Global Tax Insights
IRS Mandates Transfer Pricing ReportingSeptember 05, 2017
The Internal Revenue Service (IRS) has increased its scrutiny of multinational enterprises and the way they allocate and report income and expenses among related entities abroad.
The Treasury has mandated that a multinational enterprise (MNE) must comply with its transfer pricing reporting regimen. As the IRS’ rollout process accelerates, they hope that this change will stress the importance of accurately and timely reporting transfer pricing information.
A few helpful definitions...
OECD: The Organization for Economic Cooperation & Development is a group of 34 countries that discuss and develop economic and social policy. OECD members are democratic countries that support free market economies.
Sovereign immunity is a judicial doctrine that prevents the government or its political subdivisions, departments, and agencies from being sued without its consent. As you can imagine, this doctrine is often abused.
BEPS: This is the Base Erosion & Profit Shifting project, which is an initiative set forth by the OECD. It aims to fight tax avoidance strategies that exploit gaps and mismatches in tax rules to artificially shift profits to low or no-tax locations. Over 100 countries and jurisdictions are collaborating to implement BEPS measures to eventually fight BEPS altogether and sovereign immunity abuse.
Country by Country Reporting: This is part of the BEPS project and stipulates that large multinationals have to provide an annual return, called the CbC Report, that breaks down key elements of the financial statements by jurisdiction. Local tax authorities can use this CbC Report to more fully understand a company’s revenue, income, tax paid and accrued and more.
And finally.... what is transfer pricing?
This is the process by which businesses allocate income and expenses among related entities abroad. The OECD issued 15 actions as part of its BEPS Action Plan. Action 13 relates to transfer pricing reporting.
In general, transfer pricing must meet an “arm’s length” standard wherein the prices charged in an intercompany transaction must be similar to those charged by unrelated companies, for the same transaction, under the same circumstances. In other words, parties involved in a transaction are independent and on level playing fields.
Over the years, global tax agencies have gained increased powers to help enforce the arm’s length principle, resulting in stricter penalties, additional documentation, and increased exchange of information between jurisdictions.
But there are still difficulties....
What does the IRS hope the new mandate will accomplish?
Up until now, the IRS has depended on subpart F rules or relied upon foreign-owned U.S. corporation provisions or similar tax information to get needed pricing information. Tax abusers have long created bank secrecy schemes and thus shifted income and assets away from the governments. The U.S. is in the process of implementing its CbC Action 13 obligations. The IRS mandates that reporting entities (those with annual revenues of $850 million or more), must apply the Form 8975 provisions beginning July 1, 2017.
What do MNEs need to do in preparation?
Multinational enterprises need to....
- Prepare and fund their transfer pricing reporting professional costs, in addition to the potentially larger tax costs to governments.
- Prepare a Master File- Under Action 13 of BEPS, the Master file is a business’ comprehensive global overview reflecting overall profitability, business and strategy, and its transfer pricing policies.
- Prepare a Local File- Also under Action 13 of BEPS, the Local file contains specific transfer pricing data for each relevant country of operation.
- Train and update their pricing staff to face the new transfer pricing realities.
Nowadays states are becoming more anxious about intercompany transactions with affiliated companies which allow companies to shift income from high tax states to low or no tax states. Transfer pricing is a complex issue, but with careful planning your business can limit its exposure to an IRS audit and minimize its tax liability.
If you’re interested in learning more about transfer pricing, feel free to contact a member of our Global Tax Services Team.