Facebook’s Tax Loss Shows Need for Transfer Pricing Transparency

The recent US Tax Court decision in Facebook Inc. v. Commissioner highlights the mounting complexities of transfer pricing and the heightened expectations imposed on companies to provide a clear, defensible rationale for how they value their intangible contributions.

The case—which centered on whether Facebook’s Irish subsidiary paid an arm’s-length compensation for various rights transferred by Facebook’s US entity—illustrates the necessity of aligning corporate practices with well-substantiated economic models.

Facebook’s US parent and its Irish subsidiary had agreed to share the costs of developing intangible property and compensate each other for pre-existing contributions, referred to as platform contribution transactions, or PCTs. Sophisticated valuation techniques were needed because of the high-value nature of Facebook’s intangible assets, including platform technology, user rights, and marketing intangibles.

The IRS audited, then challenged, Facebook’s initial PCT valuation of approximately $6.3 billion. Relying on the income method as outlined in the 2009 temporary and 2011 final Treasury Department regulations, the IRS asserted a significantly higher value—nearly three times Facebook’s original estimate. This revised valuation formed the basis for the IRS’s proposed increase in Facebook Ireland’s cost-sharing payments.

The core dispute centered on two aspects:

• The selection of the “best method” for valuation
• Key inputs such as revenue forecasts, discount rates, and realistic alternatives to the cost-sharing arrangement

The case addressed Facebook’s 2010 tax year, during which it transferred intangible assets to its Irish subsidiary. The legal proceedings began in 2017, when Facebook challenged the IRS’s position in the US District Court for the Northern District of California.

This was the first court case to test the application of the amended cost-sharing regulations, particularly the income method introduced in the 2009 temporary and 2011 final Treasury regulations. Facebook argued the method unfairly denied the foreign participant an appropriate return, but the Tax Court rejected this argument.

In practice, the income method provides a return commensurate with the risk of developing intangibles, as reflected by discount rates of 14% (IRS), 19% (Facebook), or a figure in between. Facebook’s broader objection was that a so-called “cashbox” entity deserved more than a risk-adjusted return, but the court found no support for that view.

The court’s position aligned with the 2017 update to the OECD’s transfer pricing guidelines, which introduced the concepts of a:

• Risk-free return for entities lacking substance
• Risk-adjusted return for entities with some degree of control over financial risk

Although the Tax Court’s reasoning drew on principles later endorsed by the Organization for Economic Cooperation and Development, the dispute itself arose well before those updates. This adds to the case’s significance in shaping global transfer pricing standards.

Facebook also contended that the income method improperly allocated future returns from ongoing development to the initial intangible contribution. The Tax Court, however, viewed this as a reasonable outcome under the regulations, particularly since the foreign participant’s sole input was capital.

The income method, in this context, remained a valid tool for aligning outcomes with the economic substance of the transaction, according to the court.

Moreover, the court dismissed Facebook’s argument that the 2009 regulations were incompatible with the realities of arm’s-length pricing. It reaffirmed the statutory principle that income must be “commensurate with the income attributable to the intangible,” even if that departs from strict market comparables. This interpretation acknowledges that unique or high-value intangibles may require more nuanced treatment than comparisons to unrelated-party transactions can provide.

The Tax Court found a middle ground, accepting the income method, but rejecting aspects of both parties’ valuations as unreasonably applied. It agreed with Facebook on excluding questionable “other revenue” lacked adequate support.

The decision highlights the need for valuations to reflect a company’s best estimate of the economic reality and is a reminder that the IRS and the courts have the benefit of hindsight when analyzing that economic reality. Ultimately, the court valued the PCT above Facebook’s estimate, showing that even well-prepared studies can be challenged if they fall short of regulatory standards and market realities.

The Facebook case sends a clear signal. As we witness the trend of tax authorities taking more aggressive transfer pricing positions, it requires companies’ transfer pricing analysis and documentation to have detailed explanations and support.

This includes robust and realistic forecasts, sound reasoning for discount rates, and careful consideration of realistic alternatives to cost-sharing agreements. Courts are increasingly willing to scrutinize whether expert valuations adhere to regulatory expectations, including whether post-transaction data helps test the credibility of earlier projections.

This case also highlights the risks of drawing analogies to third-party licenses as the tax authorities may argue they fail to capture the full economic attributes of the controlled transaction. Capital, intangibles, the allocation of functions and risk control, and the pricing of intangibles demand a nuanced, fact-driven approach. Valuable intangibles can be unique and defy standard benchmark comparables.

As tax authorities pay closer attention to digital businesses, the Facebook case serves as an example of the approach tax authorities are taking in the current environment. If tax authorities believe a company’s valuation doesn’t reflect real economic conditions, the taxpayer can face long disputes, substantial financial penalties, and reputational harm.

The best way to minimize this risk is by using clear, well-supported transfer pricing analysis that is based on reliable data and rigorous documentation and which considers several possible market outcomes.

While transfer pricing rules may continue to evolve, the underlying principle remains consistent. Transparency, economic coherence, and methodologically sound documentation are essential for navigating regulatory challenges in transfer pricing disputes.

The case is: Facebook Inc. v. Commissioner, T.C., No. 21959-16, 5/22/25

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

Author Information

Rezan Ökten is a partner and head of transfer pricing at Dentons’ Amsterdam office.

Linda Pfatteicher is a partner in Dentons’ venture technology group focused on international corporate tax and operational structuring.

Davy Schoorl is an associate at Dentons’ transfer pricing practice in Amsterdam.

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