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November 08, 2022

U.S. Taxpayers: Ensure Robust Transfer Pricing Documentation or Face Increased Penalties

Mandy Li, Transfer Pricing Managing Director at MGO

As a result of a global economy where multinational enterprises (MNEs) play a prominent role, the Internal Revenue Service (IRS) needs to ensure that the taxable profits of MNEs are not synthetically shifted to low tax jurisdictions, and that the transactions entered by related parties are priced at arm’s length. Hence, it becomes a taxpayer’s ultimate endeavor to demonstrate that the intercompany transactions are undertaken in accordance with the arm’s length principle and must maintain and provide contemporaneous transfer pricing documentation (TPD).

During a recent seminar hosted by the Tax Executives Institute (TEI), an IRS official reiterated the importance of having a robust TPD. U.S. taxpayers should expect increased penalties in situations where those with intercompany transactions have missing or inadequate TPD.

The Penalties Faced by Inadequate TPD

Penalties related to transfer pricing documentation can be imposed if there is a substantial or gross valuation misstatement. Penalties are imposed for noncompliance to encourage taxpayers to:

  1. comply with the arm’s length standard,
  2. report an arm’s length result on their tax returns,
  3. document transfer pricing analyses, and
  4. provide the documentation upon request.

Although the IRS’s official statement does not provide an explicit penalty amount to be imposed for missing or inadequate TPD, it was clear that it will examine situations where the penalties were appropriate and left the onus on the taxpayer to document the ‘reasonableness of the selection and application of the best method.’

Preparing your TPD

U.S. taxpayers should prepare TPD reports that are robust and fully compliant with the requirements of Sections 482 and 6662, ensuring they are aligned with their respective regulations. Such reports provide assurance to tax authorities that the taxpayer has maintained the required documentation and undertaken the required analysis to conclude the intercompany transaction is at arm’s length.

MGO’s specialized transfer pricing team offers you the resources you need to build and document transfer pricing policies that meet the compliance requirements. Contact us for more information about transfer pricing.