Internal Revenue Service
Revenue Ruling

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Rev. Rul. 63-238

1963-2 C.B. 519

IRS Headnote

A company manufactures automotive parts subject to the manufacturers excise tax imposed by section 4061(b) of the Internal Revenue Code of 1954. The company sells some of these parts to its wholly-owned subsidiary for resale to independent jobbers and distributors for further resale as replacement parts. The sales of the parts by the manufacturing company to its subsidiary are not at arm's length for purposes of section 4216(b)(1)(C) of the Code. Furthermore, under the provisions of that section, the price charged for the parts sold to the subsidiary is not recognized as the `fair market price' merely because similar articles are sold for an equivalent price in so-called `private brand' transactions.

Full Text

Rev. Rul. 63-238

Advice has been requested whether, under the circumstances described below, the prices charged by a manufacturing company for taxable automotive parts sold to its wholly-owned subsidiary constitute the proper basis for computing the manufacturers excise tax imposed by section 4061(b) of the Internal Revenue Code of 1954.

A company manufactures automotive parts, and sells part of its production to its wholly owned subsidiary. The company also sells similar parts to certain independent distributors in transactions known in the trade as `private brand' sales. The subsidiary company resells the parts, marketed under the manufacturer's own brand name, to independent jobbers and distributors for resale as replacement parts. The subsidiary operates in such a manner that the transactions between the parent and the subsidiary in respect of the articles here involved are recognized as sales.

The price which the manufacturing company charges for a particular part sold to the subsidiary is the same as the price charged by the manufacturing company for a similar part sold to an independent distributor in the `private brand' transactions. The specific question is whether, under these circumstances, the price charged for the parts sold to the subsidiary may be deemed to be the `fair market price' for purposes of section 4216(b)(1)(C) of the Code.

Section 4061(a) of the Code imposes a tax upon sales by manufacturers, producers, or importers of certain enumerated motor vehicle articles. Section 4061(b) of the Code imposes a tax upon sales by manufacturers, producers, or importers of parts or accessories (other than tires and inner tubes and other than automobile radio and television receiving sets) for any of the articles enumerated in section 4061(a).

Under the provisions of section 4216(b)(1)(C) of the Code, if an article is sold (otherwise than through an arm's length transaction) at less than the fair market price, the manufacturers excise tax shall (if based on the price for which the article is sold) be computed on the price for which such articles are sold, in the ordinary course of trade, by manufacturers or producers thereof, as determined by the Secretary of the Treasury or his delegate.

Section 316.15(a) of Regulations 46, made applicable to the 1954 Code by Treasury Decision 6091, C.B. 1954-2, 47, provides that the fair market price is the price for which articles are sold by manufacturers at the place of distribution or sale in the ordinary course of trade and in the absence of special arrangements. A sale is not at arm's length when made pursuant to special arrangements between a manufacturer and a purchaser (as in the case of intercompany transactions). When a sale is not at arm's length and the price is less than the fair market price (as in the case of intercompany transactions at cost or at a fictitious price), the tax is to be computed upon a fair market price to be computed by the Commissioner of Internal Revenue.

The sales in the instant case are between a parent company and its wholly-owned subsidiary, and are not at arm's length for purposes of section 4216(b)(1)(C) of the Code. Therefore, if the price charged is `less than the fair market price,' the manufacturers excise tax must be based upon the price for which such articles are sold, in the ordinary course of trade , by manufacturers or producers thereof, determined in accordance with the provisions of that section.

In the ordinary course of trade, the price for which a taxable article is sold by a manufacturer is equivalent to the sum of the manufacturer's costs which are attributable to the article and a mark-up representing a margin of profit. Normally, the manufacturer's costs include, in addition to the cost of fabricating the article, certain costs relating to advertising, selling, and distributing the article under his own brand name.

On the other hand, in the so-called `private brand' type of transaction, a manufacturer produces articles for sale to a vendee for resale under the vendee's brand name rather than under the manufacturer's brand name. Although the brand name under which an article is sold is of no significance here as such, under these circumstances most of the costs of advertising, selling, and distributing the article are borne by the vendee rather than by the manufacturer. Consequently, the price charged by the manufacturer for `private brand' articles normally is less than the price that would be charged for similar articles sold in the ordinary course of trade.

It should be noted that, insofar as the `private brand' sales to unrelated vendees are concerned, the tax is based upon the actual price for which the articles are sold, determined under the provisions of section 4216(a) of the Code. The only question in the instant case is whether, under the provisions of section 4216(b)(1)(C) of the Code, a price charged by a manufacturing company for taxable articles sold to its wholly-owned subsidiary should be accepted as being not `less than the fair market price' merely because that price is equivalent to the price charged by the manufacturing company for similar articles sold to a `private brand' vendee.

Such a price is not deemed to be the price for which such articles are sold, in the ordinary course of trade, by manufacturers or producers thereof, within the meaning of this statutory provision. Accordingly, since the price charged under the circumstances in the instant case is less than the fair market price, a constructive sale price must be determined as required by the statute. This constructive sale price may be determined by one of the alternative methods set forth in Revenue Ruling 62-68, C.B. 1962-1, 216.