Advance pricing agreements: practical issues to consider in determining whether to pursue one.
In March, the Internal Revenue Service published Rev. Proc. [91-22,.sup.1+] which sets forth the procedures for taxpayers to follow in applying for an Advance Pricing Agreement An Advance Pricing Agreement (APA) is an agreement between a taxpayer and the IRS on an appropriate transfer pricing methodology (TPM) for some set of transactions at issue (called "Covered Transactions"). . The revenue procedure is a substantial improvement over the earlier draft version, which had been distributed informally to a limited group of practitioners and taxpayers for comments, and had subsequently been published in the press.  This article focuses not so much on the provisions of the revenue procedure but rather on practical issues that taxpayers should consider when thinking about whether to pursue an Advance Pricing Agreement.
Apportionment The process by which legislative seats are distributed among units entitled to representation; determination of the number of representatives that a state, county, or other subdivision may send to a legislative body. The U.S. Methodology
Rev. Proc. 91-22 expressly provides that taxpayers may apply for an APA (All Points Addressable) Refers to an array (bitmapped screen, matrix, etc.) in which all bits or cells can be individually manipulated.
APA - Application Portability Architecture using one of the three traditional pricing methodologies0--comparable uncontrolled price, resale resale n. selling again, particularly at retail. In many states a "resale license" or "resale number" is required so that the state can monitor the collection of sales tax on retail sales.
RESALE. price, or cost-plus--or a fourth methodology. Although any of the three traditional methods or a fourth method theoretically ought to produce the same result when applied to the same set of facts, any taxpayer that has attempted to apply different methodologies can readily attest To solemnly declare verbally or in writing that a particular document or testimony about an event is a true and accurate representation of the facts; to bear witness to. To formally certify by a signature that the signer has been present at the execution of a particular writing so as to the fact that consistency of results is rarely the case. To take a simple example, suppose that a foreign-controlled U.S. company acts as a super-distributor of high-tech high-tech also hi-tech
Of, relating to, or resembling high technology.
same as hi-tech
Adj. 1. electronics products manufactured by its foreign parent company.  A review of publicly available data reveals that large distributors of these types of electronics products generally earn gross margins of 17 to 20 percent with operating profits Operating profit (or loss)
Revenue from a firm's regular activities less costs and expenses and before income deductions.
See operating income. before taxes and interest of 3 to 5 percent. Suppose also that the comany has used a transfer pricing Transfer pricing refers to the pricing of goods and services within a multi-divisional organization, particularly in regard to cross-border transactions. For example, goods from the production division may be sold to the marketing division, or goods from a parent company may be methodology whereby the parent company transfers product manufactured by it to the subsidiary at its production cost-plus cost-plus
The cost of production plus a fixed rate of profit.
cost-plus 5 percent. Using the cost-plus 5-percent method, the U.S. taxpayer has generally earned gross margins of approximately 10 to 12 percent and has earned net operating profits before taxes and interest ranging from 2 to break even. A review of the available U.S. data on manufacturers of similar high-tech electronics components reveals that cost-plus 5 percent is on the low range of profits earned by manufacturers of similar products. There is no publicly available data on what manufacturers of similar products earned in the parent company's country of manufacture.
An initial question to consider is what the U.S. company's risk might be on IRS An abbreviation for the Internal Revenue Service, a federal agency charged with the responsibility of administering and enforcing internal revenue laws. examination. Under the current regulations, the priority of methods for the pricing of tangible property tangible property n. physical articles (things) as distinguished from "incorporeal" assets such as rights, patents, copyrights, and franchises. Commonly tangible property is called "personalty. would apply. Since there was no comparable uncontrolled price in the stated facts, the IRS would look to the method that has second priority, the resale price method. Assuming that on audit an agent would use the resale price method, the question arises how the agent would apply the method. Under the traditional view of resale price method, the agent would reduce the taxpayer's cost of goods sold Cost of goods sold
The total cost of buying raw materials, and paying for all the factors that go into producing finished goods.
cost of goods sold so that the gross margin was adjusted to the comparable range of 17 to 20 percent, or to a specific number within that range. Under a revised view of the resale price method that agents have recently been using in inbound in·bound 1
Bound inward; incoming: inbound commuter traffic.
