Coca-Cola’s Transfer Pricing Dispute

On December 14th, 2015, Coca-Cola Co. filed a petition in U.S. Tax Court (Coca-Cola v. Commissioner, T.C.) challenging a proposed $9.4 billion income tax adjustment related to the company’s transfer pricing for the years 2007-2009. If sustained, the adjustment could result in a tax assessment of up to $3.3 billion, before interest expense.

The beverage company received the Internal Revenue Service (“IRS”) notice in September of this year, based upon an audit of the years 2007-2009.  The IRS is claiming that the company under-reported income during the three-year period by leaving out substantial sums related to licensing fees paid by foreign Coke producers and distributors. The IRS asserts that Coca-Cola undercharged seven foreign affiliates for intellectual property, primarily trademarks and formulas, used in the production and sale of concentrates abroad. The foreign affiliates identified are located in Ireland, Swaziland, Brazil, Mexico, Chile, Costa Rica and Egypt.  The biggest portion of the adjustment, $6.2 billion, is allocated to the Irish affiliate.

A spokesperson for Coca-Cola said the proposed income tax assessments are “without merit” because   the IRS and Coca-Cola executed a closing agreement after an audit of the 1987-89 tax years which stated that no penalties would be assessed as long as Coca-Cola followed the prescribed transfer pricing method.  The spokesperson stated that the IRS subsequently approved the methodology during five successive audits through tax year 2006.

The IRS appears intent on litigating the case.  In a Securities and Exchange Commission filing earlier this year, Coca-Cola said the IRS had designated the case for litigation, with the result that the company is precluded from pursuing administrative settlement through the IRS Office of Appeals or the Advance Pricing and Mutual Agreement program.

The Coca-Cola transfer pricing dispute and litigation will be a high profile display that focuses on transfer pricing methods, particularly with regard to intellectual property.  Transfer pricing disputes of this nature have become increasingly common in recent years and the IRS is believed to have filed hundreds of such cases totaling tens of billions of dollars.  U.S. multinationals should be watchful of how the Coca-Cola v. Commissioner, T.C. progresses and focus on preparedness for similarly aggressive international transfer pricing audits.