The IRS has issued new field audit guidance for transfer pricing audits that may affect both US and foreign-owned companies with cross-border transactions. This Transfer Pricing Examination Process (TPEP) replaces the IRS’ Transfer Pricing Audit Roadmap released in February 2014. Most of the document incorporates changes in IRS LB&I audit procedures since 2014.
These changes are helpful for taxpayers in that the audit strategy approach is more focused on identifying high-risk tax issues. On occasion, companies with few tax dollars at risk faced the same questions as multinationals with significant exposures. Furthermore, for companies with transfer pricing documentation, tax auditors have less discretion to dismiss a taxpayer’s transfer pricing analysis approach.
For companies facing transfer pricing questions in their next audit cycle, this new process can be found on the IRS site:
Key Changes under the Transfer Pricing Examination Process
- Auditors are not required to request transfer pricing documentation unless deemed a concern during the risk assessment phase. If an auditor asks for documentation, a taxpayer can anticipate that a transfer pricing issue was identified as a risk.
- Practically speaking, if the IRS decides to request TP documentation, they already have some theories on how transfer pricing should work. As an example, one standard approach is that foreign-owned subsidiaries should earn a certain level of profit over time.
- IRS auditors are now obliged to consider and evaluate the economic analysis included in a taxpayer’s documentation, rather than disregarding a taxpayer’s approach without review. A field auditor is now required to request managerial approval to apply another approach.
- Consequently, an organization that proactively prepares a transfer pricing study limits the IRS’ freedom to apply a one-size-fits-all analysis during an audit.
- The handbook includes both two and three-year sample audit timelines. The common understanding is that transfer pricing audits are extending beyond their previously stated goal of two years.
The new Transfer Pricing Examination Process represents a more pragmatic approach for the IRS in auditing multinational companies. While fewer companies may be selected for audit, multinationals selected can expect a thorough review of documentation. Companies that proactively prepare transfer pricing documentation reduce the risk of the IRS of adjustments.
For more information about these and other transfer pricing topics, contact Clayton & McKervey.