Adj. 1. inbound cases, the agent might look to the net operating profit before tax of the potentially comparable companies and adjust the taxpayer's gross margin upward to produce the same net profit margin.  Under the current priority of methods, the agents would not take into account the fact that the parent company has an apparently reasonable cost-plus methodology, since this method has a lower priority that the resale price method. Nor would the agents necessarily consider information on fourth methods, such as the Berry Berry, former province, France
Berry (bĕrē`), former province, central France. Bourges, the capital, and Châteauroux are the chief towns. ratio, or return on assets Return on assets (ROA)
Indicator of profitability. Determined by dividing net income for the past 12 months by total average assets. Result is shown as a percentage. ROA can be decomposed into return on sales (net income/sales) multiplied by asset utilization (sales/assets). methods, that might show that the reason for the U.S. taxpayer's lower gross margins and lower net profitability is that it performs fewer functions and incurs fewer expenses than the large public distributors to which it is being compared.
One of the advantages of the APA process is that the taxpayer is apparently not limited to the current priority of methods or to a traditional application of those methods. In the foregoing example, it is clear that the transfer pricing methodology was not set in an abusive Tending to deceive; practicing abuse; prone to ill-treat by coarse, insulting words or harmful acts. Using ill treatment; injurious, improper, hurtful, offensive, reproachful. manner, since the cost-plus was well within the range of reason and below that of any potential comparables. Yet that approach reached a result that may not be acceptable to the IRS. If the goal of the APA process is to reach a "reasonable" result, then the example just given is probably a good one for consideration of an APA, since the taxpayer might face an uncertain result, or an unfavorable one, upon examination.
This example also raises the issue whether a taxpayer should focus on pure methodology or on bottom-line results. If the taxpayer is considering applying for an APA, should the taxpayer attempt to focus on the gross margin of the U.S. taxpayer, the U.S. taxpayer's net operating profit before taxes, or the foreign parent company's cost-plus? In the case of both a gross margin methodology or a cost-plus methodology, the taxpayer might not get ultimate certainty even if an APA were granted. This is because either the IRS or the foreign tax authorities could question the amount of below-the-line expenses in applying the resale price method, or might question the costs of the foreign manufacturer in applying the cost-plus methodology. On the one hand, focusing upon the net operating profit before taxes and interest would give the U.S. taxpayer greater certainty of result and freedom from adjustment. On the other hand, the foreign jurisdiction might object to guaranteeing the profit of the U.S. subsidiary. In this context, if a guarantee of profit is essentially being made, should not the profit be lower to reflect the lack of risk on the part of the U.S. subsidiary?
Dealing With Open Years
Once a taxpayer gets over the initial hurdle HURDLE, Eng. law. A species of sledge, used to draw traitors to execution. of deciding what methodology it should use, an additional question that must be raised is what effect this methodology will have on open years, if it is not the methodology that is currently being employed by the taxpayer. This is an extremely significant issue for taxpayers that are recognizing that their past methodology has been improper
1. An introspective consideration of one's own thoughts or emotions.
2. Examination of one's own body for medical reasons. as a result of increased IRS and foreign tax authority scrutiny of cross-border transfer pricing. Outside the context of an APA, many taxpayers struggle with the issue of trying to change something they know has not been properly done in the past. Does the taxpayer play audit lottery lottery, scheme for distributing prizes by lot or other method of chance selection to persons who have paid for the opportunity to win. The term is not applicable when lots are drawn without payment by the interested parties to determine some matter, e.g. and hope that it does not get caught, or wait to deal with the issue when it has been raised on audit? Does the taxpayer change to the right methodology all at once and cross its fingers that the issue will not be picked up on audit, or does the taxpayer change gradually year by year until the proper methodology is achieved, hoping that incremental Additional or increased growth, bulk, quantity, number, or value; enlarged.
