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Illinois parts-maker fights U.S. IRS over cross-border tax deal

By Patrick Temple-West

WASHINGTON, June 9 (Reuters) - The U.S. Internal Revenue Service and manufacturer Illinois Tool Works Inc are battling in U.S. Tax Court over a $356.8 million dispute that highlights a type of cross-border tax avoidance strategy facing increased scrutiny worldwide.

As governments crack down on tax-driven profit-shifting, the IRS is asserting that a loan used by Illinois Tool to bring foreign cash from a Bermuda-based subsidiary into the United States was not a tax-free transaction.

Instead, the IRS argues that the transaction was a repatriation of foreign profits equivalent to a taxable dividend-style distribution.

A victory for the IRS in the case would jeopardize similar transactions undertaken on a tax-free basis, tax lawyers say.

"This is foreign tax planning 101 ... Every Fortune 500 company in America that is multinational does this," said Jasper Cummings, a tax lawyer for Alston & Bird LLP, who reviewed the case for Reuters.

"If the IRS wins this, it will be a hell of a win," he said.

The Glenview, Illinois-based diversified manufacturer, which makes everything from vehicle parts to food service equipment to arc welding tools, filed its Tax Court petition last month, challenging the tax agency's position.

Illinois Tool said it could owe $70 million if it loses the case, according to a May regulatory filing. No trial date has been scheduled.

Both the company and the IRS declined to comment on Friday.

In 2006, Illinois Tool needed cash in the United States to retire outstanding commercial paper and fund acquisitions, according to the company's court filing.

The filing said Illinois Tool decided to repatriate cash from its roughly $6.4 billion of earnings held overseas.

The company structured the transaction as a loan, with a maturity date and a fixed interest rate. But in 2010 the IRS recharacterized the loan as a taxable dividend, the filing said.

The case comes amid growing scrutiny of international corporate tax issues. An anti-tax avoidance project is under way at the Organization for Economic Co-operation and Development. Known as the Base Erosion and Profit Shifting (BEPS) project, the effort calls for revising tax treaties, tightening rules and increasing government tax information sharing.

The OECD is expected to make BEPS recommendations to the Group of 20 economies by the end of next year.

"Repatriation is becoming an increasingly significant issue," said Miriam Fisher, co-chair of the tax controversy practice at law firm Latham & Watkins LLP.

"It will be the subject of coming litigation and this case certainly brings the issue to the forefront," she said.

The case is Illinois Tool Works Inc & Subsidiaries v. Commissioner of Internal Revenue; Docket No. 010418-14.

(Reporting by Patrick Temple-West; Editing by Kevin Drawbaugh and Dan Grebler)