TRANSFER PRICING ANSWER BOOK Edition

Transcription

1 TRANSFER PRICING ANSWER BOOK 2018 Edition

2 PLI S COMPLETE LIBRARY OF TREATISE TITLES ART LAW Art Law: The Guide for Collectors, Investors, Dealers & Artists BANKING & COMMERCIAL LAW Asset-Based Lending: A Practical Guide to Secured Financing Equipment Leasing Leveraged Leasing Hillman on Commercial Loan Documentation Hillman on Documenting Secured Transactions: Effective Drafting and Litigation Maritime Law Answer Book BANKRUPTCY LAW Bankruptcy Deskbook Personal Bankruptcy Answer Book BUSINESS, CORPORATE & SECURITIES LAW Accountants Liability Anti-Money Laundering: A Practical Guide to Law and Compliance Antitrust Law Answer Book Broker-Dealer Regulation Conducting Due Diligence in a Securities Offering Consumer Financial Services Answer Book Corporate Compliance Answer Book Corporate Legal Departments: Practicing Law in a Corporation Corporate Political Activities Deskbook Corporate Whistleblowing in the Sarbanes-Oxley/Dodd-Frank Era Covered Bonds Handbook Cybersecurity: A Practical Guide to the Law of Cyber Risk Derivatives Deskbook: Close-Out Netting, Risk Mitigation, Litigation Deskbook on Internal Investigations, Corporate Compliance, and White Collar Issues Directors and Officers Liability: Current Law, Recent Developments, Emerging Issues Doing Business Under the Foreign Corrupt Practices Act EPA Compliance and Enforcement Answer Book Exempt and Hybrid Securities Offerings Fashion Law and Business: Brands & Retailers Financial Institutions Answer Book: Law, Governance, Compliance Financial Product Fundamentals: Law, Business, Compliance Financial Services Mediation Answer Book Financial Services Regulation Deskbook Financially Distressed Companies Answer Book Global Business Fraud and the Law: Preventing and Remedying Fraud and Corruption Hedge Fund Regulation Initial Public Offerings: A Practical Guide to Going Public Insider Trading Law and Compliance Answer Book Insurance and Investment Management M&A Deskbook International Corporate Practice: A Practitioner s Guide to Global Success Investment Adviser Regulation: A Step-by-Step Guide to Compliance and the Law Life at the Center: Reflections on Fifty Years of Securities Regulation Mergers, Acquisitions and Tender Offers: Law and Strategies Mutual Funds and Exchange Traded Funds Regulation Outsourcing: A Practical Guide to Law and Business Privacy Law Answer Book Private Equity Funds: Formation and Operation Proskauer on Privacy: A Guide to Privacy and Data Security Law in the Information Age Public Company Deskbook: Complying with Federal Governance & Disclosure Requirements SEC Compliance and Enforcement Answer Book Securities Investigations: Internal, Civil and Criminal

3 Securities Law and Practice Deskbook The Securities Law of Public Finance Securities Litigation: A Practitioner s Guide Social Media and the Law Soderquist on Corporate Law and Practice Sovereign Wealth Funds: A Legal, Tax and Economic Perspective A Starter Guide to Doing Business in the United States Technology Transactions: A Practical Guide to Drafting and Negotiating Commercial Agreements Variable Annuities and Variable Life Insurance Regulation COMMUNICATIONS LAW Advertising and Commercial Speech: A First Amendment Guide Sack on Defamation: Libel, Slander, and Related Problems Telecommunications Law Answer Book EMPLOYMENT LAW Employment Law Yearbook ERISA Benefits Litigation Answer Book Labor Management Law Answer Book ESTATE PLANNING AND ELDER LAW Blattmachr on Income Taxation of Estates and Trusts Estate Planning & Chapter 14: Understanding the Special Valuation Rules International Tax & Estate Planning: A Practical Guide for Multinational Investors Manning on Estate Planning New York Elder Law Stocker on Drawing Wills and Trusts HEALTH LAW FDA Deskbook: A Compliance and Enforcement Guide Health Care Litigation and Risk Management Answer Book Health Care Mergers and Acquisitions Answer Book Medical Devices Law and Regulation Answer Book Pharmaceutical Compliance and Enforcement Answer Book IMMIGRATION LAW Fragomen on Immigration Fundamentals: A Guide to Law and Practice INSURANCE LAW Business Liability Insurance Answer Book Insurance Regulation Answer Book Reinsurance Law INTELLECTUAL PROPERTY LAW Copyright Law: A Practitioner s Guide Faber on Mechanics of Patent Claim Drafting Federal Circuit Yearbook: Patent Law Developments in the Federal Circuit How to Write a Patent Application Intellectual Property Law Answer Book Kane on Trademark Law: A Practitioner s Guide Likelihood of Confusion in Trademark Law Patent Claim Construction and Markman Hearings Patent Law: A Practitioner s Guide Patent Licensing and Selling: Strategy, Negotiation, Forms Patent Litigation Pharmaceutical and Biotech Patent Law Post-Grant Proceedings Before the Patent Trial and Appeal Board Substantial Similarity in Copyright Law Trade Secrets: A Practitioner s Guide