Incremental cost is additional or increased cost of an item or service apart from its actual cost. changes will not be a red flag for a transfer pricing audit?
Individual taxpayers will answer these issues in different ways outside the context of an APA. The issue, however, takes on increased importance when the taxpayer is proposing an APA, since one of the procedural requirements for obtaining an APA is to apply the method to prior years in the event that the method is not consistent with what was done in prior years. The taxpayer is thereby providing a complete audit trail for the IRS. Obviously, the easiest cases for consideration of an APA are those where the taxpayer is maintaining a consistent method, or where the method produces very small deviations from what was reported on returns in prior years. Cases where there are significant differences may not be appropriate cases for an APA.
There evidently have been cases where taxpayers that have undergone an IRS examination and that have had substantial deficiencies proposed have applied for APAs with respect to their current years. It is possible that the "reasonable methodology" agreed to in an APA may be more favorable fa·vor·a·ble
1. Advantageous; helpful: favorable winds.
2. Encouraging; propitious: a favorable diagnosis.
3. to the taxpayer than the methodology used by examining agents, who are necessarily taking an aggressive position with the view that a substantial portion of their adjustment will be whittled down, either by Appeals or the courts. Assuming that the taxpayer finds itself in such a situation, it is reasonable to assume that the IRS would allow the taxpayer to apply the methodology agreed upon Adj. 1. agreed upon - constituted or contracted by stipulation or agreement; "stipulatory obligations"
noncontroversial, uncontroversial - not likely to arouse controversy in an APA context retroactively ret·ro·ac·tive
Influencing or applying to a period prior to enactment: a retroactive pay increase.
[French rétroactif, from Latin to all open years, as long as the facts concerning the taxpayer's operations, functions, risks, etc., were the same or similar to those existing for the tax years to which an APA would apply.
and Other Representations
Suppose our taxpayer in the previous example decides that it wants to apply for an APA, and that it would like to target a net operating profit before tax and interest of 2 to 4 percent. The taxpayer realizes that any factual information that it submits is the type of information that the IRS could discover, in any event, upon an audit.  In pursuing the APA process, however, the taxpayer will necessarily be making statements that could potentially be admissions against interest if the process fails. For example, the taxpayer would be characterizing what it thought was or was not a reasonable range of profitability for its U.S.-based activities and its foreign parent's foreign-based activities. It might also be stating that certain potentially comparable companies are, or are not, comparable to the taxpayer's situation. In the event that the process concludes without reaching agreement, the taxpayer may want to retain its flexibility to argue as strenuously stren·u·ous
1. Requiring great effort, energy, or exertion: a strenuous task.
2. Vigorously active; energetic or zealous. as possible to sustain a return position, which argument may require the taxpayer to back away from the representations made as part of the APA process.
If the taxpayer decides that, on balance, it is better off trying to seek a negotiated settlement via an APA that would apply prospectively as well as retroactively, how does a taxpayer do so without burning its bridges in the event that the process fails? One way to do so is to have an agreement with the IRS that any factual material submitted as part of the APA process will be available to the IRS for all legitimate tax purposes, whereas nonfactual information will not be used by either party in a potential administrative proceeding An administrative proceeding is a non-judicial determination of fault or guilt and may include in some cases penalties of various forms.
A "Captain's Mast", held by a commanding officer of a warship is one such proceeding. or judicial proceeding. The parties could also stipulate stip·u·late 1
v. stip·u·lat·ed, stip·u·lat·ing, stip·u·lates
a. To lay down as a condition of an agreement; require by contract.
b. what would be considered nonfactual matters that would not be treated as admissions in the event that an agreement is not reached on an APA or, even if agreement is reached, that would not be applied to prior years without the parties' consent.
Rev. Proc. 91-22 encourages taxpayers to use pre-filing conferences to clarify issues. One of the issues that could be clarified in a pre-filing conference is establishing ground rules to identify and handle factual matters, as well as nonfactual matters.
The pre-filing conference can be an extremely valuable opportunity for the taxpayer to explore the possibility of an APA without becoming so committed to the process that it suffers actual or perceived harm in the event that an agreement is not reached. One issue that the taxpayer might explore at a pre-filing conference is whether its case is the type that the IRS would consider for an APA. For example, the IRS has indicated publicly that it is primarily interested in pursuing APAs involving countries with which the United States United States, officially United States of America, republic (2005 est. pop. 295,734,000), 3,539,227 sq mi (9,166,598 sq km), North America. The United States is the world's third largest country in population and the fourth largest country in area. has a bilateral bilateral /bi·lat·er·al/ (-lat´er-al) having two sides, or pertaining to both sides.
1. Having or formed of two sides; two-sided.
2. income tax convention and that have expressed interest in the APA process. A taxpayer at a pre-filing conference could ascertain from the IRS whether the other country that it would propose for inclusion in an APA is receptive receptive /re·cep·tive/ (re-cep´tiv) capable of receiving or of responding to a stimulus. to the process, and whether, if not, the IRS would be willing to entertain a unilateral unilateral /uni·lat·er·al/ (-lat´er-al) affecting only one side.
On, having, or confined to only one side. APA. The taxpayer might also explore with the IRS the methodology that it proposes to employ, especially if a fourth method-type of methodology would be proposed.
Other issues that a taxpayer might explore include whether other taxpayers in its industry or similar industries have applied for APAs, and what methodologies the IRS has found appropriate in those cases. The extent of data, documents, or analysis to be supplied by the taxpayer; the need for an independent economics, or other type of, expert, the prospects for a Competent Authority consideration, and IRS timing for handling the APA could also be discussed. The foregoing list does not exhaust Exhaust may refer to:
Confidentiality of Data
Submitted by the Taxpayer
Many taxpayers have expressed concern that information submitted to the IRS as part of an APA is particularly sensitive information that should not be disclosed to the public. For example, taxpayers might be required to submit business plans describing a new product marketing strategy before the product has been announced to the market and competitors are aware of the product. Revenue and cost projections may also be particularly sensitive data that a taxpayer would not want disclosed to its competitors. The IRS has taken the position than any information submitted as part of the APA process is taxpayer return information, protected by section 6103 of the Internal Revenue Code The Internal Revenue Code is the body of law that codifies all federal tax laws, including income, estate, gift, excise, alcohol, tobacco, and employment taxes. These laws constitute title 26 of the U.S. Code (26 U.S.C.A. § 1 et seq. and, thus, not subject to being turned over in response to a Freedom of Information Act suit.
There certainly is a strong argument that could be made for this position, especially since the IRS district office will be involved in verifying ver·i·fy
tr.v. ver·i·fied, ver·i·fy·ing, ver·i·fies
1. To prove the truth of by presentation of evidence or testimony; substantiate.
2. any information submitted. The taxpayer will also be submitting prior years' tax returns and other information that relates to its potential audit history with the IRS. On the other hand, since there currently is no express statutory provision dealing with material submitted as part of an APA process, there is some room for doubt about the IRS's position. As a practical matter, taxpayers may wish to provide in any agreement reached with the IRS, that should any information become subject to turnover pursuant to a Freedom of Information Act suit, the taxpayer will be allowed to redact To edit sensitive documents before release to the public. With today's heightened awareness of the legal implications of exposing information, it is common to redact even e-mail messages before sending them. any identifying information prior to the time that the information is turned over to the court or the plaintiff in such a suit.
