| March 27, 2008 |
| This Announcement is issued pursuant to § 521(b)
of Pub. L. 106-170, the Ticket to Work and Work Incentives Improvement
Act of 1999, which requires the Secretary of the Treasury to report
annually to the public concerning Advance Pricing Agreements (APAs)
and the APA Program. The first report covered calendar years 1991
through 1999. Subsequent reports covered separately each calendar
year 2000 through 2006. This ninth report describes the experience,
structure and activities of the APA Program during calendar year 2007.
It does not provide guidance regarding the application of the arm’s
length standard.
|
| Matthew W. Frank Director, Advance Pricing Agreement Program |
| Background |
| Internal Revenue Code (IRC) § 482 provides that the
Secretary may distribute, apportion, or allocate gross income, deductions,
credits, or allowances between or among two or more commonly controlled
businesses if necessary to reflect clearly the income of such businesses.
Under the § 482 regulations, the standard to be applied
in determining the true taxable income of a controlled business is
that of a business dealing at arm’s length with an unrelated
business. The arm’s length standard has also been adopted by
the international community and is incorporated into the transfer
pricing guidelines issued by the Organization for Economic Cooperation
and Development (OECD). OECD, TRANSFER PRICING GUIDELINES FOR MULTINATIONAL
ENTERPRISES AND TAX ADMINISTRATORS (1995). Transfer pricing issues
by their nature are highly factual and have traditionally been one
of the largest issues identified by the IRS in its audits of multinational
corporations. The APA Program is designed to resolve actual or potential
transfer pricing disputes in a principled, cooperative manner, as
an alternative to the traditional examination process. An APA is
a binding contract between the IRS and a taxpayer by which the IRS
agrees not to seek a transfer pricing adjustment under IRC § 482
for a covered transaction if the taxpayer files its tax return for
a covered year consistent with the agreed transfer pricing method
(TPM). In 2007, the IRS and taxpayers executed 81 APAs and amended
eight APAs.
|
| Since 1991, with the issuance of Rev. Proc. 91-22, 1991-1 C.B.
526, the IRS has offered taxpayers, through the APA Program, the opportunity
to reach an agreement in advance of filing a tax return on the appropriate
TPM to be applied to related party transactions. In 1996, the IRS
issued internal procedures for processing APA requests. Chief Counsel
Directives Manual (CCDM), ¶¶ 42.10.10 — 42.10.16 (November
15, 1996).[a] Also in 1996, the IRS updated Rev. Proc. 91-22 with the
release of Rev. Proc. 96-53, 1996-2 C.B. 375.[b] In 1998, the IRS published Notice 98-65, 1998-2 C.B.
803,[c] which set forth streamlined APA procedures for small business
taxpayers. Then on July 1, 2004, the IRS updated and superseded
both Rev. Proc. 96-53 and Notice 98-65 by issuing Rev. Proc. 2004-40,
2004-2 I.R.B. 50,[d] effective for all APA requests filed on or after August
19, 2004.
|
| On December 19, 2005, the IRS again updated the procedural
rules for processing and administering APAs with the release of Rev.
Proc. 2006-9, 2006-1 C.B. 278.[e] Rev. Proc. 2006-9 supersedes Rev. Proc. 2004-40 and is
effective for all APA requests filed on or after February 1, 2006.
|
| Advance Pricing Agreements |
| An APA generally combines an agreement between a taxpayer and
the IRS on an appropriate TPM for the transactions at issue (Covered
Transactions) with an agreement between the U.S. and one or more foreign
tax authorities (under the authority of the mutual agreement process
of our income tax treaties) that the TPM is correct. With such a “bilateral”
APA, the taxpayer ordinarily is assured that the income associated
with the Covered Transactions will not be subject to double taxation
by both the U.S. and the foreign jurisdiction. It is the policy of
the United States, as reflected in §§ 2.08 and 7 of
Rev. Proc. 2006-9, to encourage taxpayers that enter the APA Program
to seek bilateral or multilateral APAs when competent authority procedures
are available with respect to the foreign country or countries involved.
However, the IRS may execute an APA with a taxpayer without reaching
a competent authority agreement (a “unilateral” APA).
|
| A unilateral APA is an agreement between a taxpayer and the
IRS establishing an approved TPM for U.S. tax purposes. A unilateral
APA binds the taxpayer and the IRS, but does not prevent foreign tax
administrations from taking different positions on the appropriate
TPM for a transaction. As stated in § 7.07 of Rev. Proc.
