Income Wasn’t Foreign Base Company Sales Income, Whirlpool Argues

WHIRLPOOL FINANCIAL CORPORATION & CONSOLIDATED SUBSIDIARIES, ET AL,
Petitioners,
v.
COMMISSIONER OF INTERNAL REVENUE,
Respondent

PETITIONERS' MOTION FOR PARTIAL SUMMARY JUDGMENT

Judge Jacobs

PETITIONERS' MOTION FOR PARTIAL SUMMARY JUDGMENTUNDER SECTION 954(d)(2)

Pursuant to Tax Ct. R. 121, Petitioners move for partial summary judgment under section 954(d)(2)(the "Motion”).¹ Petitioners respectfully ask that this Court hold as a matter of law that income earned by Whirlpool Overseas Manufacturing S.a.r.l. ("WOM")² in 2009 from its sale of refrigerators and washing machines ("washers”) (collectively, the "Products”) manufactured from raw materials, component parts, and supplies in its own manufacturing plants located in Mexico did not constitute foreign base company sales income ("FBCSI") under section 954(d)(2) of the Internal Revenue Code.³ A Brief in Support of the Motion ("Petitioners' Brief") setting forth in detail the facts and legal analysis establishing Petitioners' entitlement to partial summary judgment under section 954(d)(2) is attached.

(1) In 2009, WOM acted as a contract manufacturer in Mexico of refrigerators and washers for Maytag Sales, Inc. and Whirlpool Corporation ("Whirlpool US") and Whirlpool Mexico S. de R.L. de C.V. ("Whirlpool Mexico"). WOM conducted its activities through a maquiladora structure qualifying for Mexican tax and trade incentives. Under this structure, WOM's wholly-owned subsidiary, Whirlpool Internacional S. de R.L. de C.V. ("WIN"), an entity disregarded as separate from WOM for all US Federal income tax purposes under Treas. Reg. §§ 301.7701-2(a) and -3(a), provided manufacturing services to WOM. As WIN is disregarded, WIN's activities and assets are WOM's activities and assets. In 2009, WOM manufactured nearly one million refrigerators and over a half million washers in its own plants in Mexico using its own equipment and tooling. WOM built the refrigerators and washers from more than a half billion dollars worth of raw materials, component parts, and supplies purchased by WOM in its own name, using funds from its own bank accounts, with delivery of the raw materials, component parts, and supplies directly to WOM's manufacturing plants in Mexico. WOM employed over 3,300 employees in its manufacturing operations, which it leased from two related Mexican affiliates. WOM sold the refrigerators and washers produced at its Mexican manufacturing plants to related parties, Whirlpool US and Whirlpool Mexico, in Mexico. In contrast, WOM’s activities in Luxembourg were limited to nominal administrative and accounting activities performed by a single, part-time employee.

(2) This case arose out of an examination by Respondent of Whirlpool Corporation's taxable years ended December 31, 2008 and December 31, 2009. As a result of this examination, Respondent increased the taxable income of Whirlpool Corporation and its consolidated U.S. subsidiaries (the "Whirlpool Consolidated Group") for 2009 by the amount of $49,964,080 based on its assertion that such income should be treated as subpart F income under sections 951(a) and 954(d) of the Code. Respondent issued Notices of Deficiency to Petitioners on March 31, 2017 and March 29, 2017, with respect to this increase in Whirlpool Corporation's income. Each Notice of Deficiency described the grounds underlying the $49,964,080 income adjustment as follows:

Whirlpool Corporate & Subsidiaries has an additional subpart F inclusion under I.R.C. 951(a) and 954(d) in the amount of $49,964,080 for the tax year ending December 31, 2009 because the transactions between Whirlpool Overseas Manufacturing S.a.r.l., Whirlpool Internacional S. de R.L. de C.V., Whirlpool Mexico S.A.de C.V., Comercial Acros Whirlpool S.A. de C.V., Industrias Acros Whirlpool S.A. de C.V., and/or Whirlpool Corporation & Subsidiaries were, in form and/or in substance transactions giving rise to foreign base company sales income under I.R.C. 954(d). Whirlpool Corporation & Subsidiaries has also failed to establish that the form of the transactions is consistent with their substance.

(Petition for Whirlpool International Holdings, S.a.r.l. & Consolidated Subsidiaries, Ex. A, Form 886-A; Petition for Whirlpool Financial Corporation & Consolidated Subsidiaries, Ex. A, Form 886-A).

(3) For the reasons summarized below and explained more completely in Petitioner's Brief, this Court should hold that the income that WOM earned in 2009 from its sale of the Products did not constitute FBCSI under section 954(d)(2) of the Internal Revenue Code. Under Tax Ct. R. 121(b), "[s]ummary judgment is appropriate when there is a showing that there is no genuine issue as to any material fact and that a decision may be rendered as a matter of law." Zaentz v. Commissioner, 90 T.C. 753, 754 (1988). As Respondent's own admissions and the materials attached to Petitioners' Brief demonstrate, no material facts are genuinely in dispute regarding this issue. Most importantly, Respondent has admitted that, in 2009, WOM possessed only a single part-time employee in Luxembourg, and that part-time employee performed only "nominal activities (limited general accounting and administrative functions)."⁴

(4) Section 954(d)(2) and the regulations that address application of this provision to manufacturing branches (the "Manufacturing Branch Rules”) apply to WOM only if purchases or sales are performed by or through the remainder of WOM in Luxembourg ("WOM's Luxembourg Remainder") with respect to property manufactured by WOM's manufacturing branch in Mexico ("WOM’s Mexican Branch"). Treas. Reg. § 1.954-3(b)(1)(ii)(a). WOM’s Luxembourg Remainder can be deemed to perform purchases or sales on behalf of WOM's Mexican Branch only if purchasing or selling activities are performed by or through WOM's Luxembourg Remainder with respect to the Products manufactured by WOM's Mexican Branch. Treas. Reg. §§ 1.954-3(b)(2)(i)(c) and Treas. Reg. § 1.954-3(b)(2)(ii)(c). As Respondent has admitted, in 2009, WOM possessed only a single part-time employee in Luxembourg, and that part-time employee performed only nominal accounting and administrative activities. WOM's Luxembourg Remainder had no selling or purchasing activities in 2009 and thus cannot be deemed to perform purchases or sales on behalf of WOM's Mexican Branch in 2009 under the Manufacturing Branch Rules. As a result, there is no basis for attributing FBCSI to WOM for 2009 under section 954(d)(2).

