Third-party revenue changes did not disturb a conduit-income agreement

Plain-English summary

A brand-management subsidiary collected licensee payments for a pooled fund restricted to marketing and other activities benefiting the licensees. An earlier consent agreement allowed those licensee payments to be excluded from income because the subsidiary acted as a conduit. The subsidiary also received two payment streams from a third-party company and had temporarily placed them in the same fund, but the third-party contracts did not require that use. The subsidiary and licensee association later agreed to remove those payments from the fund, and the subsidiary planned to recognize them as income. The IRS ruled that the third-party payments were outside the consent agreement, so changing their treatment did not affect that agreement's continuing validity for the licensee payments.

Ruling snapshot

• Question: Did changing the treatment of two third-party payment streams undermine the prior agreement excluding restricted licensee payments from income?
• Outcome: Approved, the change did not affect the consent agreement
• Key authorities: IRC § 61(a); Commissioner v. Glenshaw Glass Co.; conduit and agency principles

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 202301009 Third Party Communication: None
Release Date: 1/6/2023 Date of Communication: Not Applicable
Index Number: 61.00-00
Person To Contact:
-------------------------------------------- -------------, ID No. -----------------
------------------------------------------------------------ Telephone Number:
--------------------------- --------------------
------------------------- Refer Reply To:
CC:ITA:B04
------------------------------------- PLR-128096-20
---------------------------------------- Date:
October 12, 2022

                                                LEGEND

Taxpayer 1 = ------------------------------------------------------------------------

Taxpayer 2 = -----------------------------------
Global Brand = ------------------------------------------------
Industry = ------------------
Licensees = -----------------
Brand Fund = ------------------
Licensee Association = ---------------------------------
Year X = -------
Year Y = -------
Payment Source A = ------------------------------------
Company A = ------------
$z = --------
Payment Source B = ------------------------------------------------------------------------

Dear -----------------:

This letter responds to your request for a private letter ruling dated December 2, 2020,
as supplemented by letters dated August 12, 2021; November 18, 2021; and April 21,
2022, and as modified by the letters dated August 9, 2022 and October 4, 2022. The
request was submitted by Taxpayer 1 on behalf of its subsidiary, Taxpayer 2, and
relates to whether specific payments must be included in Taxpayer 2’s gross income
under § 61 of the Internal Revenue Code (“Code”). This letter ruling is being issued
electronically in accordance with Rev. Proc. 2020-29, 2020-21 I.R.B. 859. A paper copy
will not be mailed to the taxpayers.
PLR-128096-20 2

                                    FACTS

Background

Taxpayer 1 is the parent of a U.S. consolidated group engaged in the Industry as part of
Global Brand. Taxpayer 2 is a wholly-owned indirect subsidiary of Taxpayer 1. Global
Brand’s main activity is to license its brand to Licensees and manage Licensees’
facilities pursuant to license and/or management agreements (“Licensing Agreements”).

Under the Licensing Agreements, Licensees must make certain payments into the
Brand Fund, a pooled fund that is used for the collective benefit of the Licensees.
Taxpayer 2 receives the Licensees’ payments and manages the Brand Fund; however,
the use of the money in the Brand Fund, as well as the identification of other funding
sources for the Brand Fund, is governed by contractual arrangements and agreed-upon
business practices (collectively, Brand Fund Agreements) between Taxpayer 2 and
Licensee Association, an independent organization run by and representing the
interests of the Licensees. Under the Brand Fund Agreements, amounts placed in the
Brand Fund can only be used to pay expenses related to promotional activities that
benefit licensees such as marketing, distribution, and reward reimbursements. To
ensure that the Brand Fund is being used in accordance with the Brand Fund
Agreements, the Licensees monitor the Brand Fund’s budget and the Brand Fund is
subject to an independent audit every year.

Consent Agreement

In Year X, a Consent Agreement granting a change in accounting method was executed
by Taxpayer 1 on behalf of Taxpayer 2. Under the terms of the Consent Agreement,
Taxpayer 2 was given permission to exclude from gross income the Licensing
Payments it received from the Licensees that it placed in the Brand Fund. The Consent
Agreement was based, in part, on representations supporting the position that Taxpayer
2 was acting as a conduit for the Licensees with regard to the Licensing Payments.

Payment Sources

As of Year Y, Taxpayer 2 had agreements with various third-parties which have resulted
in Taxpayer 2 receiving funds from non-licensees that are placed into the Brand Fund.
These third-party payments were not previously contemplated in the Consent
Agreement.

