Practitioners specializing in international taxation and transfer pricing are keenly aware of the complexities inherent in intercompany transactions, particularly those involving high-value intangible property. The United States Tax Court’s decision in Facebook, Inc. & Subsidiaries v. Commissioner, 164 T.C. No. 9 (2025), offers crucial insights into the application of Section 482 and the temporary cost sharing regulations (Temp. Treas. Reg. § 1.482-7T) to such arrangements. This article delves into the facts, the taxpayer’s challenges, the Court’s legal analysis, the application of the law to the specifics of the case, and the resulting conclusions.

Factual Background

The core of this case revolves around a Cost Sharing Arrangement (CSA) entered into effective September 15, 2010, between Facebook, Inc. (Facebook US) and its Irish subsidiary, Facebook Ireland Holdings Unlimited (FIH), along with FIH’s subsidiary, Facebook Ireland Limited (FIL), collectively referred to as Facebook Ireland. The CSA required the participants to compensate each other for the value of "platform contributions" made in a Platform Contribution Transaction (PCT). Under the PCT, Facebook US and Facebook Ireland granted each other rights to existing online platform technology in their respective territories (US/Canada for Facebook US, Rest of the World (ROW) for Facebook Ireland). Separately, Facebook US granted Facebook Ireland rights related to existing users, advertisers, third-party application developers (including data), and marketing intangibles in the ROW territory.

In addition to the upfront PCT payment, the regulations required Facebook Ireland to make annual Cost Sharing Transaction (CST) payments to compensate Facebook US for ongoing Intangible Development Costs (IDCs) in proportion to Facebook Ireland’s share of reasonably anticipated benefits (RAB share) from exploiting cost shared intangibles. Facebook Ireland made CST payments and contingent annual payments for 2010 based on Facebook US’s initial valuation of the upfront contributions at a Net Present Value (NPV) of $6.3 billion. Facebook US reported approximately $100 million in total royalties from Facebook Ireland for 2010, comprising amounts for FOP technology, user community rights, and marketing intangibles, based on NPVs derived from EY’s transfer pricing analysis.

The Internal Revenue Service (IRS or respondent) determined a deficiency for 2010 by reallocating income under Section 482. The IRS’s expert selected the income method to value the contributions to the CSA, opining that the NPV of the assets contributed by Facebook US was $19.945 billion. This increased Facebook Ireland’s required PCT payment. The IRS also increased Facebook Ireland’s RAB share used to determine its CST payment for 2010. Respondent ultimately calculated Facebook Ireland’s RAB share for 2010 as 53.5%, up from the 44% reported by petitioner.

Taxpayer’s Request for Relief

Facebook timely challenged the IRS’s determination. Petitioner contended that the income method was inappropriate because both Facebook US and Facebook Ireland made "nonroutine platform contributions". Alternatively, Facebook argued that if the income method were to apply, the IRS selected incorrect values for three key inputs: revenue projections for the ROW territory, the appropriate discount rate for those projected revenues, and Facebook Ireland’s best realistic alternative to cost sharing. Petitioner maintained that correcting these inputs would yield a result consistent with its initial $6.3 billion valuation.

Facebook also simultaneously challenged the validity of the 2009 cost sharing regulations, arguing that they limited the expected return on IDCs to a discount rate reflecting market-correlated risks and could not produce an arm’s-length result. Petitioner challenged the adjustments made to its and Facebook Ireland’s RAB shares used for CST payments. Finally, petitioner argued that respondent was precluded from making a PCT allocation because Facebook Ireland’s actual returns fell within a permitted range under the periodic adjustment rules.

Court’s Analysis of the Law

The Court began its analysis with Section 482, which grants the Secretary authority to distribute, apportion, or allocate gross income, deductions, credits, or allowances between commonly controlled businesses to prevent tax evasion or clearly reflect income. In the case of intangible property transfers, income must be "commensurate with the income attributable to the intangible". The regulations under Section 482 are commonly referred to as the "transfer pricing regulations," and Section -7 specifically addresses "cost sharing regulations". The Court noted that the 2009 cost sharing regulations were being applied for the first time.

The objective of the 2009 cost sharing regulations is to determine an arm’s-length amount for controlled transactions reasonably anticipated to contribute to developing intangibles pursuant to a CSA. For PCT Payments, the regulations direct the use of methods applicable under other Section 482 regulations, supplemented by paragraph (g) of Temp. Treas. Reg. § 1.482-7T. Paragraph (g)(1) lists six methods for valuing PCTs: CUT/CUSP, Income Method, Acquisition Price, Market Capitalization, RPSM, and Unspecified Methods. These methods must be applied in accordance with Treas. Reg. § 1.482-1, including the best method rule (§ 1.482-1(c)), comparability analysis (§ 1.482-1(d)), and the arm’s-length range (§ 1.482-1(e)). The best method rule requires selecting the method that provides the most reliable measure of an arm’s-length result based on facts and circumstances, primarily considering comparability and data/assumption quality.