(5) Further, as WOM's Luxembourg Remainder performed no selling or purchasing activities in 2009, there is no sales or purchasing income to which the tax rate disparity test under the Manufacturing Branch Rules could be applied. Even if the tax rate disparity test were applied to income attributable to the nominal administrative and accounting activities performed by WOM's single part-time employee in Luxembourg, this would not give rise to a tax rate disparity, as this income was taxed by Luxembourg in 2009 at an effective tax rate of 24.2 percent while income attributable to WOM's Mexican Branch was taxed in 2009 at an effective tax rate of 0.56 percent. Without a tax rate disparity, the Manufacturing Branch Rules do not apply, and there is no basis for attributing FBCSI to WOM in 2009 under section 954(d)(2).

(6) Third, even if the Manufacturing Branch Rules were applied to treat WOM's Mexican Branch as a subsidiary of WOM's Luxembourg Remainder, then WOM would still derive no FBCSI in 2009 because neither deemed corporation would derive FBCSI during such period. WOM's Mexican Branch would be deemed to be a separately incorporated Mexican corporation, and would not earn FBCSI because the property that it purchased from suppliers was not the same property that it sold to Whirlpool US and Whirlpool Mexico. Further, as WOM's Mexican Branch would be deemed to be incorporated in Mexico under the Manufacturing Branch Rules, its income would be excluded from the definition of FBCSI under the same country manufacturing exception of section 954(d)(1)(A). In addition, the nominal administrative activities performed by WOM's single, part-time employee in Luxembourg in 2009 did not give rise to purchasing or selling income, so FBCSI could not be attributable to WOM’s Luxembourg Remainder in 2009.

(7) Finally, the Manufacturing Branch Rule exceeds the scope of section 954(d)(2) and is invalid. While Congress adopted a Sales Branch Rule under section 954(d)(2) and authorized Treasury to promulgate regulations implementing the statute, neither section 954(d)(2) nor its legislative history envisioned or authorized Treasury's Manufacturing Branch Rule under Treas. Reg. § 1.954-3(b)(1)(ii). The plain language of section 954(d)(2) authorizes the Treasury only to promulgate regulations implementing a statutory provision in which the income derived by the branch is considered to constitute FBCSI of the CFC. The statute does not contemplate the converse. Treasury's Manufacturing Branch Rule under Treas. Reg. § 1.954-3(b)(1)(ii) deems income derived by the CFC, not the income derived by the branch, to be FBCSI. Treasury's Manufacturing Branch Rule was not authorized by Congress and is invalid.

(8) Respondent objects to the granting of this Motion.

WHEREFORE, Petitioners pray that this Court hold as a matter of law that income earned by WOM in 2009 from its manufacture and sale of refrigerators and washers in Mexico did not give rise to FBCSI under the Manufacturing Branch Rule of Treas. Reg. § 1.954-3(b)(1)(ii) of the Internal Revenue Code.

Respectfully submitted,

Mark A. Oates
T.C. No. OM0113

BAKER & MCKENZIE LLP
300 East Randolph Street, Suite 5000
Chicago, IL 60601
(312) 861-7594
Mark.Oates@bakermckenzie.com
Attorney for Petitioners

Dated: February 22, 2019

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BRIEF IN SUPPORT OF PETITIONERS, TAX COURT RULE 121 MOTION FOR PARTIAL SUMMARY JUDGMENT UNDER SECTION 954(d)(2)

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TABLE OF CONTENTS

OVERVIEW

STATEMENT OF FACTS

ARGUMENT

CONCLUSION

TABLE OF AUTHORITIES

CASES:

Anderson v. Liberty Lobby, Inc., 477 U.S. 242 (1986)

Ashland Oil, Inc, v. Commissioner, 95 T.C. 348 (1990)

Chevron U.S.A. Inc, v. NRDC, 467 U.S. 837 (1984)

City of Arlington v. FCC, 569 U.S. 290 (2013)

EEOC v. Horizon/CMS Healthcare Corp., 220 F.3d 1184 (10th Cir. 2000)

Estate of Chenoweth v. Commissioner, 88 T.C. 1577 (1987)

Grant Creek Water Works, Ltd, v. Commissioner, 91 T.C. 322 (1988)

International Business Machines Corps. v. United States, 38 Fed. Cl. 661 (1997)

J.B.D.L. Corp, v. Wyeth-Ayerst Labs., Inc., 485 F.3d 880 (6th Cir. 2007)

Loving v. IRS, 917 F. Supp. 2d 67 (D.D.C.)

Lyons v. Bd. of Educ. of Charleston, 523 F.2d 340 (8th Cir. 1975)

Moore v. Philip Morris Co., 8 F.3d 335 (6th Cir. 1993)

National Starch and Chemical Corp., T.C. Memo 1986-512

Pharm. Research & Mfrs. of Am. v. Thompson, 251 F.3d 219 (D.C. Cir. 2001)

Robinson v. Shell Oil Co., 519 U.S. 337 (1997)

Texas v. United. States, 300 F. Supp. 3d 810 (N.D. Tex. 2018)

Zaentz v. Commissioner, 90 T.C. 753 (1988)

STATUTES:

5 U.S.C. § 706(2)(C)

26 U.S.C. § 954(d)(1)

26 U.S.C. § 954(d)(2)

REGULATIONS:

Treas. Reg. § 1.954-3(a)

Treas. Reg. § 1.954-3(a)(1)

Treas. Reg. § 1.954-3(a)(4)

Treas. Reg. § 1.954-3(b)(1)(i)

Treas. Reg. § 1.954-3(b)(1)(ii)

Treas. Reg. § 1.954-3(b)(1)(ii)(b)

Treas. Reg. § 1.954-3(b)(1)(ii)(c)

Treas. Reg. § 1.954-3(b)(2)(i)(c)

Treas. Reg. § 1.954-3(b)(2)(ii)

