American tax authorities have accused Facebook of deliberately “downplaying” the value of its assets as part of a scheme to pay less US tax, in a court case that could cost the social media company more than $9bn.
The trial at San Francisco’s tax court centres on how the Silicon Valley company valued intellectual property such as software and trademarks transferred to an Irish subsidiary in 2010.
The Internal Revenue Service claimed that Facebook made “attempts to downplay the value [of these intangible assets] for transfer pricing purposes". This refers to the internal transactions carried out by multinational companies to book more of their revenue and profits in low-tax regimes.
Ireland’s headline corporate tax rate is 12.5 per cent, compared with the 35 per cent federal tax rate in the US at the time. Facebook has not disclosed the tax rate that it actually paid on its Irish business a decade ago.
In 2010, Facebook valued the assets in question at $6.5bn, but the IRS believes their true worth was $21bn. Facebook estimated in its most recent 10k financial filing that, were the IRS to win the case, it would have to pay an extra $9bn in federal taxes plus interest and any penalties.
Facebook has denied the allegations. It has argued the valuation of the assets was because at the time it was battling to sell advertising internationally and build its mobile business. "Success was not guaranteed," the company said.
In its opening statement to the court on Tuesday, the IRS claimed that 2010 was a year of "unbridled growth" for Facebook, which had "internationalised and globalised" and shifted from an experimental advertising platform to an established business. Facebook also issued a "lower set of projections" than was realistic given the business’s future prospects, the IRS said.
Mike Schroepfer, Facebook’s chief technology officer, in court described the company’s growth in 2010 as "messy", adding that it only had “basic” infrastructure and a small team developing its mobile app.
The company argued that the Dublin headquarters received investment, developed its own technology and took risks in 2010, making the case it was fair to book some profits there.
The case, which Facebook expects to last over a month, is the latest to cast a spotlight on so-called transfer pricing, which has come under increasing scrutiny from global tax authorities. In late 2019, EU judges struck down a European Commission order for Starbucks to pay €30m in back taxes to the Netherlands in a transfer pricing case, but found that carmaker Fiat Chrysler should pay a similar amount in back taxes to Luxembourg.
Baker McKenzie, the law firm, found in a 2018 study that transfer pricing was the most common source of tax disputes among the large multinationals it polled. Many have resulted in "negotiated settlements" — agreements drawn up with tax authorities out of court.
The Facebook case begins two days after the company’s founder and chief executive Mark Zuckerberg wrote in the Financial Times that he supported recent efforts by the Organisation for Economic Cooperation and Development "to create fair global tax rules for the internet".
Neither Mr Zuckerberg nor chief operating officer Sheryl Sandberg are due to testify in the IRS case.
(Published by Financial Times, February 19, 2020)
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