IRS Transfer Pricing Enforcement Trend Calls for Self-Assessment

In two US Tax Court transfer pricing cases filed in July, the IRS continued its trend of asserting Section 6662 penalties if it doesn’t deem a taxpayer’s documentation is sufficient.

In Newell Brands v. Commissioner, a consumer products manufacturer is contesting its alleged underpayment of $90 million in tax and $34 million in related penalties. The taxpayer in Airbnb v. Commissioner petitioned the Tax Court regarding an IRS determination that it underpaid its taxes by $1.33 billion for 2013, plus $573 million in penalties.

In light of the IRS’s enforcement position, taxpayers should self-assess their current transfer pricing documentation and determine whether any change is warranted. Because any adjustment over $20 million can trigger a 40% penalty, this change could easily become material in amount.

The transfer pricing issue in Newell focused on intercompany procurement services provided by Newell Rubbermaid Asia Services to Newell Brands Inc. Newell supported its transfer pricing with documentation employing the comparable uncontrolled services price method.

The IRS found that the comparable uncontrolled services price method wasn’t the best method because Newell’s comparable transactions weren’t comparable and its transactions hadn’t been priced at arm’s length. The IRS asserted penalties under Section 6662 due to Newell’s gross valuation misstatements on its returns and substantial understatements of its income tax.

In Airbnb, the IRS claimed Airbnb Inc. understated its US taxable income by $4.2 billion based on resources and rights that it made available to its Irish affiliate, Airbnb International. Formed in 2013, the affiliate entered into a technology and intellectual property licensing agreement with Airbnb that year, sharing technology, products, and customer and marketing intangibles.

Airbnb provided the IRS with relevant documents and economic analyses used to determine the cost of the licenses employing an “income method.” According to the taxpayer’s comments in Tax Court filings, the IRS employed an unspecified method based on Airbnb financing transactions to support its redetermination of tax. The IRS analysis found the tax deficiency exceeded Section 6662 thresholds, so the IRS imposed 40% penalties.

Congress enacted Section 6662 penalties in 1989 to encourage taxpayers to make reasonable efforts to determine and document arm’s-length transfer prices. These penalties may be asserted on both a transactional and net adjustment basis and may produce a 20% or 40% penalty.

The regulations provide for a reasonable cause and good faith exception to avoid penalties if valid contemporaneous transfer pricing documentation that demonstrates the reasonableness of the taxpayer’s choice of pricing methods is provided within 30 days of an IRS request.

For decades, the IRS didn’t apply the Section 6662 penalty provisions as assertively as the statute and regulations would allow. But in 2018, the IRS Advisory Council observed that the quality of some transfer pricing documentation possibly fell short of the Section 6662 requirements, but the IRS hadn’t consistently asserted the penalty.

After the IRS Advisory Council report’s publication, IRS executives messaged an intention to apply these penalties more frequently than in the past, stating that documentation must be of a sufficient quality to prevent imposition of the penalty.

Consistent with the changed IRS position regarding penalty assertion, two recent high-profile cases have included penalties in addition to large proposed adjustments—Amgen ($10.7 billion of tax, penalties, and interest) and Microsoft ($28.9 billion of taxes, plus penalties and interest).

Newell and Airbnb seem to indicate the commitment of the IRS to its policy that documentation must be “sufficient” to prevent transfer pricing penalties. Taxpayers should critically evaluate their transfer pricing documentation based on this new policy.

The cases are Newell Brands, Inc. v. Commissioner, T.C., No. 11897-24, petition filed 7/19/24 and Airbnb, Inc. v. Commissioner, T.C., No. 12423-24, petition filed 7/30/24.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

Author Information

Steven C. Wrappe is Grant Thornton’s transfer pricing technical leader in its Washington National Tax Office.

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