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Where any of the costs or deductions of the renderer do
not reflect arm's length consideration and no
adjustment has been made under any provision of the
Internal Revenue Code to reflect arm's length
consideration, the 25-percent test will not apply if,
had an arm’s-length charge been made, the costs or
deductions attributable to the renderer's rendition of
services to related entities would exceed 25 percent of
the total costs or deductions of the renderer for the
taxable year. * * * [Id.]
Once the 25-percent test is satisfied, the regulations
provide a second test, which is a determination of whether the
rendition of services to related parties is one of the principal
activities of the renderer, based "on the facts and circumstances
of each particular case" (the facts and circumstances test).
Sec. 1.482-2(b)(7)(ii)(a), Income Tax Regs. Factors which may be
considered in the facts and circumstances test include:
the time devoted to the rendition of the services, the
relative cost of the services, the regularity with
which the services are rendered, the amount of capital
investment, the risk of loss involved, and whether the
services are in the nature of supporting services or
independent of the other activities of the renderer.
* * * [Id.]
Pursuant to section 482:
the method of allocating, apportioning, or distributing
income, deductions, credits, and allowances to be used
by the district director, in any case, including the
form of the adjustments and the character and source of
amounts allocated, shall be determined with reference
to the substance of the particular transactions or
arrangements which result in the avoidance of taxes or
the failure to clearly reflect income. * * * [Sec.
1.482-1(d)(1), Income Tax Regs.]
The appropriate adjustments may take the form of, inter alia, an
increase or decrease in gross income, or an increase or decrease
in deductions (including depreciation). Id.
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