Treas. Reg. § 1.954-3(b)(2)(ii)(a)

Treas. Reg. § 1.954-3(b)(2)(ii)(c)

Treas. Reg. § 1.954-3(b)(2)(ii)(e)

Treas. Reg. § 301.7701-2(a)

Treas. Reg. § 301.7701-3(a)

LEGISLATIVE HISTORY

H.R. Rep. No. 87-1447 (1962)

S. Rep. No. 87-1881 (1962)

"Draft of Statutory Language, with Accompanying Explanation, of the Amendments Proposed by the Secretary of the Treasury on May 10, 1962, to Sections 13, 15, 16, and 20 of H.R. 10650," 87th Cong. (May 31, 1962)

Remarks of Sen. Kerr on Submission of Amendments to H.R. 10650, July 9, 1962, p. 11983-11986 Debates: 108 Congressional Record (Daily Edition)

ADMINISTRATIVE GUIDANCE

TIM 2015-002 (Feb. 9, 2015)

Technical Advice Memorandum 8509004 (Nov. 23, 1984)

COURT RULES

Tax Ct. R. 121

MISCELLANEOUS

Charles I. Kingson, "IRS Premises on Contract Manufacturing Are Wrong," Tax Notes Int'l at 1331 (June 25, 2007)

William W. Chip, "'Manufacturing' Foreign Base Company Sales Income," Tax Notes Int'l at 975, 980 (Dec. 3, 2007)

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This Brief is filed in support of Petitioners' Motion for Partial Summary Judgment Under Section 954(d)(2)(the "Manufacturing Branch Rule Motion"). In this Manufacturing Branch Rule Motion, Petitioners pray that this Court hold as a matter of law that income earned by Whirlpool Overseas Manufacturing S.a.r.l. ("WOM")¹ in 2009 from its sale of refrigerators and washing machines ("washers")(collectively, the "Products") manufactured from raw materials, component parts, and supplies in its manufacturing plants in Mexico did not constitute foreign base company sales income ("FBCSI") under section 954(d)(2) of the Internal Revenue Code. As no genuine questions of material fact exist, partial summary judgment is appropriate.²

OVERVIEW

Respondent, apparently recognizing the obvious point that WOM manufactured the refrigerators and washers that it sold and thus cannot have FBCSI under section 954(d)(1),³ contends that WOM's manufacture of the refrigerators and washers through a manufacturing branch in Mexico gave rise to FBCSI under the "Manufacturing Branch Rule" of Treas. Reg. § 1.954-3(b)(1)(ii). Respondent's contentions under the Manufacturing Branch Rule, however, are erroneous as a matter of law for four independent reasons.

First, the sine qua non of the Manufacturing Branch Rule is the separation of a controlled foreign corporation's ("CFC") manufacturing activities in a foreign branch from the CFC's sales or purchasing activities in the remainder of the CFC (the "Remainder"). If there are no sales or purchasing activities in the Remainder, then no separation of manufacturing and sales or purchasing exists under the legislative history, no income can be allocated to the Remainder under Treas. Reg. § 1.954-3(b)(1)(ii)(b) to determine if a tax disparity exists, and no income can constitute FBCSI under Treas. Reg. §§ 1.954-3(b)(2)(ii)(c) and 1.954-3(b)(2)(ii)(e). In 2009, WOM had operations in only two countries: Mexico and Luxembourg. As Respondent has admitted, in 2009 the Remainder (WOM's Luxembourg office) had only a single part-time employee, and that single part-time employee performed only nominal general administrative and accounting activities, not sales or purchasing activities. Other than the single part-time employee in Luxembourg in 2009, the entirety of WOM's manufacturing, sales and purchasing activities (as well as all other activities) took place at its branch operations in Mexico (the "Mexican Branch"), specifically at its Ramos and Horizon Manufacturing Plants. These undisputed facts establish that there simply was no separation of WOM's sales or purchasing activities from WOM's manufacturing activities: all WOM manufacturing, sales and purchasing activities in 2009 were located in the Mexican Branch. Thus, under the undisputed facts of the case, WOM cannot have FBCSI under the Manufacturing Branch Rule of Treas. Reg. § 1.954-3(b)(1)(ii).

Second, the Manufacturing Branch Rule applies if, and only if, a "Tax Rate Disparity" exists between the Manufacturing Branch (the Mexican Branch) and the Remainder (the Luxembourg office), as required under Treas. Reg. § 1.954-3(b)(1)(ii)(b).⁴ Even if income could be allocated to the Remainder in 2009 for purposes of determining if a Tax Rate Disparity existed, and even if such income could somehow constitute sales or purchasing activities undertaken by the Remainder in 2009 on behalf of the Manufacturing Branch, the Manufacturing Branch Rule still could not be applied because no tax rate disparity exists. Due to income tax incentives granted by Mexico as a result of WIN's participation in Mexico's Maquiladora Program,⁵ the effective rate of tax paid in 2009 by WOM's Mexican Branch, which consisted of both WIN's operations and WOM's Mexican permanent establishment, was only 0.56%. In contrast, the effective rate of tax paid by WOM in Luxembourg was 24.2%. As the 2009 effective tax rate in Luxembourg was higher than the rate in Mexico, no Tax Rate Disparity exists and the Manufacturing Branch Rule is inapplicable. See Treas. Reg. § 1.954-3(b)(1)(ii)(b). Even if Mexico's maximum corporate income tax rate of 28% were applied, there still would not be a Tax Rate Disparity in 2009, because the effective income tax rate paid in Luxembourg, 24.2%, was not at least 5 percentage points lower than the ordinary Mexican corporate income tax rate of 28%. Id. Because no Tax Rate Disparity existed in 2009, the Manufacturing Branch Rule cannot apply as a matter of law.

Third, even if the Mexican Branch is treated as a separate subsidiary incorporated in Mexico, the Manufacturing Branch Rule does not treat the income deemed earned by the Remainder or the Manufacturing Branch as FBCSI unless it falls within the definition of FBCSI under section 954(d)(1). Here, the Manufacturing Branch would not have FBCSI because it manufactures the products and would further fall under the "same country" exception as it would be deemed to be incorporated in Mexico. As for the Remainder, the Remainder does not engage in any sales or purchasing activities. Absent such sales or purchasing activities, the Remainder cannot have FBCSI.

