SECTION 1. PURPOSE

This revenue procedure provides administrable tax rules under domestic and international provisions of the Internal Revenue Code for certain patent cross licensing arrangements. This revenue procedure is issued in response to comments and requests for guidance in connection with Notice 2006–34, 2006–14 I.R.B. 705. In general, and as described below, this revenue procedure provides rules permitting taxpayers to change to, or continue to use, the Net Consideration Method described in section 5 of this revenue procedure for a qualified patent cross licensing arrangement (QPCLA) described in section 4 of this revenue procedure. This revenue procedure does not provide rules

2007–10 I.R.B. 675 March 5, 2007

all of the uncertainties of both patent law and tax law. Commentators indicated that, under U.S. generally accepted accounting principles, profit or loss is generally reported with respect to cross licenses and similar arrangements only to the extent of any cash payments. Commentators said that several policy objectives, including maintaining U.S. competitiveness in the global marketplace in light of foreign taxation rules, would be hindered if an amount in excess of any cash received under a cross licensing arrangement were subject to withholding.

For all these reasons, commentators urged that only cash received under a cross licensing arrangement should be subject to withholding.

.03 Applicable Law . Section 61(a) of the Internal Revenue Code provides the general rule that, except as otherwise provided by law, gross income includes all income from whatever source derived.

Section 162 permits a taxpayer to deduct all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business.

Section 263(a) provides that no deduction shall be allowed for any amount paid out for new buildings or for permanent improvements or betterments made to increase the value of any property or estate.

Section 263A provides that in the case of any property to which § 263A applies, the direct costs of such property and such property’s proper share of those indirect costs (including taxes), part or all of which are allocable to such property shall, in the case of property which is inventory in the hands of the taxpayer, be included in inventory costs and, in the case of any other property, shall be capitalized. With certain exceptions, § 263A applies to real or tangible personal property produced by the taxpayer and real or personal property described in § 1221(a)(1) which is acquired by the taxpayer for resale.

In relevant part, §§ 871(a) and 881(a) impose a 30-percent tax on U.S. source fixed or determinable annual or periodical gains, profits, and income (FDAP) received by nonresident aliens and foreign corporations to the extent such FDAP is not effectively connected with the conduct of a trade or business within the United States. Royalties, whether paid in one lump sum or periodically, constitute

concerning the treatment of cross licensing arrangements that are not QPCLAs.