Sixth Circuit Holds IRS Wrongfully Cancelled Eaton's APAs

In a recent decision, the Sixth Circuit Court of Appeals held in Eaton Corp. v. Commissioner that the IRS wrongfully cancelled two advance pricing agreements (APAs) issued by the IRS to Eaton Corporation (Eaton).¹ The Sixth Circuit held that APAs are contracts that are subject to contract law principles and that the IRS had the burden of proving it had grounds to cancel the APAs.

Background

Eaton is a manufacturer of electrical and industrial products whose foreign subsidiaries in Puerto Rico and the Dominican Republic manufactured electrical components such as circuit breakers that were sold to Eaton's other affiliates as well as third-party customers.

Eaton entered into two APAs with the IRS, one for 2001 through 2005 and one for 2006 through 2010. For both APAs, Eaton adopted a two-step transfer pricing method that used (1) the comparable uncontrolled price (CUP) method to calculate hypothetical profits and (2) the comparable profits method (CPM) to