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associated with property produced”, including “any minimum annual
payments and royalties ... incurred by a licensee”, are indirect
costs that must be capitalized in ending inventory. Sec. 1.263A-
1(e)(3)(ii)(U), Income Tax Regs.
Petitioner reads “minimum annual payments and royalties” in
a vacuum. This phrase merely gives examples of “licensing and
franchise costs” that are classified as indirect costs. The
distinction petitioner wishes this Court to make between the
phrase “minimum royalties” and “contingent royalties” is
illogical in light of the objectives of the statute and
regulations. As previously stated, under the statute and
regulations, indirect costs, that is costs other than direct
material costs and direct labor costs or acquisition costs, must
be capitalized if properly allocable to property produced. Sec.
1.263A-1(e)(3)(i), Income Tax Regs. Further, the regulations
give as an example of an indirect cost required to be
capitalized, licensing and franchise costs. Sec. 1.263A-
1(e)(3)(ii)(U), Income Tax Regs. The language found in the
regulations speaks directly to petitioner’s license of the
patented manufacturing process and the royalties incurred in
securing that license.
Petitioner relies on a number of cases in its brief that
“widely recognize” “minimum royalties”; however, the cases bear
no relevance to the issue of capitalization under section 263A,
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Last modified: May 25, 2011