Transfer pricing: controlled services transactions.

• Author: O'Connell, Frank J., Jr.

When tax professionals think of Sec. 482, cross-border transfer pricing studies usually come to mind. However, Sec. 482 can also apply to domestic companies that file returns in multiple states and domestic taxpayers that do not file a U.S. consolidated income tax return. In domestic or non-cross-border situations, the two areas in which clients most often run into Sec. 482 are interest allocations and controlled services transactions. The focus of this item is on controlled services transactions under Regs. Sec. 1.482-9.

A Brief History of Sec. 482 and Related Treasury Regs.

The first direct predecessor to Sec. 482 was enacted in 1921, just eight years after the first income tax act. The first explanatory regulations for the provision (promulgated in 1935 under the Revenue Act of 1934) articulated a general arm's-length standard. These regulations remained relatively unchanged until 1968, when regulations were issued that added standards for specific transaction types. (In 1962, the Sec. 482 regulations had been added as part of the 1954 Code, replicating the existing regulations.) In 1994, the IRS issued final regulations that introduce the "best method" rule for selecting a pricing methodology to be applied to a controlled transaction.

The primary purpose of Sec. 482 is to ensure that taxpayers properly reflect income attributable to controlled transactions and to prevent the avoidance of taxes for such transactions. Sec. 482 places a controlled taxpayer on tax parity with an uncontrolled taxpayer by determining the "true" taxable income of the controlled taxpayer. In determining that taxable income, the standard to be applied for Sec. 482 is a taxpayer dealing at arm's length with an uncontrolled taxpayer. A controlled transaction will meet the arm's-length standard if the results of a transaction are consistent with the results that would have been met if uncontrolled taxpayers had engaged in the same transaction under the same circumstances.

Controlled Services Transactions Regs.

The IRS issued final controlled services regulations on July 31, 2009. These regulations replaced the 2003 proposed services regulations, which had been revised and reissued as temporary regulations in 2006. The 2009 final services regulations are consistent with the 2006 temporary regulations with only clarifying changes. As did the 2006 temporary services regulations, the 2009 final services regulations authorize the IRS to issue a revenue procedure listing...