The Internal Revenue Service has released a Transfer Pricing Audit Roadmap to help the transfer pricing specialists in its Large Business & International division successfully audit the tax strategies of multinational companies.

The IRS released the roadmap last Friday, according to the TaxProf blog. The roadmap is intended to provide transfer pricing practitioners at the IRS with audit techniques and tools to help them plan, execute and resolve transfer pricing examinations.

In the document, the IRS noted that proper development of a transfer pricing position can take up to two to three years or more, so transfer pricing specialists need to be involved in assessing the potential issues as early as possible to ensure that the audit plan and timeline are appropriate given the complexity of the case and the available resources. Transfer pricing specialists can provide guidance in staffing decisions and help weed out issues that are not worth pursuing.

“Transfer pricing cases are usually won and lost on the facts,” the IRS noted. “The key in transfer pricing cases is to put together a compelling story of what drives the taxpayer’s financial success, based on a thorough analysis of functions, assets, and risks, and an accurate understanding of the relevant financial information. Fact development is the ‘bread and butter’ of our exam teams—it’s what they are trained for and good at. An effective story explains the taxpayer’s value chain, competitive position in its industry, and financial results, in a clear and compelling fashion. If indications are that the tax result claimed by the taxpayer is at odds with common sense and economic reality—‘too good to be true’—chances are it is a good candidate for further scrutiny. Early identification and aggressive pursuit of cases that have this potential is important. Conversely, if indications are that the taxpayer’s financial results are reasonable, and the taxpayer’s method fits its fact profile, it may not be worth pursuing the issue.”

The IRS noted that the objective in a transfer pricing audit is to determine a reasonable result under the facts and circumstances of any given case. Effective enforcement of the “arm’s length” standard requires the exercise of judgment.

A “working hypothesis” developed early, based on initial basic fact development is a necessary guide to further detailed examination, but the IRS exam team should keep an open mind at all times during the examination. The working hypothesis should be adjusted or discarded depending on new facts that come to light, while documenting the process as the examination advances to promote efficiency and address any taxpayer concerns about “fishing expeditions.” 

“It is critical that, in every case, the team address in full the taxpayer’s analysis–the taxpayer may well have the more compelling position on the issue,” said the IRS.

In addition, effective presentation can make or break a case, the IRS pointed out. “Even a strong position may not be sustained on review if it is not presented clearly and persuasively,” said the IRS. “A Notice of Proposed Adjustment (NOPA) should have logical structure, and should weave the facts and applicable legal and economic principles together in a story-line that resonates with the reader. All of the relevant facts —good and bad—should be addressed. The conclusion should come across as ‘inevitable.’ This sort of presentation lends credibility to the proposed adjustment, and increases the odds of early resolution or sustention on review.”

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