[Code of Federal Regulations]
[Title 26, Volume 11]
[Revised as of April 1, 2004]
From the U.S. Government Printing Office via GPO Access
[CITE: 26CFR1.1235-1]

[Page 317-318]
 
                       TITLE 26--INTERNAL REVENUE
 
    CHAPTER I--INTERNAL REVENUE SERVICE, DEPARTMENT OF THE TREASURY 
                               (CONTINUED)
 
PART 1_INCOME TAXES--Table of Contents
 
Sec. 1.1235-1  Sale or exchange of patents.

    (a) General rule. Section 1235 provides that a transfer (other than 
by gift, inheritance, or devise) of all substantial rights to a patent, 
or of an undivided interest in all such rights to a patent, by a holder 
to a person other than a related person constitutes the sale or exchange 
of a capital asset held for more than 1 year (6 months for taxable years 
beginning before 1977; 9 months for taxable years beginning in 1977), 
whether or not payments therefor are:
    (1) Payable periodically over a period generally coterminous with 
the transferee's use of the patent, or
    (2) Contingent on the productivity, use, or disposition of the 
property transferred.
    (b) Scope of section 1235. If a transfer is not one described in 
paragraph (a) of this section, section 1235 shall be disregarded in 
determining whether or not such transfer is the sale or exchange of a 
capital asset. For example, a transfer by a person other than a holder 
or a transfer by a holder to a related person is not governed by section 
1235. The tax consequences of such transfers shall be determined under 
other provisions of the internal revenue laws.
    (c) Special rules--(1) Payments for infringement. If section 1235 
applies to the transfer of all substantial rights to a patent (or an 
undivided interest therein), amounts received in settlement of, or as 
the award of damages in, a suit for compensatory damages for 
infringement of the patent shall be considered payments attributable to 
a transfer to which section 1235 applies to the extent that such amounts 
relate to the interest transferred. For taxable years beginning before 
January 1, 1964, see section 1304, as in effect before such date, and 
Sec. 1.1304A-1 for treatment of compensatory damages for patent 
infringement.
    (2) Payments to an employee. Payments received by an employee as 
compensation for services rendered as an employee under an employment 
contract requiring the employee to transfer to the employer the rights 
to any invention by such employee are not attributable to a transfer to 
which section 1235 applies. However, whether payments received by an 
employee from his employer (under an employment contract or otherwise) 
are attributable to the transfer by the employee of all substantial 
rights to a patent (or an undivided interest therein) or are 
compensation for services rendered the employer by the employee is a 
question of fact. In determining which is the case, consideration shall 
be given not only to all the facts and circumstances of the employment 
relationship but also to whether the amount of such payments depends 
upon the production, sale, or use by, or the value to, the employer of 
the patent rights transferred by the employee. If it is determined that 
payments are attributable to the transfer of patent rights, and all 
other requirements under section 1235 are met, such payments shall be 
treated as proceeds derived from the sale of a patent.

[[Page 318]]

    (3) Successive transfers. The applicability of section 1235 to 
transfers of undivided interest in patents, or to successive transfers 
of such rights, shall be determined separately with respect to each 
transfer. For example, X, who is a holder, and Y, who is not a holder, 
transfer their respective two-thirds and one-third undivided interests 
in a patent to Z. Assume the transfer by X qualifies under section 1235 
and that X in a later transfer acquires all the rights with respect to 
Y's interest, including the rights to payments from Z. One-third of all 
the payments thereafter received by X from Z are not attributable to a 
transfer to which section 1235 applies.
    (d) Payor's treatment of payments in a transfer under section 1235. 
Payments made by the transferee of patent rights pursuant to a transfer 
satisfying the requirements of section 1235 are payments of the purchase 
price for the patent rights and are not the payment of royalties.
    (e) Effective date. Amounts received or accrued, and payments made 
or accrued, during any taxable year beginning after December 31, 1953 
and ending after August 16, 1954, pursuant to a transfer satisfying the 
requirements of section 1235, whether such transfer occurred in a 
taxable year to which the Internal Revenue Code of 1954 applies, or in a 
year prior thereto, are subject to the provisions of section 1235.
    (f) Nonresident aliens. For the special rule relating to nonresident 
aliens who have gains arising from a transfer to which section 1235 
applies, see section 871 and the regulations thereunder. For withholding 
of tax from income of nonresident aliens, see section 1441 and the 
regulations thereunder.

[T.D. 6500, 25 FR 12014, Nov. 26, 1960, as amended by T.D. 6885, 31 FR 
7803, June 2, 1966; T.D. 7728, 45 FR 72650, Nov. 3, 1980]