Payment Source A consists of payments received from Company A pursuant to a
contract entered into between Company A and Taxpayer 2 in Year X (Company A
Agreement). Taxpayer 2 received Payment Source A in the form of a single $z
payment in Year X and has been recognizing the payment ratably over the life of the
Company A Agreement for financial accounting purposes.
PLR-128096-20 3

From Year X until Year Y, as Payment Source A amounts have been recognized for
financial accounting purposes, those amounts have been contributed to the Brand Fund
pursuant to the Brand Fund Agreements active at the time. Taxpayer 1 represents that
Taxpayer 2 and the Licensee Association have since agreed that Revenue Stream A
amounts treated as received beginning in Year Y will not be considered part of the
Brand Fund. Taxpayer 2 also intends to change how it accounts for the Payment
Source A amounts by including them in Taxpayer 2’s income as those amounts are
recognized.

Payment Source B also consists of payments received from Company A pursuant to the
Company A agreement and represent a portion of the revenue generated from the
Licensees’ customers who purchase Company A’s products. Taxpayer 2 receives
Revenue Stream B payments on an ongoing basis.

As with Payment Source A, Payment Source B payments have been treated as part of
the Brand Fund under the Brand Fund Agreements and excluded from income.
Taxpayer 1 represents that Taxpayer 2 and the Licensee Association have agreed that
Payment Source B payments received beginning in Year Y will not be considered part
of the Brand Fund. Taxpayer 2 also intends to change how it accounts for the Payment
Source B payments by including them in Taxpayer 2’s income as those amounts are
recognized.

                             REQUESTED RULING

Whether the change in treatment of Payment Source A and Payment Source B
payments is a change of Taxpayer 2’s facts, rather than a change in its method of
accounting, which does not adversely impact the validity of the Consent Agreement.

                             LAW AND ANALYSIS

Section 61(a) of the Code provides that except as otherwise provided in subtitle A,
gross income means all income from whatever source derived. Specifically, § 61(a)(2)
includes income derived from business in gross income. Gross income is an
undeniable accession to wealth, clearly realized, over which a taxpayer has complete
dominion. Commissioner v. Glenshaw Glass Co., 348 U.S. 426 (1955). As stated by
the Supreme Court in discussing an earlier version of the Section, “[t]he income taxed is
described in sweeping terms and should be broadly construed in accordance with an
obvious purpose to tax income comprehensively.” Commissioner v. Jacobson, 336 U.S.
28, 49 (1949).

If a taxpayer’s receipt of a payment is conditioned on a binding legal obligation to remit
the payment to another, or the taxpayer receives a payment as an agent receiving
amounts on behalf of a principal, the taxpayer is generally deemed to be a mere conduit
of those funds and is not required to include the payment in income. See Rev. Rul. 76-
479, 1976-2 C.B. 20; Rev. Rul. 69-274, 1969-1 C.B. 36; Rev. Rul. 65-282, 1965-2 C.B.
PLR-128096-20 4

21 and Rev. Rul. 58-220, 1958-1 C.B. 26, for instances in which the Service has held
that a taxpayer does not have gross income upon receipt of a payment because the
taxpayer receives the payment as a conduit for the ultimate recipient. See also Seven-
Up Co. v. Commissioner, 14 T.C. 965 (1950), acq. in result, 1974-2 C.B. 1 (concluding
that a manufacturer's receipt of funds from participating bottlers for a national
advertising campaign was not includible in gross income because the funds benefitted
the payors, not the manufacturer).

The Consent Agreement concerns the income tax treatment of the Licensing
Payments—in other words, payments made by the Licensees to Taxpayer 2, as
mandated by the Licensing Agreements, which Taxpayer 2 must place in the Brand
Fund, pursuant to the Licensing Agreements and/or the Brand Fund Agreements.

Payments received from Payment Sources A and B do not fall within the ambit of the
Consent Agreement, under either the older or newer Brand Fund Agreements.
Although, prior to Year Y, Taxpayer 2’s use of Payment Source A and B payments were
subject to restrictions under the Brand Fund Agreements, such restrictions were not a
condition of Taxpayer 2’s receipt of the payments from Company A. The subsequent
changes in treatment of Payment Source A and B payments under the Brand Fund
Agreements do not alter this analysis. Consequently, the changes in treatment have no
impact on the Consent Agreement.

                                     CAVEATS

Except as expressly provided herein, no opinion is expressed or implied concerning the
tax consequences of any aspect of any transaction or item discussed or referenced in
this letter.

This ruling is directed only to the taxpayer requesting it. Section 6110(k)(3) of the Code
provides that it may not be used or cited as precedent.

In accordance with the Power of Attorney on file with this office, a copy of this letter is
being sent to your authorized representative.

A copy of this letter must be attached to any income tax return to which it is relevant.
Alternatively, taxpayers filing their returns electronically may satisfy this requirement by
attaching a statement to their return that provides the date and control number of the
letter ruling.
PLR-128096-20 5

The rulings contained in this letter are based upon information and representations
submitted by the taxpayer and accompanied by a penalty of perjury statement executed
by an appropriate party. While this office has not verified any of the material submitted
in support of the request for rulings, it is subject to verification on examination.

                                            Sincerely,



                                            Ronald J. Goldstein
                                            Senior Technician Reviewer, Branch 2
                                            (Income Tax & Accounting)

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