For CST Payments, the regulations prescribe the "RAB share method," where participants share IDCs in proportion to their respective RAB shares. Allocations may result from adjustments to the basis for measuring anticipated benefits and projections used to estimate RAB shares.

The Commissioner has broad discretion under Section 482, and an allocation is set aside only if arbitrary, capricious, or unreasonable. However, the Court does not apply the Administrative Procedure Act’s "arbitrary and capricious" standard, but rather focuses on the reasonableness of the allocation itself, measured by reference to the arm’s-length range. If the taxpayer shows the Commissioner’s allocation is unreasonable, but fails to prove an arm’s-length alternative, the Court uses its best judgment based on the record. Post-transaction evidence can be relevant for evaluating what was reasonably anticipated at the transaction date.

Regarding the burden of proof, the taxpayer generally bears it for the deficiency determined in the Notice of Deficiency. Respondent bears the burden for any increased deficiency asserted in the Amended Answer. The Court found that relying on alternative valuation methodologies in litigation does not necessarily shift the burden of proof if the statutory basis remains the same and different evidence is not required for the original determination. Here, the burden remained on petitioner for the original deficiency and on respondent for the increase, though the Court found the record sufficient to resolve all issues regardless.

Application of the Law to the Facts

PCT Payment - Method Selection: The Court addressed whether Facebook Ireland made a nonroutine platform contribution, which would favor the RPSM. Based on the facts, the Court concluded that only Facebook US made a nonroutine platform contribution. Therefore, the income method applied under the terms of Temp. Treas. Reg. § 1.482-7T(g)(4). The Court noted that even Facebook’s own expert, Dr. Unni, initially selected an aggregate income method assuming Facebook Ireland made no platform contributions.

PCT Payment - Income Method Inputs: The Court found that while the income method was the best method, respondent implemented it unreasonably by using unreliable inputs, thus abusing his discretion under Section 482. The reliability of estimated value in a PCT heavily depends on the reliability of projections.

Financial Projections: Respondent adopted the Base Case projections from Facebook’s Long Range Plan (LRP), which included $1.9 billion in "Other Revenue". The regulations state that projections prepared for non-tax purposes are generally more reliable. However, the Court noted the LRP included other scenarios, and the Base Case wasn’t necessarily a probability-weighted average of possible outcomes, as preferred by the regulations. External parties, like an investment bank, had "haircut" these projections. The Court concluded that the LRP financial projections excluding Other Revenue were more reliable. Minimal associated expenses in the LRP for Other Revenue were excluded. The Court also noted respondent improperly included acquisition expenditures in the cashflows.
Discount Rate: An appropriate discount rate reflects only market risk. Both parties’ experts accounted for Facebook’s private, pre-IPO status. Respondent’s expert, Dr. Newlon, derived a beta from public comparables and added percentage premia (2% for pre-IPO, 1% for early monetization) based solely on his judgment. The Court found this lacked empirical support and was unreliable. Petitioner’s experts offered other approaches, including regression analysis (Dr. Unni) and direct beta estimation from private company data (Drs. Korteweg & Sorensen). The Court rejected Dr. Newlon’s premia, found weaknesses in other expert approaches, and ultimately adopted the 17.7% discount rate (WACC) used in Facebook’s original transfer pricing documentation prepared by EY. This rate fell within the range of expert opinions and addressed concerns about extremes.
Best Realistic Alternative: This input for the income method is typically a hypothetical licensing alternative derived from a functional and risk analysis of the actual CSA. Respondent’s expert used a cost-plus-8% markup, citing Facebook’s pre-CSA controlled agreements. The Court rejected this, finding it improperly used a controlled agreement as an uncontrolled comparable and failed to analyze the functions and risks under the CSA. Respondent acknowledged a 13.9% cost-plus markup derived from a comparable profits method (CPM) analysis of advertising agencies. Petitioner proposed a revenue-based commission using Reseller comparables. The Court found comparability problems with the Resellers and issues with petitioner’s expert’s derivation. The Court ultimately concluded that the 13.9% cost-plus markup from Dr. Newlon’s CPM was more reasonable, as it at least accounted for entrepreneurial risk. The Court adopted Dr. Newlon’s 8.81% discount rate for the licensing alternative, as it was not separately challenged.
Aggregation: The Court found that the platform contribution of FOP technology was sufficiently interrelated with the transfer of user community rights and marketing intangibles such that applying the income method on an aggregate basis was the most reliable measure.

