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Navigating US Transfer Pricing Investigations, Audits, and Adjustments: Understanding the Rules

Transfer pricing refers to the prices charged for goods or services sold between two related companies or entities, which are usually located in different countries. These prices can be manipulated to shift profits to lower-tax jurisdictions, thereby reducing the overall tax liability. Due to this, transfer pricing has become a major focus area for tax authorities around the world, including the IRS in the United States.

The IRS has established rules and regulations for transfer pricing to ensure that companies do not engage in any tax avoidance practices. The general statute of limitations for transfer pricing assessments is three years from the tax return filing date. However, if there is substantial understatement of income, the statute is extended to six years. It is important to note that the statute of limitations does not apply for fraud and misrepresentation.

The IRS has considerable resources available to carry out audits, including agents who are specially trained in economic analysis. The risk of transfer pricing scrutiny during an audit is high. The IRS uses a variety of methods to select returns for audit, including random selection and targeting of taxpayers with large businesses.

During an audit, the IRS will closely examine the transfer pricing practices of a taxpayer to ensure that the prices charged for goods or services are consistent with arm’s length pricing, which is the price that unrelated parties would charge for similar goods or services under similar circumstances. If the IRS determines that a taxpayer has engaged in transfer pricing manipulation, the taxpayer could face penalties and interest charges.

To comply with the transfer pricing regulations, taxpayers should maintain detailed records of their transfer pricing transactions and be able to justify their pricing decisions. This includes conducting a thorough analysis of the functions, risks, and assets of each related entity involved in the transaction.

In conclusion, transfer pricing is a complex area of tax law that requires careful attention to ensure compliance with IRS regulations. The IRS has significant resources available to carry out audits, and the risk of transfer pricing scrutiny during an audit is high. Taxpayers should be diligent in maintaining detailed records and justifying their transfer pricing decisions to avoid potential penalties and interest charges.

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