Finally, the Manufacturing Branch Rule of Treas. Reg. § 1.954-3(b)(1)(ii) exceeds the scope of section 954(d)(2) and is invalid. While Congress adopted a Sales Branch Rule under section 954(d)(2) and authorized Treasury to promulgate regulations implementing the statute, neither section 954(d)(2) nor its legislative history envisioned or authorized Treasury's Manufacturing Branch Rule under Treas. Reg. § 1.954-3(b)(1)(ii). Section 954(d)(2) provides only that (emphasis added):

For purposes of determining foreign base company sales income in situations in which the carrying on of activities by a controlled foreign corporation through a branch or similar establishment outside the country of incorporation of the controlled foreign corporation has substantially the same effect as if such branch or similar establishment were a wholly owned subsidiary corporation deriving such income, under regulations prescribed by the Secretary the income attributable to the carrying on of such activities of such branch or similar establishment shall be treated as income derived by a wholly owned subsidiary of the controlled foreign corporation and shall constitute foreign base company sales income of the controlled foreign corporation.

Thus, section 954(d)(2) authorizes the Treasury only to promulgate regulations implementing a statutory provision in which the income derived by the branch is considered to constitute FBCSI of the CFC. The statute does not contemplate the converse. Treasury's Manufacturing Branch Rule under Treas. Reg. § 1.954-3(b)(1)(ii) deems income derived by the CFC, not income derived by the branch/wholly owned subsidiary, to be FBCSI. Treasury's Manufacturing Branch Rule was simply not authorized by Congress and is invalid.

As no material facts are in genuine dispute, partial summary judgment on the section 954(d)(2) issue in favor of Whirlpool is appropriate.

STATEMENT OF FACTS

WOM is an entity formed under Luxembourg law and, in 2009 and later years, was an indirectly held, wholly-owned subsidiary of Whirlpool Corporation.⁶ In 2009, WOM's manufacturing operations and other substantial activities were performed in Mexico, with only "nominal activities (limited general accounting and administrative functions)" performed in Luxembourg by a single part-time employee.⁷

In 2009, WOM conducted its Mexican operations both through the operations of Whirlpool Internacional, S. de R.L. de C.V. ("WIN"), WOM's wholly-owned Mexican subsidiary, which was disregarded as separate from WOM for US federal income tax purposes,⁸ and through a permanent establishment of WOM in Mexico.⁹

In 2009, WOM manufactured refrigerators and washers in Mexico under the Mexican government's maquiladora manufacturing incentives program (the "Maquiladora Program"), pursuant to which Mexico elected to tax only a portion of the manufacturing profit in Mexico and then at a significantly reduced tax rate.¹⁰

WIN provided its maquiladora manufacturing and distribution services to WOM pursuant to authorizations issued by the Mexican Ministry of Economy under the registry number 384-2007, as amended under request number 2007-279, in accordance with the IMMEX Decree.¹¹

WIN leased its employees from two related Mexican affiliates, Industrias Acros Whirlpool, S.A. de C.V. ("IAW") and Comercial Acros Whirlpool, S.A. de C.V. ("CAW").¹² WIN's employees reported up to the Plant Managers of the Ramos and Horizon Manufacturing Plants, who in turn reported to Eduardo Elizondo, a member of WIN's Board of Directors and Whirlpool's head of manufacturing in Mexico.¹³

WOM's permanent establishment in Mexico arose from WOM's ownership of the equipment, tooling, raw materials, component parts, supplies, and inventory used in its Mexican manufacturing operations, as well as its use of fixed places of business at the Ramos and Horizon Manufacturing Plants and the sale in Mexico of the refrigerators and washers it produced to Whirlpool US (for export) and to Whirlpool Mexico (for Mexican domestic consumption).¹⁴ As a further part of the Mexican maquiladora incentives, Mexico chose to exempt WOM's profits attributable to its Mexican permanent establishment from taxation.¹⁵

In total, between the Ramos and Horizon Manufacturing Plants, WOM employed 3,385 personnel leased from IAW and CAW.¹⁶ WOM's manufacturing personnel worked in WOM's Ramos and Horizon Manufacturing Plants, which held over 1.37 million square feet of manufacturing space filled with $146 million worth of WOM's manufacturing equipment and tooling.¹⁷ WOM's manufacturing personnel worked around the clock and in 2009 manufactured nearly a million refrigerators and over a half-million washers.¹⁸ Respondent has admitted that the activities performed at the Ramos Manufacturing Plant constituted the manufacture of refrigerators.¹⁹ Respondent has also admitted that the activities performed at the Horizon Manufacturing Plant constituted the manufacture of washers.²⁰

WOM's personnel in Mexico purchased the raw materials, component parts, and supplies for WOM, entering into contracts in WOM's name, and paying with WOM's funds from WOM's bank accounts.²¹ WOM's raw materials, component parts, and supplies were delivered directly by the vendors to WOM's Ramos and Horizon Manufacturing Plants.²² Respondent has also admitted that WOM sold the refrigerators and washers to Whirlpool US and Whirlpool Mexico.²³

"In 2008 and 2009, WOM had a single, part-time employee (Nour Eddine "Nordine" Nijar) located in the Grand Duchy of Luxembourg who performed certain nominal activities (limited general accounting and administrative functions)."²⁴ Tasks performed by WOM's single part-time employee in 2009 were limited to (1) the payment of rent and other invoices related to telephone and utilities for the Luxembourg office, (2) the payment of tax expenses for social security and payroll for WOM's Luxembourg employee, and (3) other back-office functions relating to the Luxembourg office.²⁵ WOM's single part-time employee in Luxembourg did not engage in any manufacturing, sales, or purchasing activities.

In 2009, none of the raw materials, supplies, or component parts used in the manufacture of the Products were located in Luxembourg.²⁶ WOM did not perform any manufacturing activities with respect to the Products in Luxembourg or through facilities located in Luxembourg.²⁷ WOM did not sell or purchase the refrigerators or washers in Luxembourg.

