Areas of Scrutiny in US Transfer Pricing Audits

Transfer pricing audits are an integral part of tax audits for multinational corporations that have a complex web of intercompany transactions with affiliates in different countries. Transfer pricing refers to the prices charged for goods, services, or intellectual property between different entities within the same corporate group. As per IRS regulations, these prices must be consistent with the arm's length principle, which is a requirement that prices should be comparable to those charged in similar transactions between unrelated parties.

The IRS has considerable resources available to enable it to carry out audits and scrutinize transfer pricing matters. The risk of transfer pricing scrutiny during an audit is high, and the IRS has agents who are specially trained in economic analysis to ensure compliance with transfer pricing regulations. A taxpayer’s return will be selected for audit either by random selection or because the size of the taxpayer’s business means that it will be subject to regular tax audits.

To facilitate transfer pricing audits, the IRS has issued a Transfer Pricing Examination Process (TPEP) in 2018, which outlines guidance for tax auditors on the procedures to be followed in the planning, execution, and resolution of transfer pricing audits. The TPEP replaces the Transfer Pricing Audit Roadmap issued in 2014.

The TPEP emphasizes the importance of early collection of facts, a working hypothesis, collaboration between team members of different disciplines, and relevant discussions with the taxpayer during the audit. It is intended to be shared with taxpayers when a transfer pricing audit begins. The TPEP contains material relevant to Country-by-Country (CbC) reporting, instructions on the Initial Transfer Pricing Documentation Information Document Request, and information on Practice Units.

Country-by-Country (CbC) reporting requires multinational corporations to provide information to tax authorities on their income, taxes paid, and other indicators of economic activity for each country where they have affiliates. This reporting allows tax authorities to assess whether the profits declared by the corporation in each country are consistent with the economic activity carried out in that country.

The Initial Transfer Pricing Documentation Information Document Request is a document that outlines the information required by the IRS at the beginning of a transfer pricing audit. This document provides guidance to taxpayers on what documentation they need to provide to comply with transfer pricing regulations.

Practice Units are guidance materials prepared by the IRS for its agents, which provide detailed information on specific industries, issues, or transactions. These units provide guidance to auditors on how to approach transfer pricing issues in different contexts.

In conclusion, multinational corporations should be aware of the IRS's extensive resources and regulations regarding transfer pricing. Compliance with transfer pricing regulations is critical to avoid the risk of transfer pricing scrutiny during audits. The TPEP provides guidance to tax auditors on the procedures to be followed in transfer pricing audits, and taxpayers should be familiar with the TPEP, CbC reporting requirements, and the Initial Transfer Pricing Documentation Information Document Request. Practice Units can also provide guidance to taxpayers on specific transfer pricing issues relevant to their industry or transaction.