2006-9, should a transaction covered by a unilateral APA be subject
to double taxation as the result of an adjustment by a foreign tax
administration, the taxpayer may seek relief by requesting that the
U.S. Competent Authority consider initiating a mutual agreement proceeding
pursuant to an applicable income tax treaty (if any).
|
| When a unilateral APA involves taxpayers operating in a country
that is a treaty partner, information relevant to the APA (including
a copy of the APA and APA annual reports) may be provided to the treaty
partner under normal rules and principles governing the exchange of
information under income tax treaties.
|
| The APA Program |
| An IRS team headed by an APA team leader is responsible for
the consideration of each APA. As of December 31, 2007, the APA Program
had 19 team leaders. The team leader is responsible for organizing
the IRS APA team. The IRS APA team leader arranges meetings with
the taxpayer, secures whatever information is necessary from the taxpayer
to analyze the taxpayer’s related party transactions and the
available facts under the arm’s length standard of IRC § 482
and the regulations thereunder, and leads the discussions with the
taxpayer.
|
| The APA team generally includes an economist, an international
examiner, LMSB field counsel, and, in a bilateral case, a U.S. Competent
Authority analyst who leads the discussions with the treaty partner.
The economist may be from the APA Program or the IRS field organization.
As of December 31, 2007, the APA Program had seven economists. The
APA team may also include an LMSB International Technical Advisor,
other LMSB exam personnel, and an Appeals Officer.
|
| The APA Process |
| The APA process is voluntary. Taxpayers submit an application
for an APA, together with a user fee as set forth in Rev. Proc. 2006-9,
§ 4.12. The APA process can be broken into five phases:
(1) application; (2) due diligence; (3) analysis; (4) discussion
and agreement; and (5) drafting, review, and execution.
|
| (1) Application |
| In many APA cases, the taxpayer’s application is preceded
by a pre-file conference with the APA staff in which the taxpayer
can solicit the informal views of the APA Program. Pre-file conferences
can occur on an anonymous basis, although a taxpayer must disclose
its identity when it applies for an APA. Taxpayers must file the
appropriate user fee on or before the due date, including extensions,
of the tax return for the first taxable year that the taxpayer proposes
to be covered by the APA. (If the taxpayer receives an extension
to file its tax return, it must file its user fee no later than the
actual filing date of the return.) Many taxpayers file a user fee
first and then follow up with a full application later. The procedures
for pre-file conferences, user fees, and applications can be found
in §§ 3 and 4 of Rev. Proc. 2006-9.
|
| The APA application can be a relatively modest document for
small businesses. Section 9 of Rev. Proc. 2006-9 describes the special
APA procedures for small business taxpayers. For most taxpayers,
however, the APA application is a substantial document filling several
binders. APA applications must be accompanied by a declaration, signed
by an authorized corporate officer, attesting to the accuracy and
completeness of the information presented.
|
| The application is assigned to an APA team leader who is responsible
for the case. The APA team leader’s first responsibility is
to organize the APA team. This involves contacting the appropriate
LMSB International Territory Manager to secure the assignment of an
international examiner to the APA case and the LMSB Counsel’s
office to secure a field counsel lawyer. In a bilateral case, the
U.S. Competent Authority will assign a U.S. Competent Authority analyst
to the team. In a large APA case, the international examiner may
invite his or her manager and other LMSB personnel familiar with the
taxpayer to join the team. If the APA may affect taxable years in
Appeals, the appropriate appellate conferee will be invited to join
the team. In appropriate cases, the APA team leader contacts the
Manager, LMSB International Technical Advisors, to determine whether
to include a technical advisor on the team. The IRS APA team will
generally include a technical advisor if the APA request concerns
cost sharing, or a complex intangibles or services transaction. The
APA team leader then distributes copies of the APA application to
all team members and sets up an opening conference with the taxpayer.
The APA office strives to hold this opening conference within 45
days of the assignment of the case to a team leader. At the opening
conference, the APA team leader proposes a case plan designed, if
feasible, to complete a unilateral APA or, in the case of a bilateral
APA, the recommended U.S. negotiating position within 12 months from
the date the full application is filed. The actual median and average
times for completing unilateral APAs, recommended negotiating positions
for bilateral APAs, and APAs for small business taxpayers are shown
below in Tables 2, 5, and 10, respectively.
|
| (2) Due Diligence |
| The APA team must satisfy itself that the relevant facts submitted
by the taxpayer are complete and accurate. This due diligence aspect
of the APA is vital to the process. It is because of this due diligence
that the IRS can reach advance agreements with taxpayers in the highly
factual setting of transfer pricing. Due diligence can proceed in
a number of ways. Typically, the APA team leader will submit in advance
of the opening conference a list of questions to the taxpayer for
discussion at the conference. The opening conference may result in
additional questions and an agreement to meet one or more times in
the future. These questions and meetings are not an audit and are
focused on the transfer pricing issues associated with the transactions
in the taxpayer’s application, or other transactions that the
taxpayer and the IRS may agree to add.
|
| (3) Analysis |
| A significant part of the analytical work associated with an
APA is done typically by the APA economist and/or an IRS field economist
assigned to the case. The analysis may result in the need for additional
information. Once the IRS APA team has completed its due diligence
and analysis, it begins discussions with the taxpayer over the various
aspects of the APA including the covered transactions, the TPM, the
selection of comparable transactions, asset intensity and other adjustments,
the appropriate critical assumptions, the APA term, and other key
issues. The APA team leader will discuss particularly difficult issues
with his or her managers, but generally the APA team leader is empowered
to negotiate the APA.
|
| (4) Discussion and Agreement |
| The discussion and agreement phase differs for bilateral and
unilateral cases. In a bilateral case, the discussions proceed in
two parts and involve two IRS offices — the APA Program and
the U.S. Competent Authority. In the first part, the APA team will
attempt to reach a consensus with the taxpayer regarding the recommended
position that the U.S. Competent Authority should take in negotiations
with its treaty partner. This recommended U.S. negotiating position
is a paper drafted by the APA team leader and signed by the APA Director
that provides the APA Program’s view of the best TPM for the
Covered Transaction, taking into account IRC § 482 and the
regulations thereunder, the relevant tax treaty, and the U.S. Competent
Authority’s experience with the treaty partner.
|
| The experience of the APA office and the U.S. Competent Authority
is that APA negotiations are likely to proceed more rapidly with a
foreign competent authority if the U.S. negotiating position is fully
supported by the taxpayer. Consequently, the APA office works together
with the taxpayer in developing the recommended U.S. negotiating position.
On occasion, the APA team will agree to disagree with a taxpayer.
In these cases, the APA office will send a recommended U.S. negotiating
position to the U.S. Competent Authority that includes elements with
which the taxpayer does not agree. This disagreement is noted in
the paper. The APA team leader also solicits the views of the field
members of the APA team, and, in the vast majority of APA cases, the
international examiner, LMSB field counsel, and other IRS field team
members concur in the position prepared by the APA team leader.
|
| Once the APA Program completes the recommended U.S. negotiating
position, the APA process shifts from the APA Program to the U.S.
Competent Authority. The U.S. Competent Authority analyst assigned
to the APA takes the recommended U.S. negotiating position and prepares
the final U.S. negotiating position, which is then transmitted to
the foreign competent authority. The negotiations with the foreign
competent authority are conducted by the U.S. Competent Authority
analyst, most often in face-to-face negotiating sessions conducted
periodically throughout the year. At the request of the U.S. Competent
Authority analyst, the APA team leader may continue to assist the
negotiations.
|
| In unilateral APA cases, the discussions proceed solely between
the APA Program and the taxpayer. In a unilateral case, the taxpayer
and the APA Program must reach agreement to conclude an APA. As in
bilateral cases, the APA team leader almost always will achieve a
consensus with the IRS field personnel assigned to the APA team regarding
the final APA. Under APA Program procedures, the IRS field personnel
are solicited formally for their concurrence in the final APA. This
concurrence, or any item in disagreement, is noted in a memorandum
prepared by the APA team leader that accompanies the final APA sent
forward for review and execution.
|
| (5) Drafting, Review, and Execution |
| Once the IRS and the taxpayer reach agreement, the final APA
is drafted. The APA Program has developed standard language that
is incorporated into every APA. The current version of this language
is found in Attachment A. APAs are reviewed by the APA Branch Chief
and the APA Director. In addition, the team leader prepares a summary
memorandum for approval by the Associate Chief Counsel (International)
(ACC(I)). On March 1, 2001, the ACC(I) delegated to the APA Director
the authority to execute APAs on behalf of the IRS. See Chief Counsel Notice CC-2001-016. The APA is executed for the taxpayer
by an appropriate corporate officer.
|
| Model APA at Attachment
A [§ 521(b)(2)(B)]
|
| Attachment A contains the current version of the model APA
language.
|