Statutory corporate income taxes in Luxembourg for 2009 consisted of:

Accordingly, the 2009 aggregate income tax rate applicable to a company with Luxembourg corporate taxable income that exceeds EUR 15,000 was 28.59% (21% CIT, 0.84% solidarity surcharge, and 6.75% MBT).³¹

On its original 2009 income tax return, WOM reported income subject to Luxembourg tax (excluding profits attributable to the Mexican permanent establishment) of EUR 27,134.72.³² WOM paid corporate tax liability of EUR 6,567 with respect to this income.³³ As set forth on its original 2009 Luxembourg income tax return, WOM paid a 24.2% effective rate of tax in Luxembourg (EUR 6,566.44 divided by EUR 27,134.72).³⁴

WOM subsequently discovered that USD 5,286,265 of the amount of the reported profits attributable to the Mexican permanent establishment in appendix 2 in its original 2009 Luxembourg tax return related to interest income on loans to affiliates unrelated to the Mexican permanent establishment.³⁵ Further, a similar error was consistently made in returns filed for 2007 through 2011. Accordingly, WOM disclosed the error in these returns to the Luxembourg tax authorities and proffered amended returns for each year.³⁶ The Luxembourg tax authorities requested WOM to include the additional income amounts set forth in the proposed amended returns in WOM's 2015 tax return. WOM's amendment and correction of its original 2009 Luxembourg income tax return error does not materially impact the effective rate of tax paid by WOM in 2009 relating to the Mexican operations as the additional interest income is unrelated to WOM's Mexican permanent establishment and WIN's maquiladora operations, and was ultimately fully subject to tax in Luxembourg.³⁷

After a subsequent audit, the Luxembourg tax authorities accepted the return and WOM paid the tax.³⁸

The statutory corporate income tax rate in Mexico for 2009 was 28%.³⁹ In 2009, a company resident in Mexico or operating through a permanent establishment was subject to one of two kinds of income tax, an income tax under the Ley del Impuesto Sobre la Renta, the Mexican Income Tax Law ("ITL"), or an alternative minimum flat tax of 17% under the Ley Del Impuesto Empresarial A Tasa Única ("IETU"). Companies subject to tax in Mexico effectively paid the higher of the income tax under the ITL or the alternative minimum flat tax under the IETU.

In 2009, WIN reported taxable income in the amount of 19,456,342 pesos and was subjected to a corporate income tax rate of 28% prior to application of maquiladora benefits. Once these benefits were applied, however, WIN paid 3,307,578 pesos in income taxes to Mexico, which resulted in an effective income tax rate for WIN of 17%.⁴⁰

In 2009, the Mexican government intentionally exempted WOM's Mexican permanent establishment from Mexican taxation as a result of WOM's and WIN's participation in the Maquiladora Program, provided that WIN acted within its authorization and satisfied the requirements of Article 216-bis of the Mexican ITL.⁴¹ In 2009, WIN both operated pursuant to its maquiladora authorizations and satisfied the requirements of Article 216-bis.⁴² Accordingly, Mexico exempted WOM's permanent establishment from taxation, deeming WOM not to have a permanent establishment arising out of the maquiladora operations.⁴³

In 2009, WOM's Mexican Branch was composed of both WIN and WOM's permanent establishment in Mexico. In 2009, WOM's Mexican Branch was taxed at an effective tax rate of 0.56%, as shown in the following calculation:

CALCULATION OF THE 2009 WOM MEXICAN BRANCH EFFECTIVE TAX RATE

	Line Item	Amount	Source	Bates No.	Affidavit Appendix
A	WOM's 2009 Profits (including WIN)	50,518,108	WOM's 2009 Form 5471 (Line 21 of Schedule C)		Reilly Decl. at ¶ 8, Attachment 5
B	WOM's 2009 Interest Income Attributable to Luxembourg	5,286,265	WOM Financial Statement (6. Income from financial fixed assets, a) derived from affiliated undertakings)	WP009981	Reilly Decl. at ¶ 4, Attachment 1
C	WOM's 2009 income Associated with Part-Time Luxembourg Employee	38,893	Appendix 10 to WOM's 2009 Tax return	WP009973	Reilly Decl. at ¶ 4, Attachment 1
D = A - B - C	WOM's 2009 Profits Less Income Attributable to Luxembourg Activities	45,192,950
E	WIN’s 2009 Income Tax (in MXN)	3,307,578	WIN's 2009 Mexican Tax Return (Utilidad Fiscal Determinada Conforme Al Articulor 216-Bís de la LISR Multiplicada por el Factor Correspondiente)	WP010464	Reilly Decl. at ¶ 7, Attachment 4
F	WIN’s 2009 Income Tax (in MXN) MXN/USD Exchange Rate as of December 31, 2009	13.0576	The referenced exchange rate can be obtained from the Federal Reserve Website, which can be accessed at the following link: https://www.federalreserve.gov/releases/h10/Hist/d at00_mx.htm.
G = E/F	WIN'S 2009 Income Tax (in USD)	253,307
G/D	Effective Tax Rate of WOM's Mexican Branch	0.56%

ARGUMENT

I. PARTIAL SUMMARY JUDGMENT UNDER SECTION 954(d)(2) IS APPROPRIATE BECAUSE THE PARTIES AGREE THAT WOM PERFORMED NOMINAL ADMINISTRATIVE AND ACCOUNTING FUNCTIONS IN LUXEMBOURG IN 2009 AND NO GENUINE QUESTIONS OF MATERIAL FACT EXIST.

In complex litigation, such as the present case, a motion for partial summary judgment serves the salutary purpose of allowing the court to streamline issues for trial and to promote settlement. Lyons v. Bd. of Educ. of Charleston, 523 F.2d 340, 347 (8th Cir. 1975); Grant Creek Water Works, Ltd, v. Commissioner, 91 T.C. 322, 325 (1988); Estate of Chenoweth v. Commissioner, 88 T.C. 1577, 1578-79 (1987). The Court should grant summary judgment with respect to an issue in controversy when there are no genuine issues of material fact in dispute and the moving party is entitled to judgment as a matter of law. Tax Ct. R. 121; Moore v. Philip Morris Co., 8 F.3d 335, 339 (6th Cir. 1993); Zaentz v. Commissioner, 90 T.C. 753, 754 (1988). A "material" fact is a fact that might affect the outcome of the legal issues in dispute. Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 248 (1986)("Only disputes over facts that might affect the outcome of the suit under the governing law will properly preclude the entry of summary judgment."); J.B.D.L. Corp, v. Wyeth-Ayerst Labs., Inc., 485 F.3d 880, 887 (6th Cir. 2007); EEOC v. Horizon/CMS Healthcare Corp., 220 F.3d 1184, 1190 (10th Cir. 2000); International Business Machines Corp. v. United States, 38 Fed. Cl. 661, 665 (1997); National Starch and Chemical Corp., T.C. Memo 1986-512.