4 LITIGATION American Arbitration: Principles and Practice Class Actions and Mass Torts Answer Book Electronic Discovery Deskbook Essential Trial Evidence: Brought to Life by Famous Trials, Films, and Fiction Expert Witness Answer Book Evidence in Negligence Cases Federal Bail and Detention Handbook How to Handle an Appeal Medical Malpractice: Discovery and Trial Product Liability Litigation: Current Law, Strategies and Best Practices Sinclair on Federal Civil Practice Trial Handbook REAL ESTATE LAW Commercial Ground Leases Friedman on Contracts and Conveyances of Real Property Friedman on Leases Holtzschue on Real Estate Contracts and Closings: A Step-by-Step Guide to Buying and Selling Real Estate Net Leases and Sale-Leasebacks TAX LAW The Circular 230 Deskbook: Related Penalties, Reportable Transactions, Working Forms The Corporate Tax Practice Series: Strategies for Acquisitions, Dispositions, Spin-Offs, Joint Ventures, Financings, Reorganizations & Restructurings Foreign Account Tax Compliance Act Answer Book Internal Revenue Service Practice and Procedure Deskbook International Tax & Estate Planning: A Practical Guide for Multinational Investors International Tax Controversies: A Practical Guide International Trade Law Answer Book: U.S. Customs Laws and Regulations Langer on Practical International Tax Planning The Partnership Tax Practice Series: Planning for Domestic and Foreign Partnerships, LLCs, Joint Ventures & Other Strategic Alliances Private Clients Legal & Tax Planning Answer Book Transfer Pricing Answer Book GENERAL PRACTICE PAPERBACKS Anatomy of a Mediation: A Dealmaker s Distinctive Approach to Resolving Dollar Disputes and Other Commercial Conflicts Attorney-Client Privilege Answer Book Drafting for Corporate Finance: Concepts, Deals, and Documents Pro Bono Service by In-House Counsel: Strategies and Perspectives Smart Negotiating: How to Make Good Deals in the Real World Thinking Like a Writer: A Lawyer s Guide to Effective Writing & Editing Working with Contracts: What Law School Doesn t Teach You Order now at Or call (800) Mon. Fri., 9 a.m. 6 p.m. Practising Law Institute 1177 Avenue of the Americas New York, NY When ordering, please use Priority Code NWS9-X.

5 TRANSFER PRICING ANSWER BOOK 2018 Edition Edited by David B. Blair Crowell & Moring LLP Practising Law Institute New York City #236211

6 This work is designed to provide practical and useful information on the subject matter covered. However, it is sold with the understanding that neither the publisher nor the author is engaged in rendering legal, accounting, or other professional services. If legal advice or other expert assistance is required, the services of a competent professional should be sought. QUESTIONS ABOUT THIS BOOK? If you have questions about billing or shipments, or would like information on our other products, please contact our customer service department at info@pli.edu or at (800) 260-4PLI. For any other questions or suggestions about this book, contact PLI s editorial department at: plipress@pli.edu. For general information about Practising Law Institute, please visit Legal Editor: Kelliann Kavanagh Copyright 2012, 2013, 2014, 2015, 2016, 2017, 2018 by Practising Law Institute. All rights reserved. Printed in the United States of America. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of Practising Law Institute. LCCN: ISBN:

7 About the Editor David B. Blair is a partner in the Washington, D.C. office of Crowell & Moring LLP and Chair of the firm s tax group. His legal practice is in the area of federal income tax with a concentration on tax controversies and litigation. Mr. Blair regularly represents multinational businesses in court and before the Internal Revenue Service, including IRS Appeals and the IRS s Advance Pricing and Mutual Agreement program. Mr. Blair has led or been a member of the litigation teams for a number of significant tax cases involving multinational enterprises, including transfer pricing cases. In addition to litigation, Mr. Blair has significant experience in resolving high-stakes tax controversies through alternative dispute resolution processes. Mr. Blair is an active member and former Chair of the Tax Section of the Federal Bar Association. He is a member of the ABA Section of Taxation, and a Fellow of the American Bar Foundation. From 2005 to 2007, Mr. Blair served as an Adjunct Professor of tax at the Georgetown University Law Center. He frequently speaks on a variety of tax issues and is active in the J. Edgar Murdoch Inns of Court hosted by the U.S. Tax Court. From , Mr. Blair was a Trial Attorney with the U.S. Department of Justice, Tax Division. He also served as a Law Clerk for the Hon. Frank M. Johnson, Jr. of the U.S. Court of Appeals for the Eleventh Circuit. Mr. Blair received his law degree in 1989 from Cornell Law School (magna cum laude) and his undergraduate degree in 1985 from Georgetown University. vii