Dealing with IRS Field Agents
Rev. Proc. 91-22 provides that information submitted as part of the APA process will be verified ver·i·fy
tr.v. ver·i·fied, ver·i·fy·ing, ver·i·fies
1. To prove the truth of by presentation of evidence or testimony; substantiate.
2. by field agents following initial review by the National Office. One concern that many taxpayers have is how this verification process will be handled by the field agents. Will the agents be content to examine or ask additional questions concerning the information submitted by the taxpayer, or will the agents commence a full-blown audit, looking for Looking for
In the context of general equities, this describing a buy interest in which a dealer is asked to offer stock, often involving a capital commitment. Antithesis of in touch with. additional issues? These issues become more acute if the taxpayer has an examination pending for earlier years, or is involved in controversy with regard to earlier years.
Since the APA process is a voluntary one initiated by the taxpayer, the taxpayer should have some ability to limit the agents' inquiries to issues that are relevant to the taxpayer's submission, and to verifying the information submitted by the taxpayer. If the taxpayer believes that the agents' inquiries are going too far, the taxpayer can always seek guidance from the National Office or, potentially, withdraw its application for an APA and adopt a defensive mode. Obviously, a taxpayer that is in this position may wish that it had never started the APA process, especially if the taxpayer had not been recently subject to audit. Fortunately, it has been the author's experience that agents in this position, whether IRS agents or foreign revenue agents, have not used an APA request as an open invitation to an unlimited audit of the taxpayer's transactions. Nor has an APA request triggered a retaliatory re·tal·i·ate
v. re·tal·i·at·ed, re·tal·i·at·ing, re·tal·i·ates
To return like for like, especially evil for evil.
To pay back (an injury) in kind. type of audit for open years that would not otherwise have been subject to audit. Thus, although it involves a leap of faith, one has to assume that the IRS is interested in pursuing APAs as a program, and that any actions (such as aggressive use of audits following application for an APA) that would be viewed by taxpayers as detriments to the APA process would not be undertaken without good cause.
Dealing with Foreign Revenue Authorities
The discussion to this point has primarily concerned the IRS and the application of Rev. Proc. 91-22. What about dealing with the foreign revenue authorities as part of the APA process? An initial question arises concerning the timing of contacting foreign revenue authorities. Should the IRS be contacted first, or should the foreign tax authority be contacted first? To some extent, the answer depends upon the ultimate residence of the multinational taxpaying group as well as the state of sophistication so·phis·ti·cate
v. so·phis·ti·cat·ed, so·phis·ti·cat·ing, so·phis·ti·cates
1. To cause to become less natural, especially to make less naive and more worldly.
2. of the home country tax authorities. A taxpayer may also wish to consider where it has the larger potential exposure in the event that its proposed APA will involve a change in method from that currently being used. Thus, a Japanese-controlled corporation that believes it may have substantial potential U.S. income tax liability may wish to contact the IRS before contacting the NTA NTA National Tour Association
NTA Nitrilotriacetic Acid
NTA National Treatment Agency (for Substance Misuse; UK)
NTA Net Tangible Asset
NTA National Tutoring Association
NTA National Transportation Agency , unless it had some strong indications from the NTA that the NTA would favorably fa·vor·a·ble
1. Advantageous; helpful: favorable winds.
2. Encouraging; propitious: a favorable diagnosis.
3. and expeditiously ex·pe·di·tious
Acting or done with speed and efficiency. See Synonyms at fast1.
ex consider its proposal. 
Whether the taxpayer chooses to approach the IRS or the foreign tax authority first, it would be prudent for the taxpayer to commence discussions with the tax authority not contacted first shortly after discussions begin with the first to be contacted. It is theoretically possible that the taxpayer could negotiate solely with the IRS, leaving the IRS to negotiate on its behalf with the foreign tax authorities. Such an approach, however, would not seem prudent unless the taxpayer were wholly indifferent INDIFFERENT. To have no bias nor partiality. 7 Conn. 229. A juror, an arbitrator, and a witness, ought to be indifferent, and when they are not so, they may be challenged. See 9 Conn. 42. to the result that might be achieved as a result of the negotiation process. More likely, the taxpayer would want to negotiate with each set of tax authorities separately, recognizing that each one will arrive at a position that it feels represents a reasonable result, taking into account its own revenue interests. Assuming that the gap between the positions were not too wide, the Competent Authorities could then negotiate an agreeable settlement, subject to input from the taxpayers. Unfortunately, the Competent Authority process has not been one where taxpayers have traditionally been allowed to participate actively. Inasmuch as in·as·much as
