the U.S. Court of Appeals for the Eighth Circuit, and it also would not be shocking to see a reversal of the Tax Court’s decision, given the multitude of opinions in this decision.

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