The IRS has announced new rules relating to the acceptance of Advance Pricing Agreement (APA) and renewal requests. On April 25, 2023, the IRS published interim guidance (the Interim Guidance), effective as of that date, that requires IRS employees who deal with APAs to follow new detailed criteria to evaluate whether a request for an APA or a renewal should be approved (in whole or in part), or whether an alternative transfer pricing workstream (such as the International Compliance Assurance Program or a joint audit) should be recommended for consideration by the taxpayer.

Background

As tax professionals and advisers know, transfer pricing is considered the most contentious tax issue for multinational enterprises (MNEs). MNEs have several options for dealing with transfer pricing issues.

First, MNEs, together with legal and transfer pricing specialists, can undertake a transfer pricing study to determine, and then document, the arm's length price for controlled transactions. This approach does not preclude a tax authority from auditing the transaction, but may protect against penalties, if the transfer pricing documentation and study are considered adequate and reasonable.

Second, a taxpayer can request and obtain an APA (unilateral, bilateral or multilateral). An APA is an alternative dispute resolution mechanism for taxpayers and the IRS (and, if bilateral or multilateral, inclusive of foreign tax authorities) to resolve the transfer pricing methodology for pricing the taxpayer's international transactions in advance for future years. The principal benefits of an APA are 1) advance certainty with respect to the taxpayer's transfer pricing for the term of the APA; 2) elimination of an audit threat with respect to the issue covered by the APA, provided the taxpayer satisfies the terms and conditions of the APA; 3) reduced taxpayer compliance costs over the term of the APA; 4) penalty protection, assuming that the taxpayer adheres to the terms and conditions of the APA; and 5) for tax authorities, reduced tax administration costs. The detriments of an APA are that it is resource- and time-intensive, costly (in terms of the user fee,¹ internal costs and professional fees) and there is no assurance that an APA will result. The MNE will have to make expansive and detailed disclosures to the tax authorities and the processing time is lengthy. In the United States, the processing of an APA² generally takes more than three years.

Third, although APAs are a recognized option for taxpayers to achieve advance transfer pricing certainty, other procedures (workstreams) are available to taxpayers and tax administrations to deal with transfer pricing matters, including the International Compliance Assurance Program (ICAP)³ or a joint audit.⁴ Depending on the specifics of a controlled transaction, workstreams other than an APA might be more successful, not only in terms of reaching an acceptable tax resolution, but also in terms of the expenditure of financial and human resources required to reach an agreement.

Advance Pricing Mutual Agreement (APMA) Program and APAs

Mission. To administer programs within its jurisdiction in a manner consistent with U.S. tax treaty obligations and in a manner that secures the appropriate tax bases of the United States and its treaty partners, prevents fiscal evasion, promotes consistency and reasonableness in outcomes, and provides taxpayers access to competent authority assistance and to the APA process in accordance with considerations of principled, effective and efficient tax administration.

APA Request Discretionary. APMA's acceptance of a taxpayer's request to enter the APA program is discretionary and should be consistent with the strategic mission of APMA.

Rejection of Request. Not subject to administrative review.

APMA Workload. APA requests constitute a substantial portion of APMA's caseload, and, on average, take more than three years to complete because of due diligence, technical analysis and coordination with treaty partners.⁵

Why Has the IRS Issued the Interim Guidance?

• APAs are resource- and time-intensive, and constitute a substantial portion of the APMA caseload.
• The IRS wants to utilize its resources wisely to meet tax administration and taxpayer certainty goals with respect to transfer pricing issues and to ensure that implementation of administrative processes promote the prevention and timely resolution of transfer pricing disputes.
• The Interim Guidance was crafted to produce the best result and support the best and highest use of transfer pricing resources for taxpayers and tax administration.
• The Interim Guidance is not intended to 1) affect the proper analysis of compliance with transfer pricing regulations, or 2) limit or decrease the number of APA requests accepted by APMA.
• Put another way, the "goal [of the Interim Guidance] is to improve the quality and timeliness of APMA's APA program by providing an early mechanism for identifying potential roadblocks to successfully concluding a proposed APA and opportunities for other paths to certainty."

What the Interim Guidance Provides

• The Interim Guidance specifies the 1) process, 2) criteria and 3) personnel to evaluate whether an APA prefiling memorandum/request/renewal is the optimum transfer pricing workstream to achieve the best result and support the best and highest use of transfer pricing resources for taxpayers and tax administrations or whether other transfer pricing workstreams, i.e., ICAP or a joint audit, are appropriate to the circumstances.
• Large Business and International (LB&I) employees review the facts and circumstances in a taxpayer's submission (APA prefiling memoranda/APA request/APA renewal) based on enumerated, non-dispositive criteria in making a determination as to whether the request will be accepted into APMA program.
• A transfer pricing outcome is made by selecting a transfer pricing workstream based on the facts and circumstances that achieves a level of transfer pricing certainty and a corresponding level of human resources for both the taxpayer and the tax administration.
• The Interim Guidance will be incorporated into the Internal Revenue Manual in the next two years.

