The Transfer Pricing Regs Need a Good Edit

The U.S. government has broad discretion to change the transfer pricing regulations as they apply to corporate multinationals, and these regulations need changing because they give too much leeway to taxpayers and will continue to serve an important function in the division of international tax jurisdiction regardless of the fate of pending reform proposals. Xilinx and Veritas illustrate that taxpayers whose transfer pricing is challenged can successfully defend themselves using arm’s length definitions in the government’s own regulations. U.S. tax administrators should write revised transfer pricing rules that afford taxpayers less contracting freedom. They should incrementally add formulaic elements to rules and use high-friction, nontax reference points such as employee location. Incremental formulary changes carry less risk than the sweeping adoption of a global formulary apportionment standard. Although such changes might appear to present a tension with longstanding treaty commitments to the arm’s length standard in transfer pricing, as articulated by OECD, a developing global consensus supports increased incremental use of formulary methods. Treaty partners might well accept and perhaps follow such changes, particularly if they resulted in the allocation of income away from low-tax affiliates and toward treaty partner jurisdictions as well as the U.S