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9 About the Contributors George M. Clarke, III is a member with the law firm Baker & McKenzie in Washington, D.C. He practices in the areas of white collar, internal investigations, and tax, and focuses on the defense of civil and criminal tax matters (including voluntary disclosure). Other elements of his practice include civil tax litigation and the defense of non-tax federal criminal matters, including allegations of impropriety under the Foreign Corrupt Practices Act (FCPA) and other criminal laws of the United States. Mr. Clarke has substantial experience advising clients on the defense of foreign tax and non-tax criminal investigations and the effect those investigations have in the United States (particularly with respect to U.S. tax liability accrual provisions such as FIN 48). He has advised and defended clients in matters involving a variety of issues, including criminal tax fraud, summons enforcement and privileges, criminal immigration violations, the Tax Equity and Fiscal Responsibility Act (TEFRA) partnership provisions, Pasquantino wire fraud matters, foreign and other tax credits, extradition, the FCPA, intercompany pricing, class actions, federal excise tax, terrorism law, and military law. Mr. Clarke has published numerous articles in national publications such as The International Lawyer, The Tax Executive, The Bureau of National Affairs, and World Corporate Finance Review. He is a Certified Public Accountant (inactive) and, prior to becoming a lawyer, served as an enlisted infantryman in the U.S. Marine Corps. Jay L. Eizenstat is Director of Investment Funding and Global Programs at Mars. He is expert in the areas of U.S. and WTO trade law and policy; import customs compliance; market access and trade liberalization initiatives; and disputes arising under the WTO Agreements. He has considerable expertise on rules of origin and customs valuation. Prior to joining Mars, Mr. Eizenstat was a partner at the law firm McDermott, Will & Emery, and Of Counsel at Miller & Chevalier, where he focused on trade and customs matters. Mr. Eizenstat served as Director for Customs Affairs in the Office of the U.S. Trade Representative ( ). In that capacity, he was responsible for global customs ix

10 Transfer Pricing Answer Book 2018 policy, customs-related market access disputes and served as a lead negotiator during eight free trade agreement negotiations. Mr. Eizenstat is on the Board of the Customs and International Trade Bar Association, a member of the Steering Committee of the Joint Industry Group, and is on the Trade and Customs Committees of the American Association of Exporters and Importers. He frequently speaks publicly on trade law and policy, and customs topics in Washington, D.C. and in foreign capitals. David M. Ernick is a Principal in the Transfer Pricing group of PricewaterhouseCooper s Washington National Tax Services Practice. Prior to joining PwC, Mr. Ernick was Associate International Tax Counsel at the U.S. Treasury Department. While at Treasury from , his responsibilities included negotiating tax treaties and trade agreements, drafting regulatory guidance, and advising on legislative matters. He also represented the United States as a delegate to the OECD Working Party No. 6 on Transfer Pricing, and served as the Chair of its Special Session on Business Restructurings. Mr. Ernick was the principal staff attorney for transfer pricing matters at Treasury, and advised on every significant guidance project in this area released by Treasury and the OECD in the past nine years. Prior to joining Treasury, Mr. Ernick practiced as a tax associate at Cravath, Swaine & Moore in New York and at Wilmer, Cutler & Pickering in Washington. He has clerked at the U.S. Tax Court and the U.S. Court of Appeals for the Eleventh Circuit. He currently serves as an adjunct professor and teaches a course on transfer pricing in the Graduate Tax Program at Georgetown University Law Center. Rocco V. Femia is a member with the law firm Miller & Chevalier Chartered in Washington, D.C. He represents large, multinational corporate clients in high-stakes U.S. international tax policy, planning, and controversy matters. Over his twenty-plus years in practice, Mr. Femia has assisted large multinational clients in evaluating and minimizing the tax costs of international business operations and investments and in resolving U.S. and international tax disputes. Mr. Femia is a former official at the U.S. Department of the Treasury and delegate to the OECD, and brings this perspective to bear in advising clients. Mr. Femia was named one of the country s leading practitioners x

11 About the Contributors in the field of taxation by Chambers USA: America s Leading Lawyers for Business in 2010 and 2011, and one of The Best Lawyers in America from 2009 to Mr. Femia is a former Associate International Tax Counsel at the U.S. Department of the Treasury, Office of Tax Policy. While at the Treasury from 2000 to 2004, Mr. Femia had responsibility for a broad spectrum of U.S. tax treaty and international tax regulatory and legislative matters. He was the principal staff lawyer involved in the negotiation of the 2003 U.S. Japan Tax Treaty, and had responsibility for regulatory and other guidance, including seminal transfer pricing guidance related to services transactions and the transfer of intangibles. He advised senior officials on pending legislation regarding U.S. international taxation, including significant legislation in 2003 and Mr. Femia also represented the interests of the United States in international organizations, including the OECD s Committee on Fiscal Affairs and Global Forum. Mr. Femia is a former Adjunct Professor at the Georgetown University Law Center. He is a member of the International Fiscal Association, the American Bar Association, and the D.C. Bar Association. David J. Fischer is a partner in the tax group of the law firm Crowell & Moring LLP, resident in their Washington, D.C. office. He practices in the area of federal taxation with an emphasis on tax controversy and tax litigation. He has represented public companies in transfer pricing disputes before the Internal Revenue Service, IRS Appeals, Competent Authority, and in court since 1986, including cost sharing buy-in disputes and transfer pricing for intangibles, tangible goods, and services. He has recently settled a number of cost sharing cases for high-technology companies, including a case formerly designated for litigation by the IRS. He has handled cases in all of the IRS dispute resolution programs, coordinated and project litigation, has defended IRS summonses and requests for foreign documentation, and has obtained protective orders against discovery. Mr. Fischer is an active member of the Court Practice and Procedure Committee of the American Bar Association, Section on Taxation, and is a regular public speaker on tax procedure and transfer pricing xi

