IP Holding Companies Lose in State Court

IP Holding Companies Lose in State Court

February 01, 2014

Separate holding companies for key assets like intellectual property or real estate were dealt a blow by an Arizona court 

Home Depot set up a subsidiary in 1999 to hold its trademarks and other brands. The subsidiary then collected royalties from Home Depot for use of the brands. The effect is to shift income to the subsidiary. Such subsidiaries are usually put in lower-tax jurisdictions.

The royalties in this case started at 1.5% of gross sales under a 10-year licensing agreement between the subsidiary and Home Depot, and then increased to 4% of gross sales when the licensing agreement was renewed for another 10 years two years before the original agreement was scheduled to expire.

Home Depot is headquartered in Atlanta, but has stores across the country, including in Arizona.

The Arizona tax authorities said the licensing subsidiary should join with the parent in filing a combined tax return in the state reporting income from the Arizona stores. The state requires affiliated companies with a connection to the state to join in a combined return as a “unitary business” with any company directly doing business in the state.

An Arizona appeals court agreed with the state tax department in a decision in December. The court said unitary treatment is appropriate where there is a “substantial interdependence of basic operations among the various affiliates or branches of the business.”

It said such treatment is appropriate in this case because the brands are integral to the appeal of Home Depot products. The subsidiary licenses use of the brands only to Home Depot.

Home Depot reported income of $3.8 billion over the three tax years at issue. The licensing subsidiary earned $4.7 billion during the same period. It had only four employees: a lawyer, paralegal and two secretaries. The case is Home Depot U.S.A., Inc. v. Arizona Department of Revenue.

by Keith Martin