The sole legal issue in dispute in this Manufacturing Branch Rule Motion is whether WOM was subject to FBCSI under section 954(d)(2). This determination largely hinges on the question of whether WOM performed purchasing or selling activities in Luxembourg in 2009. As shown below, there is no dispute surrounding the material facts establishing that WOM's activities in Luxembourg in 2009 were limited to nominal administrative and accounting activities performed by a single, part-time employee. For the reasons discussed below, Petitioners are entitled to partial summary judgment as a matter of law that WOM's income from its sales of refrigerators and washers in 2009 did not constitute FBCSI under section 954(d)(2).

II. WOM CANNOT HAVE FBCSI IN 2009 UNDER SECTION 954(d)(2) BECAUSE WOM HAD NO SALES OR PURCHASING ACTIVITIES IN THE REMAINDER.

One of Congress' principal concerns in adopting section 954(d)(1) nearly 60 years ago was the ability of taxpayers to separate sales or purchasing activities from manufacturing activities in order to gain a tax advantage:

H.R. Rep. No. 87-1447, at 63 (1962)(emphasis added); see also S. Rep. No. 87-1881, at 84 (1962)("sales income with which your committee is primarily concerned is income of a selling subsidiary . . . which has been separated from manufacturing activities of a related corporation merely to obtain a lower rate of tax for the sales income"). Congress quickly realized that controlled foreign corporations could achieve similar results by establishing sales branches in low tax jurisdictions, and added section 954(d)(2) to block taxpayers from avoiding section 954(d)(1) through the use of sales branches. See S. Rep. No. 87-1881, at 84 (1962).

In response to section 954(d)(2), Treasury promulgated regulations applying to both sales branches and manufacturing branches.⁴⁴ Treas. Reg. § 1.954-3(b)(1)(i) provides the Sales Branch Rule, while Treas. Reg. § 1.954-3(b)(1)(ii) provides the Manufacturing Branch Rule. The sine qua non of both rules is the separation of sales and purchasing activities from manufacturing activities.

Indeed, the structure of the Manufacturing Branch Rule makes it impossible to apply the rule if there are not sales or purchasing activities in the Remainder. Specifically, the Manufacturing Branch Rule cannot be applied unless a Tax Rate Disparity exists. To determine whether a Tax Rate Disparity exists, Treas. Reg. § 1.954-3(b)(1)(ii)(b) requires all income to be allocated to the Manufacturing Branch except for income derived by the Remainder from, inter alia, sales or purchasing activities. Specifically, Treas. Reg. § 1.954-3(b)(1)(ii)(b) provides that income allocated to the remainder of the CFC will be:

Treas. Reg. § 1.954-3(b)(1)(ii)(b). This reference provides that the only income to be allocated to the Remainder is income derived by the Remainder from the sales and purchasing activities set forth in Treas. Reg. § 1.954-3(a), determined without regard to the exceptions to FBCSI, but with all sales or purchasing activities by the Remainder deemed to be made "on behalf of" the Manufacturing Branch under Treas. Reg. § 1.954-3(b)(2)(i)(c).⁴⁵

Therefore, if the Remainder does not engage in sales or purchasing activities, the Remainder will have no income upon which to determine whether a Tax Rate Disparity exists; if the Remainder does not engage in sales or purchasing activities, there will be no Tax Rate Disparity and the Manufacturing Branch Rule will be inapplicable.

As Respondent has admitted, the Remainder has only a single part-time employee who performs only "nominal activities (limited general accounting and administrative functions)."⁴⁶ Because the Remainder performs no sales or purchasing activities, the Manufacturing Branch Rule is inapplicable.

The same issue arises if a Tax Rate Disparity has been found to exist and Treas. Reg. § 1.954-3(b)(2)(ii) comes into play to determine whether any income allocated to the Remainder constitutes FBCSI. Treas. Reg. § 1.954-3(b)(2)(ii)(c) has exactly the same language as Treas. Reg. § 1.954-3(b)(1)(ii)(c) and again deems any sales or purchasing activities of the Remainder to have been made "on behalf of" the Manufacturing Branch. Treas. Reg. § 1.954-3(b)(2)(ii)(e) then provides that any such income allocated to the Remainder will constitute FBCSI only to the extent such income would be FBCSI if derived by a separate CFC under like circumstances.

The import of Treas. Reg. § 1.954-3(b)(2)(ii)(e) is that only sales and purchasing activities of the Remainder can possibly result in FBCSI under the Manufacturing Branch Rules.

WOM's Remainder, which does not engage in any sales or purchasing activities, thus cannot have FBCSI under the Manufacturing Branch Rule.

Lest there be any doubt, the Service has considered exactly this situation, one in which the Remainder has no sales or purchasing activities. The Service unambiguously ruled that if the Remainder does not engage in sales or purchasing activities, the Remainder cannot have FBCSI under the Manufacturing Branch Rule.⁴⁷

In Technical Advice Memorandum ("TAM") 8509004 (Nov. 23, 1984), the Service concluded that absent actual sales or purchasing activities in the Remainder, the Manufacturing Branch Rule could not be applied. TAM 8509004 first articulated when the Manufacturing Branch Rule applies: "Accordingly, section 1.954-3(b)(1)(ii) of the regulations was promulgated to apply to situations where a branch of a CFC located outside the CFC's country of incorporation manufactures personal property which is 'purchased or sold by or through' the remainder of the CFC." TAM 8509004 then recounted that "the home office (or 'remainder') of Fl performs no selling or sales activities with respect to Product Z. Fl's Country Y branch sold all of its Product Z production directly to unrelated third parties, except for Product Z and parts sold to Parent for subsequent resale in the United States." TAM 8509004 concluded: "Since none of the Product Z manufactured by the branch is purchased or sold by or through the remainder of Fl, section 1.954-3(b)(1)(ii) does not apply."