12 Transfer Pricing Answer Book 2018 topics. He was an original co-author of the Examination and Appeals Chapter of A Practical Guide to U.S. Transfer Pricing, Aspen Publishers, Inc. (1999). He is listed for tax controversy in the Legal 500 ( ) and is a 2013 D.C. Superlawyer. Kevin L. Kenworthy is a member of the law firm Miller & Chevalier Chartered in Washington, D.C. He practices in the area of federal income taxation with an emphasis on tax litigation and other tax controversy matters. Over his twenty-five-plus years in practice, Mr. Kenworthy has represented large multinational clients in a variety of disputes before the courts and the Internal Revenue Service. He has led or been a member of the firm s successful litigating teams for many significant tax cases during this time. In addition to litigating matters, Mr. Kenworthy regularly represents clients in the administrative phase of disputes with the IRS, including Appeals and other alternative dispute resolution procedures. Mr. Kenworthy is active in the American Bar Association s Section of Taxation and is a former Chair of the Court Procedure and Practice Committee. He frequently speaks publicly on a variety of tax topics. Mr. Kenworthy has been ranked in Chambers USA and is active in the J. Edgar Murdoch Inns of Court hosted by the U.S. Tax Court. He served as a Law Clerk to the Hon. William A. Goffe, Judge of the U.S. Tax Court, before joining Miller & Chevalier in Megan McLaughlin Kirmil is an attorney with the IRS Office of Chief Counsel (Income Tax and Accounting). Previously, she was a member of Ernst & Young LLP s Federal Tax Services group in the National Tax Department. Prior to joining Ernst & Young, Ms. Kirmil was counsel with Miller & Chevalier. She received a B.A. from the University of North Carolina at Chapel Hill and a J.D. from the University of Virginia School of Law. She is an attorney, licensed in the District of Columbia, and is a member of the American Bar Association Tax Section. While attending the University of Virginia School of Law, Ms. Kirmil was Articles Review Editor for the Virginia Tax Review. xii

13 About the Contributors Kathryn Morrison Sneade is of counsel with the law firm Miller & Chevalier Chartered in Washington, D.C. She practices in a broad range of federal income tax issues, with a focus on international tax issues, including transfer pricing. Ms. Morrison Sneade has experience in advising clients on the U.S. federal income tax consequences of international and domestic transactions, representing clients before the APMA program in obtaining Advance Pricing Agreements and Competent Authority assistance, representing clients before the IRS National Office in obtaining favorable private letter rulings, and resolving federal income tax controversies through traditional channels and alternative dispute resolution programs. Ms. Morrison Sneade was named a John S. Nolan Fellow by the ABA Section of Taxation in She is a member of the ABA Section of Taxation, Vice-Chair of the ABA Section of Taxation Young Lawyers Forum, and Associate Editor of the ABA Section of Taxation News Quarterly. Ms. Morrison Sneade received her J.D. and B.A. (with highest distinction) from the University of Virginia, where she was an Echols Scholar. Howard M. Weinman is a retired partner from the law firm Crowell & Moring LLP in Washington, D.C. His practice focused on IRS tax audits and appeals affecting large corporate taxpayers. Prior to joining Crowell & Moring, Mr. Weinman was a legislation attorney on the staff of the Joint Committee on Taxation of the U.S. Congress specializing in international taxation. Mr. Weinman has lectured and written extensively on federal tax issues. His articles have appeared in Tax Management International Journal, The Journal of Taxation, The Journal of Tax Practice & Procedure and Taxes. He previously taught international tax as an adjunct professor at Georgetown University Law Center. Mr. Weinman received a B.A. magna cum laude from Columbia University, a Master in Public Policy from the Kennedy School of Government, a J.D. cum laude from Harvard Law School, and an LL.M. (Taxation) with highest honors from George Washington University Law School. xiii

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15 Table of Chapters Chapter 1 Chapter 2 Chapter 3 Chapter 4 Chapter 5 Chapter 6 Chapter 7 Chapter 8 Chapter 9 Chapter 10 Chapter 11 Chapter 12 Chapter 13 Chapter 14 Chapter 15 Chapter 16 The Transfer Pricing Challenge The Players: The IRS and Foreign Tax Authorities, the OECD, and the Tax Treaty Network The U.S. Legal Framework Conducting a Transfer Pricing Analysis Overview of Transfer Pricing Methodologies: The Best Method Rule, Transaction-Based Methods, and Profit-Based Methods Identification of Controlled Transactions Recordkeeping and Reporting Obligations for U.S. Taxpayers and Their Foreign Affiliates Penalties for Transfer Pricing Adjustments and Contemporaneous Documentation Requirements Transfer Pricing Planning and Taxpayers Affirmative Use of Section 482 Manufacturing and Distribution of Goods Provision of Services Intangible Property: Discussion of Issues Arising from the Development and Transfer of Intangible Property, Including Licensing, Contract R&D, and Cost Sharing Models Cost Sharing Arrangements, Including Their Interrelationship with Intangibles Transfers Loans and Rentals Strategic Considerations in Transfer Pricing Planning That Drive Controversy Positions Advance Pricing Agreements xv

16 Transfer Pricing Answer Book 2018 Chapter 17 Chapter 18 Chapter 19 Chapter 20 Chapter 21 Chapter 22 Chapter 23 Handling Transfer Pricing Audits by the IRS Considerations When Settling Transfer Pricing Disputes Competent Authority Litigating a Transfer Pricing Case Coordination with Customs Valuations Financial Accounting for Transfer Pricing Exposures The OECD Base Erosion and Profit Shifting (BEPS) Initiative xvi

