## Facts

- United States Steel Corp. developed Venezuelan iron ore deposits and formed Orinoco Mining Co., a wholly owned subsidiary, to operate the mines.
- Steel formed Navios, S.A., a Liberian wholly owned subsidiary, to charter vessels and transport Venezuelan ore to the United States; Navios also transported ore for other customers.
- During the tax years at issue, about 73% of Navios’s gross revenues came from Steel, with a small portion from independent domestic steel producers and the remainder from foreign customers.
- There was no public spot market price for ocean carriage on the relevant route; Steel contended Navios charged Steel the same freight rates charged to independent domestic purchasers for comparable services.
- The Commissioner determined Navios overcharged Steel by 25% and reallocated income from Navios to Steel under I.R.C. § 482 to prevent income shifting to the more favorably taxed affiliate.
- In a separate dispute, the Commissioner argued consolidated return regulations (Treas. Reg. §§ 1.1502-34A, 1.1502-35A) required Steel to reduce its basis in obligations of an affiliate to reflect consolidated losses used by the group.
- The Tax Court largely sustained the § 482 reallocation but rejected the claimed basis reduction, reasoning the affiliate could have used the losses in later years if it had filed separate returns.
- Steel appealed the § 482 ruling; the Commissioner cross-appealed the consolidated return/basis issue.

## Issues

1. Whether a taxpayer rebuts a § 482 reallocation by showing the controlled price matched prices charged in sufficiently similar transactions with unrelated parties.
2. Whether, under Treas. Reg. §§ 1.1502-34A and 1.1502-35A, basis reduction depends only on the affiliate’s ability to use losses during consolidated return years, excluding hypothetical use in later separate-return years.

## Decision

- The court reversed the Tax Court’s decision sustaining the § 482 reallocation.
- The court held that evidence of the same prices charged to independent buyers for the same or similar services, in similar circumstances, established an arm’s-length charge and precluded § 482 reallocation on this record.
- The court reversed the Tax Court’s decision rejecting a basis reduction under the consolidated return regulations.
- The court held the regulations require looking only to consolidated return years when determining whether the affiliate could have utilized the losses; potential later utilization is irrelevant.
- Result: Steel prevailed on the § 482 issue; the Commissioner prevailed on the consolidated return/basis-reduction issue.

## Legal Principles

- Under I.R.C. § 482, a controlled transaction price that matches the amount charged (or that would have been charged) in comparable uncontrolled transactions is strong evidence of arm’s-length dealing.
- When reliable comparable uncontrolled transactions exist and are sufficiently similar considering all relevant facts, they can defeat a § 482 allocation even if the arrangement has tax-motivated features.
- Under Treas. Reg. §§ 1.1502-34A and 1.1502-35A, consolidated groups must reduce basis in stock or obligations of an affiliate to the extent the group uses the affiliate’s losses that the affiliate could not have used itself during the consolidated return years.
- For basis reduction under these regulations, the inquiry is confined to consolidated return years; later hypothetical separate-return use of the losses does not avoid the reduction.

## Conclusion

The Second Circuit held that arm’s-length pricing shown by sufficiently similar comparable uncontrolled transactions bars a § 482 freight-charge reallocation in this case, while also requiring basis reduction under the consolidated return regulations based solely on whether the affiliate could have used the losses during the consolidated return years.


United States Steel Corp. v. Commissioner, 617 F.2d 942 (2d Cir. 1980)