Transfer Pricing: Federal Regulations and International Guidelines

How can taxpayers avoid transfer pricing penalties under § 6662?

Taxpayers can generally avoid incurring a penalty with respect to a transfer pricing adjustment if:

• the taxpayer established that the transfer price was determined in accordance with a specified method under the Section 482 regulations and the taxpayer’s use of the method is reasonable;
• the taxpayer has documentation which sets out the determination of the transfer price in accordance with such method and that its use of the method was reasonable; and
• the documentation is contemporaneous to the time that the return was filed and is provided to the IRS within 30 days of its request.
• the taxpayer determined its transfer price using:
  • a specified method under the regulations (the use of which was reasonable); or
  • an unspecified method when none of the specified methods was likely to result in a price that clearly reflected income and the method used was likely to result in a price that clearly reflected income
• the taxpayer has documentation (in existence when its return was filed) establishing its use of the particular transfer pricing method and that the use of that method was reasonable; and
• the documentation is provided to the IRS within 30 days of request.

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This portfolio is foundation of Bloomberg Tax’s Transfer Pricing Portfolio Series. It covers the evolution of §482, analyzes its regulations, and reviews related case law.

What are some examples of transfer pricing disputes?

High-profile disputes between three major companies and the IRS made recent headlines: Coca-Cola, Altera, Facebook, and Medtronic.

Coca-Cola

A U.S. Tax Court ruled that Coca-Cola Co. must pay most of a $3.4 billion additional tab ordered by the IRS for attributing too much profit to foreign affiliates.

The Tax Court’s decision Wednesday upheld the IRS’s method for reallocating profits between Coca-Cola and affiliates that made and sold ingredients for the company’s soft drinks. The ruling pertained to the company’s taxable income between 2007 and 2009.

Altera

In 2020 the U.S. Supreme Court announced that it would not review the Ninth Circuit 2019 decision in the semiconductor manufacturer Altera Corp. case. That decision required the cost of employee stock-based compensation (“SBC”) to be included in the pool of intangible development costs (“IDC”) under cost sharing arrangements (“CSA”). This decision has had important implications for companies where their SBC costs were excluded from IDC under a CSA.

Medtronic

The Medtronic case centers on the company’s allocation of profits for tax purposes between its U.S. parent company, U.S. distributor, and Puerto Rican device manufacturer. While the IRS argued that the company owed nearly $1.4 billion in taxes, the U.S. Tax Court found in a 2016 opinion that it had underpaid by just about $14 million. In 2018, though, the U.S. Court of Appeals for the Eighth Circuit sent the case back, ordering the Tax Court to make numerous additional findings.

Facebook

The tech giant is challenging a $1.73 million tax bill for 2010 that hinges on the value of intangible assets, such as trademarks and copyrights, that it transferred to an Irish subsidiary. The IRS claims that these assets are worth $13.8 billion—more than twice as much as Facebook’s $6.5 billion valuation. The company said in a January 10-K filing that as much as $9 billion plus interest and penalties could be on the line because the IRS’s position could apply to its subsequent tax years.

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