The UPS-IRS Battle Continues

By William J. Augello

Q: There has been a lot of talk lately about the friction going on between the IRS and UPS. What exactly is the nature of their argument, and how is each side defending its respective position?

A: The litigation between the IRS and UPS, which began with the IRS? suit for taxes on UPS? excess value charges that UPS tried to hide in a tax-free off-shore insurance company, has now led to a suit for a refund of anywhere from $21 million to $41 million on UPS? 1994 taxes.

The litigation over UPS? offshore insurance company, Overseas Partners, Ltd., resulted in a settlement in which UPS paid the IRS $1.02 billion in back taxes, penalties and interest for the years 1983-1999, according to the Atlanta Business Chronicle, August 20, 2006. The U.S. Tax Court initially held that UPS engaged in a ?sham operation? whose sole purpose was evasion of taxes to Overseas Partners. However, that decision was overturned by the 11th Circuit in a 2-1 decision that found that the EVC plan had a ?business purpose.? In contrast, the Court ruled that when an individual intentionally evades taxes on income intended for its personal use, there is no business purpose. Thus, since UPS was conducting a business, tax planning was permissible. See Parcel Shipping & Distribution, August 2001, ?Monitoring Big Brown? and Parcel Shipping and Distribution, February 2002, ?UPS? Battle with the Internal Revenue Service? for a more detailed explanation of the courts? decisions.

However, the Court remanded the case to the Tax Court to determine the IRS? contention that UPS owed taxes under the laws relating to ?reallocation? of revenues. Rather than submit that issue to trial, UPS agreed to settle that case in 2003 for $1.2 billion in back taxes, penalties and interest.

One of the most revealing disclosures of the evidence in the EVIC case was the fact that in 1984, out of the $99,794,790 in EVC?s collected, UPS paid out only $22,084,011 in claims (22%). Out of the $77,710,778 paid to the National Union Fire Insurance Company (NUF), NUF deducted $17,754,152 for its commissions, excise tax and fees. It then remitted $59,956,626 to Overseas Partners (OPL) under its insurance treaty. In the words of the sole dissenting Judge in the 11th Circuit, ?NUF received a $1 million fee in exchange for nothing.? Judge Ryskamp viewed this arrangement as a front for the tax-free transfer of revenue from UPS to OPL.

UPS is apparently operating its EVIC program in a slightly different manner through an affiliated insurance company. UPS handles all EVIC claims initially, and if it agrees to pay the claim, the insurer pays the balance of the value declared. On the other hand, if the claim is declined by UPS, the insurance company also declines payment.

The new battle with the IRS involves the taxable value and ownership of a French operating subsidiary. UPS took a deferred inter-company loss of $61 million on the subsidiary?s stock, valued at $117 million but ruled worthless in 1994. UPS? position is that it would be entitled to either $21 million in refunded taxes and accrued interest. But if the company?s stock is ruled worthless, it is entitled to $41 million.