The increase in Internal Revenue Service (IRS) funding and the Biden administration’s goal to increase audits of high-income earners and large corporations could bring additional scrutiny to transfer pricing. The Biden administration has outlined a policy to narrow the “tax gap,” which is the difference between taxes owed and taxes collected, through a multiyear program to raise tax revenue by focusing on high-income earners and large corporations. This could result in increased attention to transfer pricing, which has been the target of political and public concerns over tax avoidance.
The Inflation Reduction Act increased IRS funding by nearly $80 billion through 2031, including more than $45 billion for enforcement. The Congressional Budget Office reported that the additional appropriation will raise the IRS enforcement budget by 69 percent and the IRS operations support budget by 53 percent through 2031. The administration has stated that its priority of enforcement will not raise taxes on those earning less than $400,000 a year.
Possible Increase in Audits of Large Corporations
Since 2010, the IRS has suffered from historical rates of employee headcount attrition. The IRS headcount has declined by almost 13 percent from 2012 to 2021 while the U.S. government’s revenue collections have more than doubled. Audit rates have correspondingly declined between 2010 and 2018 with audit rates of large corporations (more than $20 billion in assets) declining by almost 50 percent. A large portion of the transfer pricing issues taken up for specific scrutiny by the IRS’s Transfer Pricing Practice (TPP) comes from audits of large corporations.
In addition to audits, the IRS addresses key areas of non-compliance through campaigns. Campaigns like the Captive Services Provider Campaign are directly linked to perceived non-compliance in the transfer pricing area covered by the IRC Section 482 regulations. Other campaigns around international issues, such as foreign tax credits, Puerto Rico Act 22, and matters related to the Tax Cuts and Jobs Act, will impact businesses that often have parallel transfer pricing issues. The increasing scrutiny on high-net-worth taxpayers and their businesses will also increase the amount of transfer pricing matters that the IRS assesses and designates for further examination.
The IRS finished accepting applications for more than 20 transfer pricing economist vacancies towards the end of 2022 and posted 80 transfer pricing focused tax law specialist vacancies for 2023 on www.usajobs.gov. The TPP in Large Business & International (LB&I) division is increasing hiring for 2023 and could continue to enhance resources in the coming years. While funding increases were needed to restore IRS resources, the increased enforcement budget and political push to focus those resources on large corporations and high net worth individuals should increase resources available to examine transfer pricing matters.
Republicans in the House of Representatives have stated their intent to repeal the additional IRS funding, but this is unlikely to happen as long as there is divided government in Washington. Anticipating the increased scrutiny, companies should assess their transfer pricing processes and governance as part of their approach to tax risk management.
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