1. Because of the fact that; since.
2. To the extent that; insofar as.
1. since; because
2. an APA is proposed voluntarily by the taxpayer and is based on the record created by the taxpayer (rather than by a thorough audit), the taxpayer ought to be allowed to have a stronger participatory role in Competent Authority negotiations over an APA process. For example, a taxpayer would be present during Competent Authority discussions of the facts of its particular case, since it would presumably pre·sum·a·ble
That can be presumed or taken for granted; reasonable as a supposition: presumable causes of the disaster. be better informed about those facts than either of the tax authorities. The tax authorities could then deliberate among themselves concerning the proper resolution of the issues that would be recommended for Competent Authority agreement. Such a procedure might represent a good compromise to assure that an accurate factual record is made to support the proposal, while ensuring the confidentiality of the Competent Authority process.
Issues that a taxpayer might want to discuss with foreign tax authorities considering an Advance Pricing Agreement include the procedures that the foreign tax authorities will follow in handling the agreement. For example, would the foreign tax authorities follow Rev. Proc. 91-22 as a guideline guideline Medtalk A series of recommendations by a body of experts in a particular discipline. See Cancer screening guidelines, Cardiac profile guidelines, Gatekeeper guidelines, Harvard guidelines, Transfusion guidelines. ? If so, this would help simplify issues such as the amount of supporting data on independent transactions, comparable transactions, competitor data, etc., that might need to be submitted by the taxpayer. The taxpayer may also wish to pursue the same issues with the foreign tax authorities that it raised with the IRS at pre-filing conferences. In particular, the taxpayer might want to confirm the legal effect of an APA under foreign law, as well as the legal status of information submitted as part of the APA process. On this last point, the taxpayer would want to ensure that any information submitted was treated as confidential tax-related information, that potential trade secrets were protected, and that nonfactual disclosures would be treated consistently with the way they would be treated in the United States. The taxpayer might also want to explore the acceptability and process for making compensating adjustments.  The taxpayer should also discuss how potential field verification of information submitted would be handled, as well as the procedure for coordinating verification of information between the National Tax Office and any field auditors AUDITORS, practice. Persons lawfully appointed to examine and digest accounts referred to them, take down the evidence in writing, which may be lawfully offered in relation to such accounts, and prepare materials on which a decree or judgment may be made; and to report the whole, together . Finally, the taxpayer would want to discuss with the Competent Authority the procedures for reaching a Competent Authority agreement with the IRS, including the taxpayer's involvement.
Defining Critical Assumptions
Rev. Proc. 91-22 states that a taxpayer should propose the critical assumptions that would govern an Advance Pricing Agreement. Critical assumptions are essentially that state of facts or business operations Business operations are those activities involved in the running of a business for the purpose of producing value for the stakeholders. Compare business processes. The outcome of business operations is the harvesting of value from assets that both the tax authorities and the taxpayers assume will exist in order for the agreement to operate. Stated differently, the taxpayer would want to specifically define any circumstances CIRCUMSTANCES, evidence. The particulars which accompany a fact.
2. The facts proved are either possible or impossible, ordinary and probable, or extraordinary and improbable, recent or ancient; they may have happened near us, or afar off; they are public or under which it would not want to be bound by an Advance Pricing Agreement. For example, would the taxpayer want to be bound by an APA agreement that establishes a net profit range for a distribution subsidiary if the major product line that is being sold is being sold at a loss? Would the taxpayer want to continue to be bound if the distribution subsidiary subsequently engaged in both distribution and manufacture? These and other issues are the types of issues that ought to be defined in advance as critical assumptions under which the agreement would cease to operate or the parties would agree to discuss renegotiating the agreement.
