Cost-Sharing Arrangements – Appeals Court Rules Against Xilinx

UPDATE: 6/10/09

It has come to my attention, through fellow Silicon Valley tax professionals, that Xilinx is considering an appeal to the 9th Circuit Court of Appeals decision via an “En Banc” process, where the decision is reviewed by additional Appeals Court judges. I’m not a lawyer, so here’s a definition of this procedure at: http://www.techlawjournal.com/glossary/legal/enbanc.htm

After the En Banc review, either the taxpayer or the I.R.S. can further appeal the case to the U.S. Supreme Court. However, the Supreme Court may choose not to hear the case, and then the lower court decision is final.

I’m told the Supreme Court denied a hearing on three tax cases in the last year. However, many tax cases are small, simple disputes where the taxpayer just won’t give up until all their appeals are exhausted.

Some attorneys argue that the Appeals Court decision in Xilinx reverses 50 years of decisions consistently applying the “arm-length” standard to international transfer pricing issues. That would seem worth the Supreme Court’s time. We’ll just have to see if the case gets that far.

Tax Accounting

For tax accounting purposes, under FAS 109, the consensus I’ve heard is that any reserve that is deemed necessary as a result of this taxpayer loss in court (for taxpayers with similar facts and issues) is recorded and a debit to Additional Paid In Capital (“APIC”) for the unpaid tax and penalties accrued. The interest expense accrual is an income statement debit.

This treatment is consistent with FAS 109, which incorporated old APB 25, wherein any benefit booked for taxes related to stock option expense in prior years should have also been recorded to APIC (not the income statement) as the tax benefit is related to “equity” transactions. So, booking a reserve now, for the anticipated loss of that tax benefit (via an audit settlement or amended tax returns if the statue of limitations is not otherwise closed) to APIC is to reverse the previously recorded benefit makes sense. Please check with your GAAP auditor on this point.

I can always be reached for questions or comments at (510) 797-8661 x237.

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