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We are satisfied that the development of the intangibles was
paid for by MTNV and that MTNV was the owner of the intangibles
as defined in section 1.482-4(f)(3)(ii)(B), Income Tax Regs. To
that extent, we agree with respondent that the structure
supporting the payment of royalties or franchise fees was a sham.
There was no “arm’s-length” reason for MTNV/MSI or MANV/MDT to
compensate Manver for the use of intangibles that Manver did not
create, develop, or, in substance, have the ability to transfer.
Accordingly, the expenses were not “ordinary and necessary”
business expenses deductible under section 162(a). R.T. French
Co. v. Commissioner, 60 T.C. 836, 849 (1973). Respondent’s
determinations with respect to the franchise and royalty payments
to Manver will be sustained.
III. Interest Expense and Guarantee Fees Resulting From Lump-Sum
Franchise Payments
Petitioners deducted amounts as interest and guarantee fees
in connection with the promissory notes and the lump-sum royalty
payments to Manver. Petitioners argue that there were business
reasons for the financing arrangements, that the debt was bona
fide, and that the "economic substance sought by the parties was
accomplished." Petitioners support their argument by pointing
out that the 12.5- to 15-percent royalty rates made it difficult
for petitioners to finance their planned expansion and that the
financing allowed them to control the royalty payments during the
expansion period. Petitioners further attempt to support their
argument that there was economic substance to the transactions on
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