Coca-Cola and US taxman go to court over $20bn tax bill

Coca-Cola and the US Internal Revenue Service (IRS) will begin oral arguments on Thursday in a Florida court in the latest chapter of a decades-long legal battle over the beverage giant's tax liability on overseas profits. The dispute centers on transfer pricing—the practice of setting prices for transactions between a company's own affiliates—and could leave Coca-Cola facing a tax bill of approximately $20 billion.

The case is being closely watched by corporate circles because the outcome will have implications for how much tax US-based multinational corporations must pay on income generated through their foreign subsidiaries.

What is the case about?

Coca-Cola is appealing a 2020 US Tax Court ruling that upheld the IRS's finding that the company underreported profits from transactions between its foreign subsidiaries. In 2015, the IRS notified Coca-Cola that it owed billions in back taxes after concluding that the company had undercharged its units in Ireland, Brazil, Chile, Mexico, Costa Rica, Egypt and Eswatini (formerly Swaziland).

US multinationals often charge low licensing fees to their overseas units to minimize their reportable income in the US, which has a higher corporate tax rate than many other countries.

The IRS first took Coca-Cola to court in 2015, but the origins of the dispute date back to 1996 when the two sides settled a tax audit for liabilities from 1987 to 1995. Under the pricing formula agreed in that settlement, Coca-Cola's foreign affiliates were allowed to retain a profit equal to 10 percent of their gross sales, with the remaining income split evenly between the US headquarters and the overseas unit.

Coca-Cola argues that it should be allowed to continue using this formula from 1996, while the IRS contends that the terms of that settlement should have no bearing on the company's tax liabilities from audits in 2007, 2008 and 2009.

Coca-Cola agreed to pay the IRS $6 billion in back taxes and interest in 2024 while preparing its appeal but could be liable for up to $14 billion more if the US Court of Appeals for the Eleventh Circuit sides with the government.

Why does the case have broader implications?

The case is significant because it could serve as a template for the US government to raise more tax revenue from large multinational companies with highly profitable overseas operations. The IRS designated this case for litigation specifically to create a template for auditing other US companies with profitable subsidiaries.

Under the administration of former President Joe Biden, the IRS ramped up its tax collection efforts against companies benefiting from transfer pricing arrangements. In recent years, the IRS has taken action against Microsoft ($28.9 billion in back taxes claimed), Airbnb ($1.33 billion), and Newell Brands ($90 million), among others.

The Coca-Cola case is particularly notable because the IRS has historically fared poorly in litigating transfer pricing disputes, losing a string of cases against major corporations such as Bausch & Lomb, US Steel Corp, and Hospital Corp of America. If the appeal is upheld, more companies may choose to settle rather than go to court.