Brief of Tax Executives Institute, Inc. as amicus curiae in support of petitioners interest of amicus curiae.

In the Supreme Court of the United States No. 01-1209 The Boeing Company And Consolidated Subsidiaries, Petitioners, v. United States of America, Respondent. On Petition for a Writ of Certiorari to the United States Court of Appeals for the Ninth Circuit

On March 21, 2002, Tax Executives Institute filed a brief amicus curiae in support of the petitioners with the Supreme Court of the United States in Boeing Company v. United States, No. 01-1209. The brief was prepared under the aegis of TEI's International Tax Committee, whose chair is Judith P. Zelisko of Brunswick Corporation.

Pursuant to Rule 37 of the Rules of the Supreme Court, Tax Executives Institute, Inc. respectfully submits this brief as amicus curiae in support of the Petition for a Writ of Certiorari filed by Boeing Company and its subsidiaries. (1) Tax Executives Institute ("TEI" or "the Institute") is a voluntary, nonprofit association of corporate and other business executives, managers, and administrators who are responsible for the tax affairs of their employers. The Institute was organized in 1944 and has approximately 5,300 members who represent more than 2,700 of the leading businesses in the United States, Canada, and Europe. The members of the Institute represent a cross-section of the business community in North America. The Institute is dedicated to promoting the uniform and equitable enforcement of the tax laws and to reducing the costs and burdens of administration and compliance to the benefit of both the government and taxpayers.

Members of the Institute have a vital interest in this case, which involves the resolution of a sharp conflict concerning the interpretation of tax statutes affecting the foreign commerce of the United States. The substantive issue in the case is whether Treas. Reg. § 1.861-8(e)(3) (relating to the allocation of research and development expenses) should override the intended operation of the domestic international sales corporation (DISC) and foreign sales corporation (FSC) provisions of the Internal Revenue Code. Eight years ago, the U.S. Court of Appeals for the Eighth Circuit held in St. Jude Medical, Inc. v. Commissioner, 34 F. 3d 1394 (1994), that the Treasury Regulation is invalid in this context, noting that the man dated allocation method is inconsistent with Congress's intent to allocate costs to definitely related gross receipts. In the instant case, the U.S. Court of Appeals for the Ninth Circuit declined to follow St. Jude Medical and held instead that the regulation is valid.

By creating a split in the circuits, the Ninth Circuit's decision robs taxpayers of needed certainty about the proper allocation of research and development costs relating to income taxed under the DISC, FSC, and related provisions of the Internal Revenue Code. The unsettling effect of the Ninth Circuit's opinion on the tax system as a whole is a material concern to the Institute and its members. It is not unusual for large multinational companies such as Boeing to have many years under examination by the Internal Revenue Service. The Ninth Circuit's decision will undoubtedly increase the number of disputes between taxpayers and the IRS. As individuals who must contend daily with the interpretation and administration of the nation's tax laws, the Institute's members have a vital interest in the proper disposition of this case.

Summary of Argument

For more than three decades, the domestic international sales corporation (DISC) and foreign sales corporation (FSC) provisions of the Internal Revenue Code have provided much needed tax relief for U.S. companies competing in foreign markets. The issue presented here involves the validity of a Treasury Regulation that improperly allocates research and development expenses to income under both the DISC and FSC provisions.

1. This case presents an ongoing question of significant importance on which the courts of appeals are in sharp conflict. The issue was previously decided in favor of the taxpayer in St. Jude Medical, Inc. v. Commissioner, 34 F.3d 1394 (8th Cir. 1994). Here, the Ninth Circuit found for the government, frankly admitting that it "decline[d] to follow the reasoning of St. Jude Medical."

   The Ninth Circuit's opinion strips away the relative certainty taxpayers and the government had under St. Jude Medical -- imposing significant administrative barriers to the resolution of this issue by taxpayers and the government. In the absence of a resolution, protracted litigation may be the only solution for large taxpayers that may have many years still open under the applicable statute of limitations.

   Amicus TEI submits that this Court should resolve the conflict to preserve the uniform application of the tax law and to avoid disparate treatment of similarly situated taxpayers based solely upon their geographical location.

2. The resolution of the question presented in this case affects many companies and tax years, past, present, and future.

