A recent article by PWC transfer pricing experts points to more and better-informed IRS scrutiny.
In an article appearing in the July/August edition of Corporate Taxation, PricewaterhouseCoopers tax experts Gregory Ossi and Mike Sheppard outline efforts underway at the IRS to improve its capabilities to challenge multinationals’ transfer pricing practices. As International Treasurer has also noted, increased scrutiny of transfer pricing is a global trend that is only picking up steam as tax authorities search for new sources of revenue.
Aware of this, many treasury groups are already reviewing intercompany loan rates along with other, more tax-driven transactions. However, Messrs Ossi and Sheppard point out how the IRS effort has been hampered in recent years due to the significant number of retirements of international examiners, technical advisers and IRS counsel personnel with experience in the transfer pricing area. As a result the IRS has not been able to keep pace with the expertise employed by accounting and law firms, along with the tax departments of leading multinationals themselves. This is about to change.
A specialist practice effort
“Every indication is that the IRS has a strong commitment in this area and a desire to overcome the challenges raised by staff attrition,” the PWC tax experts note in their article. For starters, the IRS is mimicking professional service firms by creating a transfer pricing specialization practice within its Large and Mid-Size Business Division (LMSB) responsible for transfer pricing enforcement. This practice will be staffed with true transfer pricing specialists. “Unlike the current transfer pricing technical advisors who provide ‘advice’ to the field international examiner, the issue specialists will be responsible for actually developing the transfer pricing issues on the cases to which they are assigned,” according to the PWC professionals.
In addition to having experts in the field, the IRS will also be establishing a “national office” of transfer pricing experts to provide coordination on transfer pricing initiatives on a strategic level. At the executive level will be a Transfer Pricing Council to determine key operational, resource and training approaches, provide guidance and information and develop and implement subsequent transfer pricing initiatives. Education and knowledge sharing are being emphasized as well with a Transfer Pricing Center internet site, to help meet the Council’s goal that all field examiners have what they need “to identify, develop and resolve transfer pricing issues successfully.”
According to the PWC tax pros, this new transfer pricing group is a key component of a multi-year international tax compliance initiative being rolled out by the IRS. Given its prominence, taxpayers should expect more and more expert scrutiny as the specialist group seeks to justify its existence and budget. Taxpayers should also note that the transfer pricing specialists will be backed by an additional 60 economists being hired into the LMBS (for a total of 120) , who will be available to help determine the arm’s length nature of transfer pricing along with the economic substance of transactions.
How to respond
With the IRS seemingly determined to turn every field examiner into a transfer pricing abuse sleuth, multinationals should consider redoubling already heightened efforts to conduct risk analysis of cross-border transactions. Any at-risk transactions should have additional documentation prepared in anticipation of an IRS challenge. Indeed, the PWC professionals recommend thicker “defense files” for use in potential examinations as a matter of course (better to start collecting data as it comes in rather than scrambling to recreate it later).
Further, the implication in facing better experts is that what the tax department might have convinced an IRS examiner was kosher before becomes increasingly less likely now. Indeed, more expert examiners will be reviewing pricing related information from past information document requests and revisiting past offenses where penalties were not assessed.
Going forward, the PWC professionals also advise taxpayers to consider pursuing advanced pricing agreements or participating in the Compliance Assurance Program, where IRS examinations are conducted in real time before a return is filed. Both can be effective in reducing tax risk.