A response deadline of May 31, 2006 has been issued by the IRS (view here) in a Notice announcing their investigation of the tax effects of cross-licenses of intellectual property. The IRS Notice asks for companies to supply information about, among other matters, commercial practices and intellectual property law. The IRS says it is considering tax issues such as, is the cross-license transaction properly characterized for tax purposes as a taxable sale or exchange generating income? For tax purposes this can be a deemed sale even if legal ownership is retained. Alternatively, is royalty income imputed for tax purposes creating a liability for withholding tax on the U.S. payor where the licensee is foreign?
This IRS Notice involves issues relevant to both unrelated party and related party cross-licenses in cross-border IP transactions. In the related party transactions, Internal Revenue Code section 482 literally comes into play in establishing value if it is determined that the cross-license arrangement is a taxable event. In unrelated party transactions, principles similar to those under section 482 can become relevant if the arrangement is a taxable event.