Taxpayer Challenges Validity of IRS Transfer Pricing Regulation

In a petition recently filed in the U.S. Tax Court, a taxpayer has challenged the Internal Revenue Service (IRS) regulation that provides that the IRS can reallocate income between affiliates even when foreign law prohibits making the payment or receipt in question.  The dispute is important for several reasons outlined in this newsletter.  Taxpayers may want to examine their positions on prior tax returns.

On March 3, 2013, the 3M Company filed a petition in the U.S. Tax Court challenging the validity of an Internal Revenue Service (IRS) transfer pricing regulation stating that the IRS can reallocate income between related parties even if foreign legal restrictions prohibit the payment or receipt (Treas. Reg. §1.482-1).  An exception to this precludes an IRS reallocation if the foreign restrictions are generally applicable to all similarly situated persons, whether controlled or uncontrolled.  The IRS adopted this regulatory approach in 1994, shortly after losing,