Alert

The outcome of a tax dispute between the IRS and Airbnb Inc. may set precedents for how multinational corporations approach transfer pricing and valuation of intellectual property (IP) in cross-border transfers.

Specifically, it may hamper the use of the income method in setting these values.

View details of the ruling and its potential impact below.

IRS Alleges Airbnb Liability

The IRS alleges that Airbnb Inc. understated its US taxable income by $1.33 billion for 2013, stemming from resources and rights provided to its Irish affiliate under a platform contribution transaction (PCT).

While Airbnb used an income method to value its licenses, the IRS applied an unspecified method, resulting in an additional $573 million in penalties. It contends that Airbnb is liable for a 40% penalty on the alleged tax underpayment, citing a gross valuation misstatement under Internal Revenue Code (IRC) Sections 6662(e)(1)(B)(ii) and (h)(2)(A).

On July 31, 2024, Airbnb filed a petition with the United States Tax Court to contest the IRS determination, Airbnb Inc. v. Commissioner, T.C. No. 12423-24.

This case underscores the critical importance of robust transfer pricing strategies and compliance in international operations.

Background on Airbnb Inc. v. Commissioner

In 2013, Airbnb established an international framework through a technology and intellectual property licensing agreement with its Ireland-based subsidiary. This agreement included a cost-sharing arrangement for the use and development of technology products, customer data, and marketing intangibles.

In return for the resources, capabilities, and rights provided by Airbnb, the Irish affiliate made a lump-sum $35 million PCT payment.

However, under Section 482 of the Internal Revenue Code and applicable Treasury Regulations, the IRS asserts that the correct payment should have been $4.2 billion.

What Changes with Airbnb Inc. v. Commissioner

The Airbnb petition challenges the IRS's $4.2 billion adjustment to the PCT payment, as well as $573 million in penalties. The key issues include:

Valuation Dispute

The IRS contests the valuation of Airbnb’s residual business assets—specifically, the resources, capabilities, and rights provided to its Irish affiliate under the PCT License Agreement. This valuation is critical as it impacts the overall income reported by Airbnb.

Methodology Selection

Airbnb employed the income method to value the PCT, establishing a range of discount rates between 25% and 35% and estimating useful lives for the licensed intangibles. The IRS, however, opted for an unspecified method, raising questions about the appropriateness and transparency of its valuation approach.

Questionable Inputs and Useful Life Assignments

There are significant concerns regarding the valuation inputs, particularly the use of a discount rate close to 30%, which could heavily influence the valuation outcome. Additionally, the limited useful life assigned to platform contributions raises questions about the accuracy of expected returns.

Impact of Regulatory Challenges

Airbnb's petition highlights the numerous challenges faced during its international expansion, including regulatory uncertainties and competitive pressures from online travel agencies and local rivals. These factors contributed to financial losses, potentially complicating the valuation of its international operations.

Financial Losses

The Irish affiliate reportedly incurred losses, earning less than $10 billion in revenue during the cost-sharing arrangement, despite investing over $10 billion in intangible development costs and other expenses. Airbnb argues that the IRS's adjustments would exacerbate these losses.

IRS Valuation Basis

The IRS valuation references Airbnb’s Series D financing round from April 16, 2014, approximately three months after the PCT, which Airbnb claims is arbitrary and unreasonable. The company challenges the IRS's reliance on information that was not available at the time the cost-sharing agreement was established.

Next Steps with Airbnb Inc. v. Commissioner

Airbnb's tax dispute highlights a troubling trend in transfer pricing, particularly in valuing IP and cost-sharing arrangements. Major corporations have faced similar challenges, often revolving around asset aggregation, revenue sharing, and the selection of valuation methods. This case underscores the importance of vigilance in these areas, as the IRS intensifies scrutiny of cross-border transactions, especially in cost-sharing scenarios.

A critical aspect of this dispute is the IRS's rejection of Airbnb's use of the income method—a favored approach for PCTs—in favor of an unspecified method. The IRS's willingness to challenge valuation methods, even in cases of reported losses, signals a need for companies to carefully select and document their transfer pricing methodologies.

As the IRS shifts its approach, companies must prioritize working with experienced professionals in IP valuation, as this area remains highly contested and not one-size-fits-all. While Airbnb’s battle with the IRS continues, it may mark the onset of a new era in transfer pricing disputes, where the IRS increasingly examines how companies utilize net operating losses (NOLs) from foreign operations to offset domestic tax liabilities.

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To learn more about international transfer pricing strategies, contact your Moss Adams professional.

Additional Resources

• International Tax Services