Tax Executives Institute--U.S. Department of Treasury Office of Tax Policy liaison meeting.

February 4, 2004

On February 4, 2004, Tax Executives Institute held its annual liaison meeting with the Treasury Department's Office of Tax Policy. The agenda for the meeting is reprinted below. Minutes of the meeting will be published in a future issue of The Tax Executive.

1. Introduction

2. Regulatory Projects

   1. Section 482 Services Regulations

      * The September regulations represent the government's first attempt to revamp the section 482 services regulations since the 1960s. Much has changed in the world of cross-border transactions since then, and TEI commends the Department of Treasury and Internal Revenue Service for attempting to bring the rules more in line with today's global economy. We are concerned, however, about several aspects of the proposed regulations, particularly the elimination of the cost safe harbor and its replacement with the simplified cost-based method (SCBM).

      TEI submitted detailed written comments on the proposed regulations in December and testified at the January hearing. During the liaison meeting, we request a status report on changes the Treasury Department is contemplating in light of the comments on the proposed regulations. In particular, we would like to discuss the department's current thinking on--

      * The retention of the cost safe harbor;

      * Modification of the SCBM method;

      * The development of a periodic list of what the government considers "low-margin" services; and

      * The effect of the statute of limitations in the examples relating to the contingent payment provisions.

   2. Research Tax Credit Regulations

      * In December, the Treasury Department and IRS issued final regulations (T.D. 9104) on the definition of qualified research under Code section 41(d)) and computation of the research credit under Code section 41(c), as well as an Advance Notice of Proposed Rulemaking (ANPR) inviting additional comments on the provisions in the 2001 proposed regulations relating to internal use software.

      TEI commends the Treasury Department for the issuance of the much improved regulations, particularly--

      * The adoption of a more rational "discovery test" that simply distinguishes between technical and non-technical research based on the section 174 definition;

      * The refinement of the patent safe harbor to the effect that the "issuance of a patent is not a precondition of credit availability";

      * The elimination of the old contemporaneous documentation requirements to qualify for the credit; and

      * The clarification of the "shrinking back" rule.

      The Institute is currently reviewing the regulatory package. We are disappointed, however, that the Treasury Department has not promulgated final regulations on the treatment of "internal use software" under section 41(d)(4)(E). We appreciate that the Treasury has not moved to finalize a flawed definition, and urge the department to heed the expressions of congressional intent that would place service businesses on an equal footing with other industries. (1)

      Because the rulemaking process in respect of internal use software is beginning anew, Treasury has accorded taxpayers an election to rely upon any prior version of the proposed regulations. We suggest, however, that this election is a hollow choice. If taxpayers elect to apply the T.D. 8930 version of the regulations (to rely on the now defunct exception for non-computer software), they must also apply the old discovery test. TEI suggests that applying a rule that has since been repudiated makes no sense. Taxpayers should be permitted to elect to rely on these regulations without having to apply the old discovery test.

      The final regulations retain the definition of "gross receipts" contained in T.D. 8930. During the meeting, we invite a discussion of why this broad definition was retained.

      Some commentators have suggested that the IRS has interpreted the effective date provision to mean that the final regulations--except for the changes to the definition of "process of experimentation"--apply to expenditures incurred on or after January 3, 2001. (2) Is this correct? Or does it apply to taxable years beginning on or after that date?

      The retroactive nature of the broader definition of gross receipts creates a difficult burden for companies to reconstruct gross...