Validity of Regulations: Petitioner argued the 2009 cost sharing regulations were invalid because they deny economic profits (a positive NPV return) to the PCT Payor by "capping" the expected return on cost contributions at the discount rate. Petitioner claimed the arm’s-length standard, as the "touchstone" of Section 482, requires looking externally to approximate uncontrolled parties who would demand economic profits. The Court noted that Section 482 does not contain the term "arm’s length"; its focus is clear reflection of income and preventing evasion. The "commensurate with income" standard added in 1986 moved the statute away from relying solely on comparable transactions. Citing the Ninth Circuit’s decision in Altera Corp. & Subs. v. Commissioner, the Court stated that Treasury is not required to look externally for real-world approximations when no comparables exist, and that focusing on internal allocations reflecting economic activity is appropriate. The Court further explained that the income method does compensate the PCT Payor for its entrepreneurial efforts through the return assigned to its operating contributions under the licensing alternative. The Court found petitioner’s reliance on academic literature unconvincing, as it did not establish that uncontrolled parties require a positive NPV, and noted that efficient markets might result in a zero NPV. The Court rejected petitioner’s arguments that the regulations violated the Major Questions doctrine or Nondelegation doctrine. It also rejected the argument that the definition of "intangible property" in the second sentence of Section 482 limited compensable contributions under the first sentence.

Periodic Adjustments vs. Allocations: Petitioner argued that Facebook Ireland’s Actual Experienced Return Ratio (AERR) falling outside or below the Periodic Return Ratio Range (PRRR) under Temp. Treas. Reg. § 1.482-7T(i)(6) should preclude respondent from making a PCT allocation under paragraph (i)(3). The Court held that the adjustments permitted under paragraph (i)(3) and (i)(6) are independent, and paragraph (i)(6) does not operate as a safe harbor precluding a PCT allocation under paragraph (i)(3). Thus, the Court did not need to resolve the parties’ dispute over how to compute Facebook Ireland’s AERR.

CST Payment - RAB Shares: The dispute regarding CST payments centered on how to estimate RAB shares. Facebook used rolling three-year projections, while respondent calculated RAB shares based on projections into perpetuity, using the NPV of projected gross profits. The Court held that respondent’s method of computing RAB shares using the NPV of projected gross profits for each year and all subsequent years was consistent with the regulations’ "entire period" requirement and provided the most reliable estimate of reasonably anticipated benefits. The Court found respondent did not abuse his discretion in adjusting RAB shares.

Court’s Conclusions

The Court concluded that, applying the statute and regulations:

The income method can be the best method for computing the PCT Payment value and resulting payments for 2010.
Respondent implemented the income method unreasonably by adopting unreliable inputs, thus abusing his discretion under Section 482 regarding the extent of the PCT allocation.
With reliable inputs, the income method produces an arm’s-length PCT payment value.
The most reliable income-method inputs for valuing the PCT Payment were the LRP financial projections that exclude Other Revenue (and remove posttransaction acquisition costs), discounted at a 17.7% discount rate (from EY’s documentation), with a sales and marketing return for the licensing alternative valued at a cost-plus-13.9% markup (from Dr. Newlon’s CPM).
Applying the income method on an aggregate basis for the FOP technology, user community rights, and marketing intangibles is the most reliable measure. Using the Newlon Interactive Model with these corrected inputs, the Court estimated a PCT Payment value of $7.786 billion, which exceeds petitioner’s reported $6.3 billion value.
The 2009 cost sharing regulations are not invalid. They reasonably implement Section 482. The arm’s-length standard does not necessarily require a positive NPV return (economic profit).
The periodic adjustment rules under Temp. Treas. Reg. § 1.482-7T(i)(6) do not operate as a safe harbor precluding respondent from making a PCT allocation under paragraph (i)(3).
Respondent’s method for calculating RAB shares for the CST Payment, using the NPV of projected gross profits into perpetuity, is consistent with the regulations and provides the most reliable estimate (using corrected inputs). Respondent did not abuse his discretion by adjusting RAB shares.

The Court directed the parties to recompute the CST Payment as well under Rule 155, using the corrected inputs determined for the PCT Payment.

This decision underscores the critical importance of reliable inputs and consistent application of specified methods under the transfer pricing regulations. While the Court affirmed the validity of the 2009 cost sharing regulations and the applicability of the income method to Facebook’s PCT, it also demonstrated a willingness to reject expert analyses that lacked empirical support or failed to adhere to the regulatory framework, ultimately substituting its own findings on key valuation inputs based on the record. Tax practitioners should take note of the Court’s detailed evaluation of financial projections, discount rate methodologies, and realistic alternatives when advising clients on similar intercompany arrangements.

Prepared with assistance from NotebookLM.