17 Table of Contents About the Editor... vii About the Contributors...ix Table of Chapters...xv Table of Contents... xvii Foreword... liii Acknowledgments... lv Chapter 1 The Transfer Pricing Challenge David B. Blair & Rocco V. Femia The Transfer Pricing Challenge Q 1.1 Q 1.2 Q 1.3 Q 1.4 Q 1.5 Q 1.6 What is the transfer pricing challenge? Why are taxing authorities like the IRS so focused on transfer pricing? What can the IRS do to address perceived transfer pricing abuses? Does the 2017 tax reform legislation eliminate the transfer pricing challenge? Why should MNEs focus on transfer pricing? Can taxpayers avoid disputes by simply playing it straight with their transfer pricing? Elements of a Transfer Pricing Strategy Q 1.7 What are the basic elements of a transfer pricing compliance strategy? Education, Investigation, and Issue Spotting Q What is involved in the first phase: education, investigation, and issue spotting? Development or Evaluation of Explicit Transfer Pricing Policies Q What is involved in the second phase: development or evaluation of explicit transfer pricing policies? xvii

18 Transfer Pricing Answer Book 2018 Evaluation of Potential Transfer Pricing Methodologies Q What is involved in the third phase: evaluation of potential transfer pricing methodologies? Using Comparable Transactions to Establish an Arm s-length Price Q What is involved in the fourth phase: searching for and evaluating comparable transactions that can help establish an arm s-length price? Adopting and Reporting a Transfer Pricing Methodology Q What is involved in the fifth phase: adoption of a transfer pricing methodology and reporting the results on the tax return? Documentation Requirements Q What is involved in the sixth phase: documentation of process and analysis used in selecting transfer pricing methodology? Preparing a Defense of Your Transfer Pricing Q What is involved in the seventh phase: preparing to defend the return position in the event of an IRS audit or challenge? Compliance As a Practical Matter Q 1.8 Q 1.9 Q 1.10 Q 1.11 Q 1.12 Do companies typically create a full-blown transfer pricing study for every controlled transaction? What resources are available to a company for preparing its transfer pricing compliance strategy? Does compliance with U.S. transfer pricing rules protect the taxpayer from a foreign taxing authority s transfer pricing adjustment? What procedures are available for resolving transfer pricing disputes? How will this book help me develop a transfer pricing strategy for my company? xviii

19 Table of Contents Chapter 2 The Players: The IRS and Foreign Tax Authorities, the OECD, and the Tax Treaty Network David B. Blair & David J. Fischer The Internal Revenue Service Q 2.1 Who are the important players at the IRS with respect to transfer pricing cases? Foreign Taxing Authorities Q 2.2 Q 2.3 Does the IRS coordinate with foreign taxing authorities on transfer pricing issues? What is the role of the OECD on transfer pricing issues? Congress and Treasury Q 2.4 Who are the players on Capitol Hill and in Treasury with respect to transfer pricing issues? Chapter 3 The U.S. Legal Framework David B. Blair Section 482 of the Internal Revenue Code Q 3.1 What are the statutes governing U.S. tax disputes over transfer pricing? The Treasury Regulations Q 3.2 What regulatory guidance is available under section 482? The Arm s-length Standard Q 3.3 Q 3.4 Q 3.5 Q 3.6 What is the arm s-length standard? What does the arm s-length standard measure? What method is used to compare the results of controlled and uncontrolled transactions under the arm s-length standard? What level of precision does the IRS require in determining the arm s-length price of a controlled transaction? xix

20 Transfer Pricing Answer Book 2018 The Commensurate With Income Standard Q 3.7 How does the commensurate with income standard interact with the arm s-length standard? Taxpayers Affirmative Use of Section Q 3.8 Can taxpayers use section 482 affirmatively to change the prices of transactions to lower their U.S. tax bill? Chapter 4 Conducting a Transfer Pricing Analysis Megan McLaughlin Kirmil The Best Method Rule Q 4.1 How does a taxpayer select a transfer pricing method to evaluate whether a controlled transaction is at arm s length? Q How does a taxpayer select one transfer pricing method over other potential transfer pricing methods? Q What determines the reliability of a transfer pricing method? Q What if the application of two or more methods produces inconsistent results? The Standards for Determining Comparability Q 4.2 Why does comparability matter? Q 4.3 How is comparability determined? Q 4.4 When is an uncontrolled transaction considered comparable to a controlled transaction? Q What is a material difference? Q How do taxpayers make adjustments for material differences? Q What if adjustments for material differences cannot be made? Q 4.5 How can you locate comparables? Table 4-1: Common Sources of Comparables for APAs Executed in xx

21 Table of Contents Functions Q 4.6 Q 4.7 What functions are relevant when comparing controlled and uncontrolled transactions? What considerations should a taxpayer be aware of with respect to the IRS s conduct of a functional analysis? Contractual Terms Q 4.8 What contractual terms are relevant when comparing controlled and uncontrolled transactions? Q 4.9 How are contractual terms identified? Q How is economic substance determined? Q 4.10 What contractual documents might the IRS request from the taxpayer during audit? Risks Q 4.11 What is risk? Q 4.12 What risks are relevant when comparing controlled and uncontrolled transactions? Q 4.13 Which controlled taxpayer bears a particular risk? Q Can taxpayers use allocations of risk to optimize their transfer pricing position? Q What factors are relevant in considering the economic substance of the allocation of risk under a contract? Economic Conditions Q 4.14 What economic conditions are relevant when comparing controlled and uncontrolled transactions? Property or Services Q 4.15 What considerations with respect to property or services are relevant when comparing controlled and uncontrolled transactions? Q How is the comparability of embedded intangibles measured? Q 4.16 What documents related to the comparability of property or services might the IRS request from the taxpayer during audit? xxi

