Related-Party Transaction
To which types of transactions do U.S. transfer pricing rules apply?
Definition
Since transfer pricing law applies to exclusively to "related-party transactions," it makes sense to examine the legal definition of this class of transaction. While it would be simple to say that a related-party transaction is any transaction that is not at arm's-length, that begs the question, since a transaction that may or may not be between related parties would similarly be unclear as to whether it was arm's-length. For example, is a joint venture between two companies that do not share common ownership a related-party transaction? To find a statuatory definition, we can turn to Section 6038A, which offers the following:(2) Related party
The term ''related party'' means -
(A) any 25-percent foreign shareholder of the reporting
corporation,
(B) any person who is related (within the meaning of section
267(b) or 707(b)(1)) to the reporting corporation or to a
25-percent foreign shareholder of the reporting corporation,
and
(C) any other person who is related (within the meaning of
section 482) to the reporting corporation.
While (A) is further defined within Section 6038A, (B) and (C) refer to three other sections. Section 267(b) offers the following set of definitions:
- (b) Relationships
The persons referred to in subsection (a) are:
(1) Members of a family, as defined in subsection (c)(4);
(2) An individual and a corporation more than 50 percent in
value of the outstanding stock of which is owned, directly or
indirectly, by or for such individual;
(3) Two corporations which are members of the same controlled
group (as defined in subsection (f));
(4) A grantor and a fiduciary of any trust;
(5) A fiduciary of a trust and a fiduciary of another trust, if
the same person is a grantor of both trusts;
(6) A fiduciary of a trust and a beneficiary of such trust;
(7) A fiduciary of a trust and a beneficiary of another trust,
if the same person is a grantor of both trusts;
(8) A fiduciary of a trust and a corporation more than 50
percent in value of the outstanding stock of which is owned,
directly or indirectly, by or for the trust or by or for a person
who is a grantor of the trust;
(9) A person and an organization to which section 501 (relating
to certain educational and charitable organizations which are
exempt from tax) applies and which is controlled directly or
indirectly by such person or (if such person is an individual) by
members of the family of such individual;
(10) A corporation and a partnership if the same persons own -
(A) more than 50 percent in value of the outstanding stock of
the corporation, and
(B) more than 50 percent of the capital interest, or the
profits interest, in the partnership;
(11) An S corporation and another S corporation if the same
persons own more than 50 percent in value of the outstanding
stock of each corporation;
(12) An S corporation and a C corporation, if the same persons
own more than 50 percent in value of the outstanding stock of
each corporation; or
(13) Except in the case of a sale or exchange in satisfaction
of a pecuniary bequest, an executor of an estate and a
beneficiary of such estate.
Section 707(b)(1) adds:
- (b) Certain sales or exchanges of property with respect to
controlled partnerships
(1) Losses disallowed
No deduction shall be allowed in respect of losses from sales
or exchanges of property (other than an interest in the
partnership), directly or indirectly, between -
(A) a partnership and a person owning, directly or
indirectly, more than 50 percent of the capital interest, or
the profits interest, in such partnership, or
(B) two partnerships in which the same persons own, directly
or indirectly, more than 50 percent of the capital interests or
profits interests.
In the case of a subsequent sale or exchange by a transferee
described in this paragraph, section 267(d) shall be applicable
as if the loss were disallowed under section 267(a)(1). For
purposes of section 267(a)(2), partnerships described in
subparagraph (B) of this paragraph shall be treated as persons
specified in section 267(b).
That leaves us to look for a definition of "related" in Section 482. While it does not provide a specific defininition, it does offer the phrase, ". . owned or controlled directly or indirectly by the same interests. . ." This broad language is subject to IRS and judicial interpretation. The IRS has taken the position that when parties that lack common ownership cooperate to shift income and deductions, they become related parties for purposes of transfer pricing law. (See Technical Advice Memorandum 200230001.)
So what about that joint venture? Does it constitute a related-party transaction? The answer in some countries is clear. For example, Italy specifically includes joint ventures in their definition of relationships controlled by transfer pricing law. However, since the Unites States uses a functional analysis, whether a given joint venture is subject to transfer pricing constraints may depend of the facts of the case in question.
Here are some articles that discuss the thresholds of cooperation and ownership relevant to the defininition of related-party transactions: