As we noted in our initial post, the Internal Revenue Service (IRS) began publishing job aids and training materials developed by its International Practice Units (IPUs). On April 6, 2016, the IRS released another IPU on section 482, available here. The most recent IPU covers the three requirements under section 482: (1) two or more organizations, trades or business; (2) common ownership or control (direct or indirect) of the entities; and (3) the determination that an allocation is necessary either to prevent evasion of taxes, or to clearly reflect the income of any of the entities.
The most recent IPU takes a broad view of the application of section 482 and looks at the substance of transactions. Regarding the first requirement, the IPU instructs examiners that organizations can include almost any type of entity and that a trade or business means a trade or business activity of any kind, regardless of place of organization, formal organization, type of ownership (individual or otherwise) and place of operation. On the common control requirement, the IPU emphasizes that the form of control is not decisive and that the reality of control governs. It also notes the presumption of control if income or deductions are arbitrarily shifted. Finally, the reallocation to clearly reflect income requirement notes that an IRS allocation will be upheld unless the taxpayer can provide that the IRS determination was arbitrary and capricious. Moreover, the IPU provides examples of circumstances that indicate the presence of arbitrary shifting of income, including when the net income of the foreign affiliate is high compared to the net income reported by the US company. Of course, it may be appropriate for the foreign affiliate to have higher net income.
The IPU contains instructions on initial factual development of the requirements and provides references to resources that an agent should consult, including internal IRS resources, IRS guidance and case law. It also identifies the types of documents that should be requested and reviewed during the examination.
As demonstrated by the large number of high-profile transfer pricing disputes currently pending in the courts, the IRS is taking a strong stance on the application of section 482. Moreover, as demonstrated by this IPU, the IRS wants examining agents to be aggressive in identifying circumstances where there may be noncompliance with section 482. Taxpayers with transfer pricing issues may benefit from reviewing all IPUs on section 482, both in documenting their transfer pricing activities and upon commencement of an examination to ensure that they have the documentation that the IRS will request.