Why Not Do an APA?
Probably the largest hurdle that a taxpayer considering an APA has to leap is whether to make a voluntary disclosure of information that could potentially result in a deficiency for open years. Notwithstanding the previous discussion of how to lessen less·en
v. less·ened, less·en·ing, less·ens
1. To make less; reduce.
2. Archaic To make little of; belittle.
To become less; decrease. the impact of making such disclosures, the bottom line in many instances will be that the taxpayer may have to be prepared to pay a substantial deficiency for open years in order to reach an APA agreement. If the taxpayer has not been subject to audit for these open years, it would indeed take a tax director very secure in his or her job to suggest an APA in the face of such payments.
It may be easier to consider an APA when the taxpayer has already been subject to an audit and a substantial deficiency is proposed, especially if the taxpayer believes that an APA methodology may result in a smaller deficiency for the open years. A cynic cyn·ic
1. A person who believes all people are motivated by selfishness.
2. A person whose outlook is scornfully and often habitually negative.
3. might question whether it is possible to reach agreement on an APA with the same group of people who were unable to reach agreement on the deficiencies proposed for the open years. Experience, however, teaches that the IRS is not a monolithic Single object. Self contained. One unit. agency, and that it is indeed possible to reach agreement on an APA after a contentious audit that produced substantial deficiencies. This is not to say that the process is an easy one, merely that it is possible under such circumstances.
Ultimately the decision to seek an APA requires a cost-benefit analysis cost-benefit analysis
In governmental planning and budgeting, the attempt to measure the social benefits of a proposed project in monetary terms and compare them with its costs. . If the taxpayer has been aggressive in its transfer pricing, whether purposely pur·pose·ly
With specific purpose.
USAGE: See at purposeful.
Adv. 1. or through neglect, the decision may be that the traditional audit lottery process is the most cost beneficial. As a compromise position, a taxpayer considering an APA may want to wait until the years with the greatest exposure close while pursuing a strategy of moderate change.
Why Do It?
Achieving certainty on what can be a major tax issue is the primary reason for seeking an APA. This assurance is heightened when a bottom-line type of approach or formulary formulary /for·mu·lary/ (for´mu-lar?e) a collection of recipes, formulas, and prescriptions.
National Formulary see under N.
n. approach is pursued as part of the APA process. Other reasons that a taxpayer might consider doing an APA include future expansion of business into what are now relatively small markets. Under such circumstances, a taxpayer may lock in a favorable profit number before the revenue in either the U.S. or foreign jurisdictions gets so large that the tax authorities look soley at the potential revenue loss. An APA might be sought as part of an overall foreign tax reduction plan. For example, a taxpayer that followed a net profit approach for a distribution subsidiary may be able to negotiate a lower net profitability than it had been reporting previously for tax purposes because of the guarantee element inherent in such a situation. If the profit were lower, the effective foreign tax rate might also be lower, thus potentially freeing up excess foreign tax credits. A taxpayer might also have issues that have been traditionally raised on audit by IRS agents and later given away by Appeals. A taxpayer might feel that such issues have only been raised as bargaining chips bar·gain·ing chip
Something, especially an inducement or concession, used as leverage in negotiations: "A bargaining chip is ultimately worthless if you're not willing to bargain it away" in the process and may wish to have them taken off the table to reduce the issues to those that are clearly legitimate areas of dispute.
Finally, those U.S. taxpayers that are foreign-controlled have to be concerned about how field agents will exercise the new authority given to IRS under section 6038A of the Code. There is clearly a congressional mandate on the IRS to raise additional revenues through transfer pricing adjustments made against foreign-controlled U.S. corporations. Given such a state of affairs, taxpayers may wish to seek the comfort of an APA rather than the uncertainties of treatment at the hands of field agents on audit. In addition, a taxpayer may be able to negotiate a record-keeping agreement as part of seeking an APA. 
