How Will Country-by-Country Reporting Assist in Transfer Pricing Risk Assessment?

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David Ernick,  Esq.

By David Ernick, Esq. PricewaterhouseCoopers LLP Washington, D.C.

On December 21, 2015, the Treasury Department and the IRS issued highly anticipated proposed regulations that would require annual U.S. country-by-country (CbC) reporting for U.S.-parented multinational enterprise (MNE) groups. In issuing the regulations, the Treasury Department has demonstrated its intent to meet the multilateral commitment it made in the Organization for Economic Co-operation and Development (OECD) Base Erosion and Profit Shifting (BEPS) project negotiations to collect the CbC information for purposes of exchanging it with other governments.

Prop. Reg. §1.6038-4 describes a new reporting requirement for a U.S. person that is the ultimate parent entity of an MNE group (U.S. MNE group) with $850 million or more of consolidated group revenue for the preceding annual accounting period. Such U.S. MNE groups will be required to file an annual report (U.S. CbC Report) providing information, on a country-by-country basis, related to the U.S. MNE group's income and taxes paid, along with certain indicators of the location of economic activity within the MNE group. The U.S. CbC Report will follow the model template developed by the OECD in its Transfer Pricing Documentation and Country-by-Country Reporting, Action 13: 2015 Final Report (Action 13 Final Report). The reporting form is currently under development by the IRS and has not been officially numbered, and accordingly is referred to as “Form XXXX, Country-by-Country Report.” (The proposed regulations do not implement the “master file” reporting described in the Action 13 Final Report.)

The U.S. CbC Report will require to be reported, on a country-by-country basis, the following categories of information:

  • 1. Revenues
  • a. Unrelated party revenues
  • b. Related party revenues
  • c. Total revenues
  • 2. Profit / loss before income tax
  • 3. Income tax paid (on cash basis)
  • 4. Income tax accrued (current year)
  • 5. Stated capital
  • 6. Accumulated earnings
  • 7. Number of employees
  • 8. Tangible assets other than cash and cash equivalents


Treasury and the IRS deemed it appropriate to use the model template as a guide, given that the template was developed with the input of multiple stakeholders, including U.S. MNE groups, as a means to balance the benefits to tax administrations in collecting the information about an MNE group's global operations as compared to compliance costs and burdens imposed on MNE groups. The Preamble indicates that the proposed regulations generally are consistent with the agreed international standard for reporting by MNE groups, albeit tailored to be consistent with pre-existing information reporting requirements applicable for U.S. persons under §6011 , §6012 , §6031 , and §6038 .

In addition to providing greater transparency regarding the operations and tax positions taken by U.S. MNE groups, Treasury and the IRS note that, pursuant to income tax treaties and other treaties and bilateral agreements relating to the exchange of tax information, U.S. CbC Reports may be exchanged by the United States with other jurisdictions where the U.S. MNE group operates, provided such jurisdiction has agreed to provide the IRS with foreign CbC reports filed within their respective jurisdiction by foreign MNE groups that have operations in the United States. These foreign CbC reports will provide the IRS information that the agency expects will assist it in performing risk assessment of foreign MNE groups operating in the United States.

Treasury and the IRS assert that information required under the proposed regulations will improve the enforcement of U.S. tax laws by providing the IRS with greater transparency regarding the operations and tax positions taken by U.S. MNE groups. The Preamble to the proposed regulations also states that the CbC Reports will aid the IRS in performing “high-level transfer pricing risk identification and assessment.” It is noted, however, that such information will not by itself constitute conclusive evidence that transfer pricing practices are or are not consistent with the arm's-length standard, qualify as a substitute for a full transfer pricing analysis under the §482 regulations, or form the sole basis for any adjustments. Consistent with the guidance on implementation developed by the Action 13 deliverables, the CbC reports, however, may be used as a basis for further inquiry into the transfer pricing practices or related matters of an MNE group, and adjustments may be based on additional information developed through those inquiries in accordance with applicable law.

One notable omission from both the proposed regulations and the Action 13 Final Report is any guidance on how the information provided in the CbC reports is to be used to identify and assess transfer pricing risk. CbC reporting is a totally new documentation requirement that never previously was thought necessary to conduct a transfer pricing risk assessment. CbC reporting seems simply to have been deemed relevant for risk assessment in a request made in the June 2013 G8 Lough Erne Leaders Communique to the OECD to initiate CbC reporting:

Comprehensive and relevant information on the financial position of multinational enterprises aids all tax administrations effectively to identify and assess tax risks. The information would be of greatest use to tax authorities, including those of developing countries, if it were presented in a standardised format focusing on high level information on the global allocation of profits and taxes paid. We call on the OECD to develop a common template for country-by-country reporting to tax authorities by major multinational enterprises, taking account of concerns regarding non-cooperative jurisdictions.


Note, however, that the G8 request was only for “high level information” in order to conduct a tax risk assessment. (There was no specific connection to a transfer pricing risk assessment.) And the data points to enable tax authorities to conduct this general tax risk assessment were limited to two items — profits and taxes paid.

The OECD initially responded to this request shortly thereafter in Action 13 of the July 2013 BEPS Action Plan, which described the goal of the OECD to:

Develop rules regarding transfer pricing documentation to enhance transparency for tax administration, taking into consideration the compliance costs for business. The rules to be developed will include a requirement that MNE's provide all relevant governments with needed information on their global allocation of the income, economic activity and taxes paid among countries according to a common template.


After the OECD released its discussion draft on transfer pricing documentation and CbC reporting, comments were received noting that the OECD had not appeared to meet its goal of balancing the usefulness of the data to tax administrators for risk assessment and other purposes with any increased compliance burdens placed on taxpayers. The compliance burdens were clear, with some taxpayers estimating that initial and ongoing costs could run to well over a million dollars. The usefulness of the data to tax administrators was not obvious, however, as it was less clear how the data being provided was supposed to assist in transfer pricing risk assessment — at least if the transfer pricing rules were to continue to be based on the arm's-length principle.

In thinking through how the data to be reported on the CbC template could usefully serve a transfer pricing risk assessment purpose, it is useful to evaluate how each data point is necessary or helpful to achieve that purpose. It is not intuitively obvious, for example, how producing a country-by-country breakdown of stated capital and accumulated earnings could be at all useful in performing a transfer pricing risk assessment.

It was immediately clear, however, how other data points requested might end up being used inappropriately in a transfer pricing risk assessment, notwithstanding the OECD's continued support for relying on the arm's-length principle. Many commentators noted that the request to include on the template a country-by-country listing of number of employees, tangible assets, and revenues bears a striking resemblance to the same factors (payroll, property, and sales) used by many states within the United States as part of a transfer pricing system based on formulary apportionment.

The danger that the data from the CbC template would be used to make such formulary adjustments was so significant that the Action 13 Final Report includes explicit instructions and a “commitment” that tax authorities should not propose such adjustments and that, in the event they do, such adjustments will be promptly conceded in any relevant Competent Authority proceeding. It is not clear how such a commitment will be monitored and enforced, and no instructions are provided as to the appropriate use of the data from the CbC template in a transfer pricing risk assessment.

Concerns regarding inappropriate use of CbC reporting are particularly acute for U.S. MNEs. From the beginning, questions have been raised regarding whether the OECD's BEPS project inappropriately targets and disproportionately impacts U.S. companies. The outsized economic success and the high value of U.S. MNEs' intellectual property make them a particularly attractive target for foreign governments in search of additional tax revenue.

Such targeting has raised concerns by the tax-writing committees in Congress that CbC reporting is a particularly potent tool to be used by foreign governments to increase the tax paid by U.S. MNEs, and that their success in the endeavor will come at the expense of the U.S. Treasury, through increased foreign tax credits. In June and August of 2015, Senate Finance Committee Chairman Orrin Hatch and then-House Ways and Means Committee Chairman Paul Ryan sent letters to Treasury Secretary Jacob Lew specifically requesting an explanation of the benefits to the U.S. government of CbC reporting and how the data would be utilized. The response from Treasury in October of 2015 noted that the overall goal of the OECD's work on transfer pricing documentation was to minimize the burden on businesses by standardizing documentation requirements across countries, but did not explain how CbC reporting would be useful in transfer pricing risk assessment.

In addition to making formulary apportionment types of transfer pricing adjustments, another obvious way the data from CbC reporting may be used in practice by tax authorities is perhaps as circumstantial evidence of transfer pricing risk. That is, if the data reported on the CbC template indicates a significant amount of taxable income reported in a low-tax jurisdiction unaccompanied by significant tangible assets (such as factories, offices, equipment, etc.) and/or employees, tax authorities may be interested in performing a more in-depth functional analysis to evaluate if arm's-length transfer pricing has been achieved. Such factors might be considered to be consistent with, but not proof of, non-arm's-length transfer pricing.

With respect to U.S. MNEs, presumably foreign tax authorities may be interested in using CbC reporting in such a manner in order to increase foreign tax collections. However, if CbC reporting is to be used as circumstantial evidence of non-arm's-length transfer pricing, it provides no guidance as to which country would be entitled to make a transfer pricing risk adjustment. In that regard, it is notable that the Administration's previous proposals regarding certain “excess returns” associated with transfers of intangibles offshore would have used similar circumstantial evidence of non-arm's-length transfer pricing to pull income from outbound intangibles transfers back into the United States, through a Subpart F inclusion.

Consequently, it seems likely that CbC reporting will lead to more transfer pricing controversies, as foreign countries use the information from such reporting to target the profits of U.S. companies, while the United States would consider that any potential transfer pricing adjustments from outbound intangibles transfers should accrue to its benefit. The fact that CbC reporting is being implemented unaccompanied by any guidance as to how it can be useful in conducting a transfer pricing risk assessment is noteworthy. As attention shifts to the need for clear, objective standards to promote principled tax administration and economic growth, it is critical that some sort of agreement be reached as to how each data point provided on the CbC template should be used in evaluating transfer pricing risk.