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3M to Pay (Double) Tax on Income Blocked by Brazil

The U.S. Tax Court has sided with the IRS in 3M v. Commissioner. Read on for more on the transfer pricing case, which could substantially affect multinational enterprises. 
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On February 9, 2023, the U.S. Tax Court issued a long-awaited decision in a major transfer pricing case (3M v. Commissioner), siding with the IRS. The case is a significant win for the IRS after a long streak of losses, and it could have substantial implications for multinational enterprises (MNEs) operating in countries that tend to impose restrictions on cross-border payments.


3M Company (3M) and its U.S.-based subsidiary 3M Innovative Properties Company (3M IPC) own the intangible property (IP) for the 3M group. Typically, 3M and 3M IPC have intercompany agreements with affiliates around the world using their IP; 3M owns and licenses the 3M trademarks to global affiliates for a 1% royalty, and 3M IPC owns and licenses patents and other technology (manufacturing IP) to global affiliates for a 6% royalty.

In Brazil, however, local regulations limit the amount of royalty a Brazilian entity is allowed to pay. The Brazilian Patent and Trademark Office (BPTO), the Brazilian agency that registers IP agreements, has restrictions on royalty payments for manufacturing IP where the licensing party improves the IP, or where the IP is of a certain age. The royalty rate also is limited. Because of these limitations, 3M’s Brazilian subsidiary, 3M do Brasil Ltda (3M Brazil), only had an agreement with 3M for the license of trademarks, in which 3M Brazil paid a 1% royalty on the sale of relevant branded products. After previous attempts to set up agreements under which 3M Brazil would pay a royalty for the use of manufacturing IP were rejected by the BPTO, the group did not arrange a licensing agreement with 3M Brazil for its use of the manufacturing IP, and no associated royalty was paid to 3M IPC.


In 2006, the IRS issued a notice of deficiency to 3M, stating that the group’s U.S. consolidated income should include an arm’s-length royalty payment from 3M Brazil for the use of the manufacturing IP. The IRS took the position that, under Section 482, the transfer pricing for Brazil should be no different than that of other global affiliates making use of the same manufacturing IP. The income deficiency was determined to be approximately $23.7 million, which would result in approximately $4.8 million in additional taxes owed to the IRS.


In response to the notice of deficiency, 3M claimed that the IRS did not have the authority to make allocations under §482 when an entity is legally restricted from making a payment. This claim is based on the “blocked income” regulations under Treasury Regulation (Treas. Reg.) §1.482 1(h)(2), relying on the Tax Court’s decision in a Proctor & Gamble case. 3M also used examples from Chevron and First Security Bank cases, both of which follow the foreign restrictions arguments.

The IRS argued that 3M’s claim was invalid because the Brazilian restrictions did not meet the requirements under Treas. Reg. §1.482 1(h)(2); namely, this restriction must be applied equally to related and unrelated entities, it must prevent the payment or receipt of an arm’s-length amount in any form, and it must be publicly promulgated in writing.

Tax Court Decision

It was a close ruling, but the Tax Court sided with the IRS that the legal restrictions placed on related-party royalty payments in Brazil did not meet the blocked income regulation requirements under Treas. Reg. §1.482 1(h)(2). Therefore, the Tax Court ruled that 3M’s U.S.-based income should be adjusted to reflect additional royalties from 3M Brazil as taxable income.

Conclusion & Takeaway

While this case is complex (there is a 364-page opinion and 3M may still appeal the decision), MNEs may reasonably be concerned that 3M v. Commissioner could set a precedent for how U.S. tax courts interpret §482 regulations on legally restricted payments from around the world. For example, the decision in the Coca-Cola case on blocked income was delayed pending the results of this 3M case. Now that the Tax Court has ruled, Coca-Cola has appealed its own case. We can anticipate further controversy, additional cases, and wider transfer pricing ramifications as a result of this ruling.

One key takeaway for MNEs doing business in countries like Brazil is to make sure that the requirements under the §482 regulations are met. If you would like to learn more about this or other transfer pricing matters, please reach out to a professional at Forvis Mazars.

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