   The IRS has reported that during 1992-1996 (the years for which the most recent data are available), the total income, cost of goods sold, foreign trade deductions, and net exempt income for FSCs all doubled, indicating an overall increase in the size of the average FSC. During the same period, there was a 42-percent increase in the number of FSC returns filed, and assets in these corporations rose almost 50 percent. Cynthia Belmonte, Foreign Sales Corporations, 1996, 19 STAT. OF INCOME BULL. No. 4, 87, 94 (Spring 2000). Estimates for the FSC replacement regime also demonstrate the importance of this issue: nearly $4.5 billion over a 10-year period. Staff of the Joint Committee on Taxation, Estimated Revenue Effects of H.R. 4986, FSC Repeal and Extraterritorial Income Exclusion Act of 2000, JCX-98-00 (Sept. 15, 2000). But perhaps the best, way to confirm the national importance of the DISC and FSC provisions is to recognize that over three decades -- whenever the regimes were threatened -- Congress has always acted swiftly and consistently to enact replacement legislation.

   In view of the substantial national importance of the DISC and FSC regimes, review by this Court is warranted.

3. The substantive tax issue in this case involves the allocation of Boeing's R&D expenses to the income generated by its export sales of commercial aircraft under the DISC and FSC provisions of the Code. The Ninth Circuit concluded that in computing the company's net income, the Commissioner "properly applied Treas. Reg. § 1.861-8(e)(3) to allocate Boeing's R&D costs to its export sales." The court's conclusion is wrong as a matter of law.

   The DISC provisions permit corporations to defer part of their income tax on sales, licenses, or leases of export property that is manufactured or produced in the United States and sold or leased through a DISC for use outside the country. Boeing used the combined taxable income (CTI) method for calculating its intercompany revenues. Under Treas. Reg. § 1.994-1(c)(7), the pricing of goods sold by a taxpayer to its DISC is made on a transaction-by-transaction basis, but the taxpayer may annually elect to group the transactions according to product lines. The taxpayer's choice of groupings is controlling under the regulation. Before calculating its CTI, the taxpayer must allocate its costs -- including R&D costs -- between foreign and domestic sales. These costs are defined in Treas. Reg. § 1.994-1(c)(6)(iii) as "the expenses, losses, and other deductions definitely related, and therefore allocated and apportioned, thereto," and a ratable part of any other expenses that are not definitely related to a class of gross income. The regulation references Treas. Reg. § 1.861-8, which allocates R&D expenditures according to the two-digit Standard Industrial Classification (SIC) Manual produced by the Office of Management and Budget.

   Boeing grouped its export sales by program and apportioned costs, including R&D costs, to the particular airplane program for which those costs were incurred under Treas. Reg. § 1.994-1(c)(7). The IRS disagreed, maintaining that the allocation should be grouped according to SIC Code 37 for "Transportation Equipment," regardless of the relationship of the R&D expenses to the product being sold. Thus, the IRS's method reduced Boeing's CTI for a current program within a given year by the R&D expenses incurred for a different program that same year. The reallocation resulted in a tax deficiency of more than $400 million.

   In upholding Boeing's CTI calculation, the district court turned to the Eighth Circuit's decision in St. Jude Medical, which held that Treas. Reg. § 1.861-8(e)(3) was invalid as applied to the CTI calculation. Finding the Eighth Circuit's reasoning and analysis "persuasive and applicable to the current case," the district court found that there were serious defects in applying Treas. Reg. § 1.861-8(e)(3) to the computation of CTI that were "fatal" to the validity of the regulation. On appeal, the Ninth Circuit reversed, holding that Treas. Reg. § 1.861-8(e)(3) as applied to the CTI calculation is a permissible interpretation of the statute. The appellate court's reasoning is at odds with the DISC's statutory scheme and cannot be sustained.

   The DISC statute clearly requires that there be a factual connection between income and expense. The legislative history confirms that expenses unrelated to property being exported are not to be allocated to export sales of the property. As the Ninth Circuit noted, a taxpayer is permitted to choose the pricing method that maximizes its DISC's profits. In spite of the regulation's clear language that a taxpayer's groupings "shall be controlling," the court found that Boeing was required under the...