Business Methods and Tax Strategies

Business Methods and Tax Strategies

July 10, 2010

Business methods and tax strategies may be possible to patent after a US Supreme Court decision in late June, but which business methods are patentable remains unclear.

Bernard Bilski applied to the US Patent Office to patent a strategy for hedging risk when buying energy commodities. Both the Patent Office and, later, a federal appeals court rejected the application on grounds that the proposed invention was purely a mental process of doing mathematical calculations to determine how best to hedge a particular risk and then identifying and executing a transaction that the calculations suggested would be a good hedge. Both suggested that the idea was unpatentable unless Bilski could show a connection to a mechanical device or a transformation of an article into a different state or thing.

A unanimous Supreme Court agreed in late June that the idea was unpatentable, calling it too abstract, but it rejected the notion that only inventions involving machinery or physical transformations are eligible for patents.

The justices could not agree beyond that where to draw lines. Five of the nine justices signed a majority opinion that suggested that only a narrow range of business methods are likely to qualify for patents. The other four justices joined in three concurring opinions concluding basically that business methods are not patentable.

Many tax lawyers are concerned that allowing patents on tax strategies would let someone essentially charge rent for use of the US tax code and turn transactions into potential minefields because royalties could have to be paid, retroactively to the date of the patent application, to any patent holder who manages to patent a strategy involved in the transaction. The Patent Office had granted 65 patents on tax strategies through April 2008. Most applicants claim a computer is needed to implement their ideas. One application by a law firm for a patent on the “prepaid service contract” structure used to finance at least three wind farms was rejected by the Patent Office and was withdrawn.

The Internal Revenue Service has proposed adding transactions that use patented tax strategies to a list of transactions that must be reported to the agency as potential tax shelters.

The Supreme Court case is Bilski v. Kappos. The decision is expected to lead to more litigation.

Keith Martin