In this case, as in TAM 8509004, WOM's Manufacturing Branch carries out all of the sales and purchasing activities. In this case, as in TAM 8509004, "[s]ince none of the [refrigerators or washers] manufactured by the [Mexican] branch is purchased or sold by or through the remainder of [WOM], section 1.954-3(b)(1)(ii) does not apply."

III. WOM CANNOT HAVE FBCSI IN 2009 UNDER TREAS. REG. § 1.954-3(b)(1)(ii) BECAUSE NO TAX RATE DISPARITY EXISTS.

The Manufacturing Branch Rule of Treas. Reg. § 1.954-3(b)(1)(ii) can only apply if purchasing or sales income is attributable to the Remainder and is taxed at a rate of less than 90 percent of, and at least 5 percentage points less than, the rate that would apply to such income in Mexico. See Treas. Reg. § 1.954-3(b)(1)(ii)(b). As just discussed, the Remainder engaged in no purchasing or sales activities in 2009, and thus no sales or purchasing income was attributable to the Remainder. Thus, there is no Remainder sales or purchasing income and thus no Tax Rate Disparity. WOM therefore cannot have FBCSI under the Manufacturing Branch Rule.

Even if the Tax Rate Disparity test were applied to income attributable to the nominal administrative and accounting activities performed by WOM's single part-time employee in Luxembourg, such an application would still not result in a Tax Rate Disparity, as the Remainder's income was taxed by Luxembourg at an effective tax rate of 24.2%, while income attributable to WOM's Mexican Branch was taxed at an effective tax rate of 0.56%. As the Remainder's tax rate is higher than the Mexican Branch tax rate, no Tax Rate Disparity would exist even if one thus improperly used tax on non-sales and non-purchasing income to perform the Tax Rate Disparity test.

Finally, a Tax Rate Disparity does not exist even if one ignores the Maquiladora Program benefits enjoyed by WOM and WIN, and improperly applies the Tax Rate Disparity test to non-sales and non-purchasing income of the Remainder. Specifically, even if the Mexican maximum corporate income tax rate of 28% is tested against the Luxembourg Remainder actual effective tax rate of 24.2%, there is still no Tax Rate Disparity because the 24.2% Luxembourg Remainder effective rate is still not at least 5 percentage points lower than the 28% Mexican maximum corporate income tax rate. See Treas. Reg. § 1.954-3(b)(1)(ii)(b).

IV. WOM WOULD NOT HAVE FBCSI UNDER SECTIONS 954(d)(1) AND954(d)(2) EVEN IF WOM'S MEXICAN BRANCH WERE TREATED AS A WHOLLY-OWNED SUBSIDIARY OF WOM'S LUXEMBOURG REMAINDER.

As noted above, if all prerequisites for application of the Manufacturing Branch Rules are satisfied, the Manufacturing Branch will be treated as a wholly-owned subsidiary of the Remainder. Treas. Reg. § 1.954-3(b)(2)(ii)(a). This treatment does not, however, give rise to FBCSI in and of itself. Rather, the FBCSI provisions under section 954(d)(1) must be applied to the income deemed to be derived by the Manufacturing Branch and the Remainder as if each were a separate corporation. Treas. Reg. § 1.954-3(b)(2)(ii)(e).⁴⁸

Under this analysis, income of the Manufacturing Branch is treated as FBCSI only if the Manufacturing Branch, once treated as a separate corporation from the Remainder, derives income falling within the definition of FBCSI under section 954(d)(1). Thus, the income of the Manufacturing Branch will not constitute FBCSI if the property that it sold was different from the property that it purchased or otherwise met the requirements of Treas. Reg. § 1.954-3(a)(4). Further, since a Manufacturing Branch is treated as a separate corporation incorporated in the country of its manufacturing activities, it qualifies for the "same-country manufacturing exception" under section 954(d)(1)(A). See TAM 8509004 (concluding that the CFC's manufacturing branch derived no FBCSI from its sale of products because the products were manufactured in the same country under the laws of which the manufacturing branch was deemed to be incorporated).

Further, section 954(d)(1) applies to treat the income of the Remainder as FBCSI only if "purchasing or selling activities" were performed "by or through" the Remainder with respect to the personal property manufactured "by or through" the Manufacturing Branch. Treas. Reg. § 1.954-3(b)(2)(ii)(c). Specifically, the Remainder will derive income subject to application of section 954(d)(1) only if it is deemed to make a purchase or sale of personal property "on behalf of" the Manufacturing Branch. Section 954(d)(1); Treas. Reg. § 1.954-3(a)(1). Pursuant to Treas. Reg. § 1.954-3(b)(2)(ii)(c), the Remainder will be treated as making a purchase or sale of personal property "on behalf of" the Manufacturing Branch only if "purchasing or selling activities" were performed "by or through" the Remainder with respect to the personal property manufactured "by or through" the Manufacturing Branch. Further, any FBCSI that the Remainder is deemed to derive will be limited to income attributable to the purchasing and selling activities that it performs.

Accordingly, even if the Manufacturing Branch Rules were triggered, and WOM's Mexican Branch were treated as a corporation separate from WOM's Luxembourg Remainder, this would not result in FBCSI to WOM because WOM's Remainder undertook no sales or purchasing activities.

WOM's Mexican Branch, once deemed to be a Mexican corporation, would not earn FBCSI because, in 2009, the raw materials, supplies, and component parts that it purchased from suppliers were not the same property that it sold to Whirlpool US and Whirlpool Mexico. Further, it is undisputed that manufacturing of the Products took place in Mexico.⁴⁹ Thus, as WOM's Mexican Branch would be deemed to be incorporated in Mexico under the Manufacturing Branch Rules, its income would be excluded from the definition of FBCSI under the same country manufacturing exception of section 954(d)(1)(A).