22 Transfer Pricing Answer Book 2018 Special Circumstances Q 4.17 Are there any special circumstances that should be considered when determining comparability? Q How does a taxpayer s market share strategy affect comparability? Q How do different geographic markets affect comparability? Q 4.18 What transactions ordinarily are not accepted as comparables? Q 4.19 What are common comparability adjustments? Table 4-2: Adjustments to Comparables and Tested Parties for APAs Executed in Quality of Data and Assumptions Q 4.20 What data and assumptions factors affect the reliability of a particular method? Q How does the completeness and accuracy of the data affect the reliability of a particular method? Q How does the reliability of assumptions affect the reliability of a particular method? Q How does the sensitivity of results to deficiencies in the data used and the assumptions made affect the reliability of a particular method? Arm s-length Range Q 4.21 How can you use an arm s-length range of results? Q 4.22 How can you determine the arm s-length range? Q What is the interquartile range? Q 4.23 What if a taxpayer s results are outside the arm s-length range? Aggregation of Transactions Q 4.24 When may transactions be aggregated for purposes of determining the arm s-length consideration for such transactions? Consistency with Economic Substance Q 4.25 May the IRS take the economic substance of a transaction into account when evaluating the transaction? xxii

23 Table of Contents Multiple Year Data Q 4.26 May data on uncontrolled comparables from multiple years be used? Q When is it appropriate to use data on uncontrolled comparables from multiple years? Q May an arm s-length range consist of results from multiple years? Comparison to Rules Under OECD Guidelines Q 4.27 Is the Best Method Rule consistent with the OECD Guidelines? Q 4.28 Do the OECD Guidelines allow for the use of more than one method? Q 4.29 How do the comparability standards under the OECD Guidelines compare to those under the section 482 regulations? Q 4.30 Do the OECD Guidelines allow for the use of an arm s-length range? Appendix 4A Internal Revenue Manual Exhibit App. 4A-1 Appendix 4B Internal Revenue Manual Exhibits through App. 4B-1 Chapter 5 Overview of Transfer Pricing Methodologies: The Best Method Rule, Transaction-Based Methods, and Profit-Based Methods Megan McLaughlin Kirmil Applicability of Methods Q 5.1 Which transfer pricing methods may be used in connection with the transfer of tangible property? Q Which transfer pricing methods may be used in connection with the transfer of tangible property with embedded intangibles? Q 5.2 Which transfer pricing methods may be used in connection with the transfer of intangible property? Q 5.3 Which transfer pricing methods may be used in connection with the transfer of services? xxiii

24 Transfer Pricing Answer Book 2018 Q 5.4 How should a taxpayer select which transfer pricing method to use? Q May a taxpayer use more than one uncontrolled comparable when applying a single transfer pricing method? Q What if a taxpayer obtains inconsistent results when applying two or more transfer pricing methods? Q 5.5 Which transfer pricing methods are most commonly used? Table 5-1: Transfer Pricing Method Used for Transfers of Tangible and Intangible Property Table 5-2: Transfer Pricing Method Used for Services Transaction-Based Methods Q 5.6 What is the relationship among the CUP, CUT, and CUSP methods? CUP Method Q 5.7 What is the CUP method? Q What are the key comparability factors under the CUP method? Q What level of comparability is required under the CUP method? Q What evidence may be used to determine a CUP? CUT Method Q 5.8 What is the CUT method? Q What are the key comparability factors under the CUT method? Q How is the profit potential of an intangible calculated? Q What level of comparability is required under the CUT method? The CUSP Method Q 5.9 What is the CUSP method? Q What are the key comparability factors under the CUSP method? Q What level of comparability is required under the CUSP method? Q What evidence may be used to determine a CUSP? xxiv

25 Table of Contents Resale Price Method Q 5.10 What is the resale price method? Q What are the key comparability factors under the resale price method? Q What level of comparability is required under the resale price method? Q What are the key data and assumptions factors under the resale price method? Gross Services Margin Method Q 5.11 What is the gross services margin method? Q What are the key comparability factors under the gross services margin method? Q What level of comparability is required under the gross services margin method? Q What are the key data and assumptions factors under the gross services margin method? Cost Plus Method Q 5.12 What is the cost plus method? Q What are the key comparability factors under the cost plus method? Q What level of comparability is required under the cost plus method? Q What are the key data and assumptions factors under the cost plus method? Cost of Services Plus Method Q 5.13 What is the cost of services plus method? Q What are the key comparability factors under the cost of services plus method? Q What level of comparability is required under the cost of services plus method? Q What are the key data and assumptions factors under the cost of services plus method? Services Cost Method (Cost Safe Harbor) Q 5.14 What is the services cost method? Q What services are eligible for the SCM? Q What are covered services? Q What is an excluded activity? xxv

