IRS Issues Transfer Pricing Regs on Treatment of Services

The Treasury Department and IRS today issued proposed and temporary regulations on the tax treatment of services under the § 482 transfer pricing rules:

• Press Release HP-40
• Announcement 2006-50
• Proposed Regulations
• Temporary Regulations

The Treasury Department and the IRS today issued proposed and temporary regulations on the tax treatment of services transactions, including services transactions related to intangible property, under the related party transfer pricing rules. The regulations update the existing rules regarding related party services transactions (which have not been revised since their issuance in 1968) to reflect an increasingly global economy, as well as the significance of cross-border services.

"The proposed and temporary regulations respond appropriately to comments that the proposed regulations would not have achieved their intended purpose of simplifying transfer pricing for low-margin services," explained Treasury International Tax Counsel Hal Hicks. "The new guidance takes low-margin services off the table and makes administration of the rules more productive for both taxpayers and the IRS. The regulations are issued in proposed and temporary form with a delayed effective date in order to allow taxpayers sufficient time to implement any necessary internal procedural changes and to provide further comments before finalization. Along with the proposed cost sharing regulations issued last year and forthcoming re-proposed global dealing regulations, the proposed and temporary services regulations modernize our transfer pricing rules to keep them current with changing business practices."

Key Highlights of the Proposed and Temporary Regulations:

• Reduce administrative and compliance burdens for low-margin services.
• Ensure that valuable intangibles cannot be transferred outside the United States for less than arm's length consideration.
• Update guidance on the transfer pricing methods to determine the arm's length price in a services transaction.
• The transfer pricing methods provided are generally consistent with current regulations applicable to transfers of tangible and intangible property and are consistent with international standards in this area.
• In response to significant comments received on the 2003 proposed regulations, the Simplified-Cost Based Method for pricing low-margin services is eliminated. In its place, the proposed and temporary regulations set forth the Services Cost Method, which provides two avenues for routine back-office services to be charged at cost with no markup. This method reduces complexity and enables taxpayers to better comply with their obligations under section 482, while also allowing the IRS to appropriately focus its audit resources only on high-margin services.
• Coordinate the rules applicable to services related to intangibles with the transfer pricing rules applicable to transfers of intangible property.