Merck & Co, Inc. v. United States, No. 10-2775 (3d Cir. 2011)Annotate this Case
The company wished to use cash reserves from subsidiaries in Ireland for activities such as stock repurchase. Foreign income is not taxable in the U.S. when earned, but is taxed if invested in U.S. property, 26 U.S.C. 951-965, including debt obligations of U.S. companies. To obtain use of the funds, the company entered into a 20-year interest rate swap. The IRS notice then in effect provided that, upon sale of one "leg" of a swap, the lump sum exchanged for the right to receive revenues over the remaining life of the swap, should not be recognized as income all at once, but should be accounted for over the life of the swap. Parties are now required to treat all such payments as loans. In 2004, the IRS assessed deficiencies of $472,870,042, characterizing the transactions as immediately-taxable loans, not sales. The district court agreed. The Third Circuit affirmed. The former notice did not apply because the transactions were loans. The parties structured the transactions expecting to recover principal; involvement of a third-party bank did not preclude characterization as a loan. Disparate treatment is not ordinarily considered a defense to tax liability.