Rev. Rul. 84-4

1984-1 C.B. 19.

                       Internal Revenue Service
                                 Revenue Ruling

                 INVESTMENT CREDIT; MASTER TAPE SOUND RECORDING

                           Published: January 9, 1984

26 CFR 1.48-1: Election of lessor of new section 38 property to treat lessee as purchaser

(Also Sections 38, 6659; 1.38-1.)

  Investment credit; master tape sound recording.  A taxpayer who acquires a nonexclusive right to use a master tape sound recording is not entitled to claim an investment credit with respect to the master tape sound recording.

ISSUE

  Is a taxpayer entitled to claim the investment tax credit with respect to a master tape sound recording, under the circumstances described below?

FACTS

  In 1981 X, a newly-formed corporation, acquired all right, title, and interest in and to the use of master tape sound recordings of musical performances or songs by various groups.  The rights acquired included those necessary for the preparation and sale of tapes and records made by using the master tape sound recordings.  The rights and the master tape sound recordings for singles were purchased for 160x dollars each, and those for albums were purchased for 250x dollars each.

  In the promotional materials X represented that it would lease the right to use the master tape sound recordings for the production and sale of records or tapes of the musical performance.  Under the purported lease, the use of the master tape sound recording was to be nonexclusive and limited to the United States for a period of 8 years.  The "lease" provides that the lessee is obligated to pay a fixed amount (8x dollars for a single and 16x dollars for an album) and 50 percent of the lessee's net proceeds from the production and sale of the records or tapes, up to a stated maximum amount.

  According to the promotional materials, no tapes or records of the musical production have been released anywhere in the world, and an investment tax credit is available based on the amount paid by X to acquire the use of the master tape sound recording.  X agreed to pass the investment tax credit through to the lessee in accordance with the provisions of section 48(d)(1) of the Internal Revenue Code.  X, however, retained the right to use the master tape sound recording or a duplicate in the production and sale of tapes or records.  X also retained the right to assign nonexclusive rights to other persons.

  A, an individual, entered into an agreement with X whereby X purportedly leased to A the right to use the master tape sound recording in the production and sale of records for one album.  A used the master tape in the process of making records that were sold beginning in 1981.  On A's 1981 federal income tax return, A claimed an investment credit with respect to the master tape sound recording in the amount of 25x dollars (10 percent of 250x dollars).

LAW AND ANALYSIS

  Section 38 of the Code allows a credit against federal income tax for qualified investment in "section 38 property" as defined in section 48. Section 48(a)(1)(A) defines "section 38 property" to include only recovery property or property which is depreciable and has a useful life of 3 years or more.

  Section 48(d)(1) of the Code allows the lessor of certain new "section 38 property" to elect to treat the lessee as having acquired the property of an amount equal to its fair market value at the time of the lease.

  The agreement between X and A, although described as a lease, is in fact a license.  X paid 250x dollars for the rights to the master tape.  X then assigned a nonexclusive license to A to use the master within the United States, and X retained the right to exploit the recording itself both within and without the United States or to assign any rights in the master to a third party.  Thus, it is possible that commercial exploitation of the master can be done simultaneously by a number of people at different locations, foreign and domestic.  The distinction between a lease and license, as traditionally expressed, is that a lease is a conveyance of exclusive possession of specific property, for a term less than that of the grantor.  3 M. Friedman, Friedman on Leases, section 37.1 at 1259 (1978).

  Section 48(d)(1) of the Code allows a lessor to elect to treat the lessee as the purchaser of the property.  This section does not apply to nonexclusive licenses in which the assignor has retained rights to use the property simultaneously and to make additional assignments of those rights to others. Therefore, A cannot claim any investment tax credit pursuant to X's election under section 48(d)(1).

  Further, the facts may demonstrate that the amount on which the investment tax credit was computed exceeds 150 percent of the

fair market value of the master tape sound recording.  In such a situation, A may be subject to the additional tax under section 6659 of the Code equal to a certain percentage of the underpayment of tax attributable to the valuation overstatement.

HOLDING

  A may not claim the investment tax credit with respect to the master tape sound recording.

Rev. Rul. 84-4, 1984-1 C.B. 19.