V. THE MANUFACTURING BRANCH RULE EXCEEDS THE SCOPE OF SECTION 954(d)(2) AND IS INVALID.

The Manufacturing Branch Rule of Treas. Reg. § 1.954-3(b)(1)(ii) is invalid, as it exceeds the scope of authority granted under the plain language of section 954(d)(2).⁵⁰ Under the Administrative Procedure Act, a court must set aside an agency action that is "in excess of statutory jurisdiction, authority, or limitations, or short of statutory right." See 5 U.S.C. § 706(2)(C). Such claims are reviewed under the Chevron framework. See Texas v. United States, 300 F. Supp. 3d 810, 848-50 (N.D. Tex. 2018); Loving v. IRS, 917 F. Supp. 2d 67, 73 (D.D.C. 2013). Under Chevron, the first question to be addressed is whether "the intent of Congress is clear." Chevron U.S.A. Inc, v. NRDC, 467 U.S. 837, 842 (1984). "If the intent of Congress is clear, that is the end of the matter; for the court, as well as the agency, must give effect to the unambiguously expressed intent of Congress." Id. at 842-43.

In determining whether Congressional intent is clear, a court must examine "the language [of the statute] itself, the specific context in which that language is used, and the broader context of the statute as a whole." See Robinson v. Shell Oil Co., 519 U.S. 337, 341 (1997). Armed with the traditional tools of statutory interpretation — "text, structure, purpose, and legislative history," Pharm. Research & Mfrs, of Am. v. Thompson, 251 F.3d 219, 224 (D.C. Cir. 2001) — the Court's task is to determine "whether Congress has directly spoken to the precise question at issue." City of Arlington v. FCC, 569 U.S. 290, 296 (2013).

The plain language of section 954(d)(2) makes clear that the Manufacturing Branch Rule of Treas. Reg. § 1.954-3(b)(1)(ii) exceeds the scope of section 954(d)(2). Section 954(d)(2) provides as follows:

For purposes of determining foreign base company sales income in situations in which the carrying on of activities by a controlled foreign corporation through a branch or similar establishment outside the country of incorporation of the controlled foreign corporation has substantially the same effect as if such branch or similar establishment were a wholly owned subsidiary corporation deriving such income, under regulations prescribed by the Secretary the income attributable to the carrying on of such activities of such branch or similar establishment shall be treated as income derived by a wholly owned subsidiary of the controlled foreign corporation and shall constitute foreign base company sales income of the controlled foreign corporation.

(Emphasis added.) This provision, thus, addresses sales income attributable to the branch of a CFC and treats income attributable to such branch as FBCSI if the performance of activities through such branch has substantially the same effect as if such branch were a wholly-owned subsidiary corporation deriving such income. This is the concept that Treasury has defined as a "Sales Branch" under Treas. Reg. § 1.954-3(b)(1)(i).

By its terms, section 954(d)(2) addresses only FBCSI attributable to branch activities. This provision does not include within its scope sales income derived by the Remainder of a CFC with respect to manufacturing operations performed through a branch. Thus, section 954(d)(2) provides no grant of authority to Treasury to encompass such income in regulations. Treasury's Manufacturing Branch Rule under Treas. Reg. § 1.954-3(b)(1)(ii) deems income derived by the Remainder, as opposed to the branch, as FBCSI. Accordingly, the Manufacturing Branch Rule is invalid and cannot provide a basis for taxation of Petitioners under section 954(d)(2).

The legislative history of section 954(d)(2) confirms that Congress enacted this provision to address exclusively income attributable to a Sales Branch. Senator Kerr introduced language similar to that of section 954(d)(2) on July 9, 1962. See Remarks of Sen. Kerr on Submission of Amendments to H.R. 10650, July 9, 1962, p. 11983-11986 Debates: 108 Congressional Record (Daily Edition). Proposed Amendment to H.R. 10650, 87^th Cong. § 954(d)(2)(July 9, 1962). This language was taken verbatim from a report prepared by Treasury in May of 1962, which proposed various amendments to the House version of the 1962 Revenue Act. See "Draft of Statutory Language, with Accompanying Explanation, of the Amendments Proposed by the Secretary of the Treasury on May 10, 1962, to Sections 13, 15, 16, and 20 of H.R. 10650," 87th Cong. (May 31, 1962)(the "Treasury Report").

The Treasury Report explained that the proposed addition to section 954(d) was intended to cover situations in which "a branch or similar establishment acts in the same manner as a controlled foreign corporation." Treasury Report at 2.⁵¹ This report made no mention of manufacturing branch operations, and the draft language that Treasury proposed evidenced an intent to address solely FBCSI attributable to branch operations, not FBCSI attributable to the Remainder.

The Senate Finance Committee, in its report on the Revenue Act of 1962 (the "Senate Report"), explained the proposed branch rule under section 954(d)(2), again without any reference to a manufacturing branch:

Paragraph (2) of section 954(d) provides that in situations in which the carrying on of activities by a controlled foreign corporation through a branch or similar establishment outside the country of incorporation of the controlled foreign corporation has substantially the same effect as if such branch or similar establishment were a wholly owned subsidiary corporation deriving such income, then, under regulations proscribed by the Secretary of the Treasury or his delegate, the income attributable to the carrying on of such activities of such branch or similar establishment shall be treated as income derived by a wholly owned subsidiary of the controlled foreign corporation and shall constitute foreign base company sales income of the controlled foreign corporation. Determinations, such as those required under section 954(b)(3) and (d)(1)(A) and (B), as to such branch income shall be made as though such branch were a separate controlled foreign corporation.

S. Rep. No. 87-1881, at 246 (1962). The Conference Report to H.R. 10650 similarly explains that section 954(d)(2) "treats foreign base company sales income of the branch as foreign base company sales income of the controlled foreign corporation"). H.R. Rep. No. 87-2508, at 31 (1962).

There is no ambiguity as to the scope of section 954(d)(2), which on its face is limited in its application to FBCSI attributable to a Sales Branch. There is no other logical reading of this statute, and nothing in the legislative history of section 954(d)(2) would indicate a different intent. Thus, the Manufacturing Branch Rules, which apply to FBCSI attributable to the Remainder rather than FBCSI of the branch, exceed the scope of statutory authority granted by section 954(d)(2) and are invalid.