Professional Fees and Costs
Many taxpayers contemplating APAs have expressed concern about the professional fees and costs that would be involved in pursuing such an agreement. Clearly, such fees and costs are less than what is involved in a major transfer pricing litigation An action brought in court to enforce a particular right. The act or process of bringing a lawsuit in and of itself; a judicial contest; any dispute.
When a person begins a civil lawsuit, the person enters into a process called litigation. , or a protracted pro·tract
tr.v. pro·tract·ed, pro·tract·ing, pro·tracts
1. To draw out or lengthen in time; prolong: disputants who needlessly protracted the negotiations.
2. audit and Appeals proceedings. Just as clearly, the costs of seeking an APA are not insignificant. What can a company contemplating an APA do to control its costs? One strategy is to narrow the scope of a potential APA to a limited range of transactions that are significant, rather than trying to include everything. Another way is to have a clear understanding with the professional advisors as to what work will be done by the client and what work will be done by the outside advisors. The taxpayer ought to be able to gather almost all of the documentary material itself, including the accounting data, competitor analysis Competitor analysis in marketing and strategic management is an assessment of the strengths and weaknesses of current and potential competitors. Created by Michael Porter competitor analysis focuses on four key aspects: competitor's objectives, competitor's assumptions, , and identification of potential comparables. Taxpayers generally will need some assistance with computing computing - computer profits splits or product line income statements as well as other issues.
Although it involves some additional up-front expenses, a taxpayer should probably consult with an outside economist during the development stage of the APA proposal. The outside economist could identify potential comparables for the taxpayer, as well as guide the taxpayer towards an appropriate methodology. a taxpayer that has no economic input at the planning stage may discover at the end of the process that either an IRS economist or an independent economist retained by both parties has serious reservations with the methodology being proposed, in which case much of the work previously done may have been for nought. There are, of course, other ways that costs can be managed throughout the process that are really no different than managing professional fees in any large-scale engagement.
This article has attempted to summarize sum·ma·rize
intr. & tr.v. sum·ma·rized, sum·ma·riz·ing, sum·ma·riz·es
To make a summary or make a summary of.
sum some of the practical issues that arise in considering or consummating APAs. Any individual taxpayer will, of course, have issues that are unique to its own situation that have not been discussed. However, the issues discussed seem to be those that arise frequently in discussions with clients, and those that have caused most serious concerns.
 1991-11 I.R.B. 11.
 For a discussion of issues raised by the draft revenue procedure, many of which were resolved favorably for taxpayers in the final version, see Ryan & Patton, IRS Advanced Pricing Agreements: Are They a Practical Means to Resolve Potential International Transfer Pricing Disputes? 20 Tax Management International Journal 115 (March 8, 1991).
 A super-distributor in this context refers to a distributor that distributes to original equipment manufacturers (OEMs), as well as to traditional distributors.
 See Hearing on Tax Underpayments by U.S. Subsidiaries of Foreign Companies before the Oversight
Oversight may refer to:
 Of course, in disclosing the information voluntarily, the taxpayer forgoes the advantage of waiting for the IRS agent to ask for the information. It has also presumably sorted the information for relevance and only disclosed that information that it believes is truly relevant. An agent who may not know the taxpayer's business would presumably take a much longer time to find out what was and what was not relevant, and might miss potentially relevant information, while seeking information that ultimately proves to be less than relevant.
 Recent press reports have indicated that the NTA will now favorably entertain applications for APAs. This represents an apparent change in position by the NTA. Accordingly, it would appear that the IRS is more advanced in its thinking and experience in APAs than is the Japanese NTA.
 Compensating adjustments are specifically provided for in Rev. Proc. 91-22. They may not be recognized in a foreign jurisdiction, and therefore this point should be considered.
 Rev. Proc. 91-38, 1991-30 I.R.B. 16.
MICHAEL F. PATTON is a partner in Ernst & Young's International Tax Services office in Washington, D.C. and is co-chair of the firm's Transfer Pricing Task Force. He received his J.D. degree (with honors) from the University of Maryland University of Maryland can refer to: