Arm’s Length Standards (ALS) Essay
The IRS usually do not need to validate ordinary business transactions since both the involved parties behave on their own self-interests. However, the IRS is skeptic of any transactions when it comes to evasion of estate taxes and international subsidiaries. When two unrelated companies enter in a transaction, they are involved in arm’s length transaction. However, such is not the case for related companies as they may try to distort the price of the transaction to avoid tax burden. As the boundary of tax evasion and tax avoidance is very thin, especially when it comes to estate tax and international subsidiaries, people often tend to topple over to the evasion side. The case of Estate of H.A. True, Jr. v Commissioner of …show more content…
Transfer pricing in North America began in 1917 when the U.S. government added section 41 to the Internal Revenue Code, giving the government right to allocate income and deductions among related parties (www.voxprof.com). In 1928, a purpose was established for this reallocation in order to prevent tax avoidance and to determine the true tax liability of the parties. The arm’s length standard was first enunciated in the 1935 regulations promulgated under section 45 of the code, the provision then relevant to intercompany pricing (infra Part II.A). Section 482 of the code provides broad discretion in allocating income, deductions, allowances and credits among the related parties in order to prevent tax evasion (I.R.C. § 482). The statute serves primarily to prevent multinational corporations to employ abusive transfer pricing who can easily manipulate cross-border, intercompany transactions to shift domestic profits, and thus the U.S. tax base overseas. This empowers the Commissioner to reallocate income among related parties to ensure that the taxpayers report their true taxable income (I.R.C. § 482; Reg. § 1.482-1(a)(1)).
The standards for the arm’s length standards have evolved since its enunciation, and now comprises of a complex, formulary system to govern transfer pricing. The “first wave” or the major change on transfer pricing regulations occurred in 1968 when the IRS published its regulations detailing