How the Interim Guidance Will Work

Rev. Proc 2015-41. The Interim Guidance does not modify the information required to be included in a taxpayer request to enter the APA program, which are both substantial and detailed, contained in the Appendix of the current Revenue Procedure for APAs. Nor does it modify when a prefiling memorandum is required (Rev. Proc. 2015-41, § 3.02(4)). Rather, it focuses and encourages the use of the optional prefiling memoranda (Rev. Proc. 2015-41, § 3.02(5)) to evaluate the request. It also contains detailed instructions as to the overall APA request review process and the consideration of alternative transfer pricing workstreams. As noted, Rev. Proc. 2015-41 currently is under review, so there may be further developments in this area in the future.

New Sequenced Process. The Interim Guidance provides an optional prefiling memorandum/APA filing process for the IRS to determine whether an APA would be the most effective and efficient transfer pricing workstream. The intent is to provide taxpayers with information in advance of their undertaking to draft and submit a formal APA request.

Optional Prefiling Memorandum Review. Submit a prefiling memoranda for the IRS to quickly provide a preliminary opinion as to whether 1) an APA is well suited for an APA, 2) whether another potential workstream is recommended as more effective or 3) whether additional information needs to be provided to make a determination. The Interim Guidance specifies eight factors (some of which have subfactors) to make that determination. Quickly means an oral recommendation made to taxpayer within four weeks of the date of the prefiling memorandum or the date when additional information is requested, whichever is later. If an affirmative response is received, the taxpayer then would file a formal APA request.

APA Submission Review and Acceptance. APA requests are reviewed based on nine factors (some of which contain additional subfactors)⁶ to determine whether the request should be accepted in whole or in part, or whether another transfer pricing workstream should be considered. The submission review and acceptance process should be completed within eight weeks of the filing date of the completed APA request and communicated orally to the taxpayer. If the APA request is declined, alternative transfer pricing workstreams would be recommended.

Other Interim Guidance. Additional criteria with respect to unilateral requests (four criteria), renewal requests (four criteria) and rollback requests (five criteria) also are included.

To review the full document, see the complete Interim Guidance Memorandum and Instructions.

Concluding Observations

• To ensure a taxpayer's transfer pricing issues as presented in an APA request have the best chance for successful conclusion, APMA personnel are required to follow the defined processes for evaluating the relevant criteria and for determining whether an APA is the most effective and efficient workstream for the taxpayer and tax administration(s).
• The evaluation is undertaken in consultation with appropriate personnel to properly match the compliance risk presented by the transfer pricing issues proposed to be covered by an APA with the resources that would be required to achieve the requisite certainty (based on the facts and circumstances) for the taxpayer and the IRS.
• Additional takeaways:
  • There will be more selectivity by the IRS in accepting APA requests and renewals.
  • Prior to filing an APA or a renewal request, the taxpayer should consider, based on its facts and circumstances, whether the APA route is the most appropriate course of action or whether consideration should be given to ICAP or a domestic or a joint audit.
  • If the taxpayer is of the view that the APA process is the preferable workstream, after evaluating other possible transfer pricing workstreams, then the taxpayer may want to opt for the optional pre-submission process if the required pre-submission process is not otherwise required.

For more information or questions regarding the IRS guidance on APAs, please contact the authors.

Notes

¹ The current user fee is $113,500.

² See Rev. Proc. 2015-41(Procedures for Advance Pricing Agreements), currently under review.

³ ICAP is a voluntary risk assessment and assurance program to facilitate open and cooperative multilateral engagements between multinational groups (MNEs) willing to engage actively and transparently and tax administrations in which MNEs have activities. It does not, however, provide the degree of advance certainty of an APA. See the Organization for Economic Cooperation and Development (OECD) Forum on Tax Administration, "International Compliance assurance Programme: handbook for tax administrations and MNE groups," Feb. 18, 2021.

⁴ A joint audit is a coordinated bilateral or multilateral tax field audits (control), conducted within the framework of mutual administrative assistance in tax matters. See OECD, Forum on Tax Administration, "Enhancing Tax Co-operation and Improving Tax Certainty," 2019.

⁵ A total of 77 APAs were executed in 2022, of which, more than half involved transactions between non-U.S. parents and U.S. subsidiaries. Most of the 2022 transactions involved the sale of tangible goods or the provision of services, and about 22 percent involved the use of intangible property. APAs pending as of Dec. 31, 2022, were 564 and renewals pending as of Dec. 31, 2022, were 237. Announcement 2023-10.

⁶ One of which relates is a Prefiling Memorandum Review that was not conducted for the proposed APA; then the Prefiling Memorandum Review criteria above, including transactions materiality and complexity, must be reviewed.