26 Transfer Pricing Answer Book 2018 Q When is a service precluded from constituting a covered service by the business judgment rule? Q What constitutes the adequate maintenance of books and records? Q 5.15 Can a taxpayer use the SCM for services within the scope of a shared services arrangement? Q May covered services under a shared services arrangement be aggregated for purposes of applying the SCM? Profit-Based Methods General Q 5.16 How do profit-based methods differ from transactional methods? Comparable Profits Method (CPM) Q 5.17 What is the CPM? Q Who is the tested party under the CPM? Q How is the profit level indicator selected under the CPM? Q What are the key comparability factors under the CPM? Q What level of comparability is required under the CPM? Q What are the key data and assumptions factors under the CPM? Profit Split Method (PSM) Q 5.18 What is the PSM? Q 5.19 What is a comparable profit split? Q What are the key comparability factors under a comparable profit split? Q What are the key data and assumptions factors under a comparable profit split? Q What other factors affect reliability under a comparable profit split? Q 5.20 What is a residual profit split method? Q What are the key comparability factors under a residual profit split method? Q What are the key data and assumptions factors under a residual profit split? xxvi

27 Table of Contents Q What other factors affect reliability under the residual profit split method? Income Method (IM) Q 5.21 What is the income method? Unspecified Methods Q 5.22 When may a taxpayer apply an unspecified method? Comparison to Methods Under OECD Guidelines Q 5.23 What transfer pricing methods are permitted under the OECD Guidelines? Q Do the OECD Guidelines follow the Best Method Rule? Q 5.24 How does the CPM compare to the TNMM under the OECD Guidelines? Chapter 6 Identification of Controlled Transactions Kevin L. Kenworthy Determination of Related Party Status Q 6.1 Q Q Q What kind of common control is needed for transactions between two or more parties to be subject to the transfer pricing rules? Can common control exist between unrelated parties? Does common control necessarily exist where the parties to a transaction are controlled by family members? Will a contract entered into between uncontrolled parties become a controlled transaction if one party acquires the other? Determining Whether There Has Been a Transaction or Other Transfer of Value Between Controlled Parties That Must Be Accounted for Under the Transfer Pricing Rules Q 6.2 Assuming common control exists, what types of transactions are subject to the transfer pricing rules? Q Is it appropriate to aggregate controlled transactions for purposes of evaluating whether they are at arm s length? xxvii

28 Transfer Pricing Answer Book 2018 Q Is an allocation of income possible in the absence of an intent to evade taxes? Q Is it possible that income can be allocated to a controlled taxpayer where the controlled group did not realize a profit? Q Similarly, can a controlled party incur a loss where the controlled group realizes an overall profit? Q 6.3 Is an allocation of income authorized in the face of legal restrictions limiting or prohibiting payment or receipt of an arm s-length amount? Chapter 7 Recordkeeping and Reporting Obligations for U.S. Taxpayers and Their Foreign Affiliates Kathryn Morrison Sneade Code Section 6038 Information Reporting Obligations for U.S. Multinationals The Basics Q 7.1 How does the IRS collect information on a U.S. taxpayer s transactions with foreign affiliates? Q 7.2 What are the reporting requirements for a U.S. corporation that controls foreign affiliates? Q What constitutes control of a foreign corporation? Q What constitutes control of a foreign partnership? Q What if more than one person controls a foreign entity? Q 7.3 What information does the U.S. person report on the Forms 5471 and 8865? Q 7.4 When must the U.S. taxpayer file the information returns with respect to controlled foreign entities? Potential Penalties Q 7.5 What penalties apply for failure to make a return of the information required by section 6038? Country-by-Country Reporting Q 7.6 What reporting is required under Treasury s country-by-country reports? xxviii

29 Table of Contents Code Sections 6038A and 6038C Information Reporting and Record Maintenance Obligations for Foreign-Based Multinationals The Basics Q 7.7 Q 7.8 Q 7.9 Q 7.10 Q 7.11 What information reporting and record maintenance obligations are imposed on foreign-based multinationals with transfer pricing transactions? Who is subject to the information reporting and recordkeeping obligations of sections 6038A and 6038C? What information must be reported under sections 6038A and 6038C? What records must be maintained under sections 6038A and 6038C and for how long must they be retained? Who must maintain the required records and where must they be maintained? Exceptions Q 7.12 Are there any exceptions from the information reporting and recordkeeping obligations of sections 6038A and 6038C? Potential Penalties Q 7.13 What penalties apply for failure to comply with the information reporting and recordkeeping obligations of sections 6038A and 6038C? Chapter 8 Penalties for Transfer Pricing Adjustments and Contemporaneous Documentation Requirements Kathryn Morrison Sneade The Basics Q 8.1 What is the transfer pricing penalty and how is it applied? Q 8.2 When does the transactional penalty apply? Q 8.3 When does the net adjustment penalty apply? Q How is the net section 482 transfer price adjustment calculated? Q 8.4 What if both penalties apply? xxix

30 Transfer Pricing Answer Book 2018 Exceptions Q 8.5 Are there any exceptions from the transactional penalty and/or net adjustment penalty? The Contemporaneous Documentation Safe Harbor Q 8.6 What are the requirements for the contemporaneous documentation safe harbor? Q What are the requirements to qualify for the contemporaneous documentation safe harbor where the taxpayer uses a specified method? Q What are the requirements to qualify for the contemporaneous documentation safe harbor where the taxpayer uses an unspecified method? Q How is reasonableness evaluated for purposes of meeting the specified method requirement or unspecified method requirement? Q What documentation is required to qualify for the contemporaneous documentation safe harbor? Q How might a cost sharing agreement affect the taxpayer s ability to satisfy the contemporaneous documentation safe harbor? Q How might an advance pricing agreement affect the taxpayer s ability to satisfy the contemporaneous documentation safe harbor? Q Can a taxpayer satisfy the contemporaneous documentation requirement through transfer pricing documentation developed for a foreign jurisdiction? Best Practices Q 8.7 What are best practices to avoid application of the transfer pricing penalties? Chapter 9 Transfer Pricing Planning and Taxpayers Affirmative Use of Section 482 David B. Blair & Kevin L. Kenworthy Transfer Pricing Planning Q 9.1 How can taxpayers advantageously structure their controlled transactions in light of transfer pricing regulation? xxx

31 Table of Contents Q Q Q Q Q Q Q Q Q Can MNEs plan into a structure that has a good chance of surviving a challenge on audit? How does a taxpayer identify a structure that has a good prospect of withstanding a challenge on audit? How can a taxpayer identify tax planning strategies to avoid? How should taxpayers approach planning a transfer pricing strategy? What are examples of functions to be examined? What are examples of risks to be examined? What is the role of contracts in the transfer pricing planning process? How can taxpayers take into account intangibles in the tax planning process? What are some other considerations that go into the transfer pricing planning process? Getting It Right on the Return Q 9.2 When can a taxpayer use section 482 affirmatively to report the results of a controlled transaction under the arm s-length standard? Q If section 482 requires arm s-length pricing, why restrict a taxpayer s ability to report its income on that basis, even on an amended return? Setoffs Q 9.3 How can a taxpayer use section 482 after the return has been filed? Q How and when can a taxpayer raise a setoff claim? Chapter 10 Manufacturing and Distribution of Goods George M. Clarke, III Overview Q 10.1 Q 10.2 What Treasury Regulations predominately govern the transfer pricing of goods? What methods are typically used to determine the appropriate transfer pricing for the sale of goods between related parties? xxxi

32 Transfer Pricing Answer Book 2018 CUP Method Q 10.3 Q 10.4 Q 10.5 What are the factors to take into account in determining whether a goods transaction with an unrelated party is comparable enough to the related party transaction for the unrelated transaction price to be considered a CUP? What adjustments are appropriate to make to an imperfect comparable transaction to make it more comparable for CUP purposes? Can public data inform adjustments to or the comparability of a CUP? Resale Price Method Q 10.6 Q 10.7 What are the key issues in determining whether to apply a resale price method to a sale of goods? What are the key issues in applying an RPM to a sale of goods? Cost Plus Q 10.8 Q 10.9 What are the key issues in determining whether to apply a cost plus to a sale of goods? What are the key issues in applying the cost plus method to a sale of goods? Sales by Commissionaires or Contract Manufacturers Q Can an RPM or cost plus analysis be used to price transactions involving commissionaires or contract manufacturers? The Comparable Profits Method (CPM) Q Q What are the key issues in determining whether to apply a CPM to a sale of goods? What are the key issues in applying a CPM to a sale of goods? Other Methods Q What sorts of other methods can be used to price a sale of goods? xxxii

33 Table of Contents Transfer of Goods Along with Intangible Property Q How does the interrelationship between the sale or exchange of goods and the use of intangible property to support that sale of goods manifest itself in transfer pricing practice? Chapter 11 Provision of Services David M. Ernick & Megan McLaughlin Kirmil Overview Q 11.1 What Treasury Regulations predominately govern the transfer pricing of services? Q 11.2 What methods are typically used to determine the appropriate transfer pricing in connection with controlled services transactions? Q 11.3 What is a controlled services transaction? Q When is an activity performed? Q When is a benefit received? Q When may a controlled services transaction be analyzed as two separate transactions (disaggregated) for purposes of determining the arm s-length price? Services Cost Method Q 11.4 What is the services cost method? Q What are total services costs? Q What types of services are eligible for the SCM? Q 11.5 What is a shared services arrangement? Q What are the requirements of a shared services arrangement? Q How are the costs of covered services allocated among the participants in a shared services arrangement? Q What documentation does the IRS require for a shared services arrangement? Q May covered services be aggregated when applying the SCM to an SSA? Q What if the taxpayer is a participant in both an SSA and a cost sharing arrangement? xxxiii

34 Transfer Pricing Answer Book 2018 Comparable Uncontrolled Services Price Method Q 11.6 What is the CUSP method? Q What are the factors to take into account in determining whether a services transaction with an unrelated party is comparable enough to the related party transaction for the unrelated transaction price to be considered a CUSP? Q 11.7 What adjustments are appropriate to make an imperfect comparable transaction more comparable for CUSP purposes? Q 11.8 Can public data inform adjustments to or the comparability of a CUSP? Gross Services Margin Method Q 11.9 Q What is the gross services margin method? What are the key issues in applying a gross services margin to the performance of services? Cost of Services Plus Method Q Q What is the cost of services plus method? What are the key issues in applying a cost of services plus method to the performance of services? Comparable Profits Method Q Q What is the CPM? What are the key issues in applying a CPM to the performance of services? Profit Split Method Q What is the PSM? Q What are the key issues in determining whether to apply a profit split method to the performance of services? Unspecified Methods Q What other methods can be used to price the performance of services? xxxiv