The Evolving Landscape of Cross-Border Tax Examination
Critical strategies for tax departments to consider and pitfalls to avoid in the complex landscape of foreign tax audits 

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Our clients and our practice group members are increasingly occupied (and preoccupied) not only with challenges from the Internal Revenue Service but also with audit and enforcement actions from foreign tax authorities. In a world where many jurisdictions are increasingly hungry for tax revenues, the foreign subsidiaries of large multinationals can be ripe targets. These non-US audit and enforcement actions are becoming high-dollar and high-stake, and foreign tax authorities can aggressively pursue facts in US-style discovery during the examination phase and push cases to foreign administrative appeals and even litigation more frequently.

This article examines practical considerations at the various stages of a significant foreign audit—from who will take the lead in preparing responses to inquiries all the way to considerations for correlative relief in the case of an adverse outcome. Throughout, we highlight process and procedural inflection points that tax groups should keep in mind.

Managing the Foreign Audit 

When a foreign affiliate receives an audit notice, one of the first major decisions is determining who will manage (and who else will be involved in) the audit defense, a decision that may be more complicated than in a domestic audit because of the multitude of advisors and stakeholders. Sometimes the answer will be predetermined—depending on how the tax department is organized and the resources already deployed—but if significant issues (such as tax-sensitive restructurings) are lurking or if an aggressive local authority might challenge company-wide positions (for example, on transfer pricing), it can help to deactivate autopilot and give some thought to the composition of the responding audit defense team.

Typically, the audit defense team will involve some combination of employees of the local affiliate, the group’s central tax department, and (in the case of a large-dollar or high-stakes audit) the group’s central legal department. The team may also include local outside tax counsel and tax advisors as well as global outside counsel and tax advisors for significant issues. Here are some factors that inform the decision about whom it makes sense to involve in an aggressive foreign audit:

  • Resources. This one is obvious. Engaging outside counsel is generally more expensive but provides more human-power where in-house time (or local-country tax expertise) is limited. Another consideration is that elevating an audit internally, either to the group’s central tax or legal function, can unlock additional company resources to which the local team generally may not have access. And, internal coordination with other stakeholders interested in the process (for example, the legal department, accounting, etc.) allows for more insight and planning.
  • Material or group-wide recurring issues. Special consideration is warranted for transactions with material tax positions, transfer pricing, or other issues that affect many affiliates and that are likely to recur (for example, a management fee or a royalty that many similarly situated entities pay). In these cases, it is important to put forward a coherent and consistent narrative to tax authorities across jurisdictions. Preparing centrally managed outlines or collections of fact-based documents that can be used by local teams across the corporate group in responding to audits on the same issue can be particularly helpful. This approach requires some upfront coordination and effort but can be a significant resource-saver on the back end and avoid duplicative efforts among local affiliates.
  • Likelihood of litigation. A large-dollar issue for which there is significant risk exposure may warrant a well-resourced team comprising in-house and outside personnel. With an issue that may be substantial enough to litigate (if necessary), it may make sense to involve the group’s general counsel. For example, the company’s general counsel may be able to assist with electronic discovery, identifying outside counsel, and protecting privilege for internal fact-gathering. If litigation is likely, depending on the local jurisdiction’s rules on work-product protections, it may make sense for the general counsel team to put a litigation hold in place, in order to protect from spoliation essential communications and other documents.
  • Access to information. Another consideration is whether the audit issue is one where most of the information is at the local level (for example, a question about equipment depreciation) or elsewhere in the group (for example, transfer pricing questions about activities performed by another group member or questions about a group-wide restructuring or policy). Where there could be information stored elsewhere that a local affiliate may not know about or have access to, consider adding central tax department resources that can help facilitate access to information and ensure the accuracy of responses.
  • Legal questions involved. Where complex questions of local law are at play, local tax personnel or local outside counsel or advisors are best positioned to advise on the merits, rather than US-based in-house or outside advisors.
  • Local practice. In some jurisdictions, the local outside counsel or tax advisors may have a rapport with the local tax authorities that can help facilitate a resolution. Local outside counsel may also help navigate challenging procedural or process issues, particularly if the foreign affiliate is not examined frequently or local in-house staff do not have significant tax controversy experience or relationships with foreign officials.

Protecting Privilege

How to best protect privilege is another critical consideration at the outset of a foreign audit (and one that may affect the choice of the audit defense team). In the United States, there are three general categories of privilege that may apply to tax-related documents:

Attorney-client privilege protects confidential communications between a party and the party’s representative that are made to obtain legal advice. Business (as opposed to legal) advice is not covered, even when an attorney offers it.

Tax practitioner privilege extends, pursuant to Section 7525 of the Internal Revenue Code,1 the attorney-client privilege to “federally authorized tax practitioners,” including certified public accountants, for the purpose of obtaining tax advice within the scope of the practitioner’s authority to practice before the IRS. Tax compliance (such as return preparation) is generally not covered.

The work-product doctrine protects documents—not just communications—and tangible things prepared in anticipation of litigation by the party or the party’s representative.

Foreign jurisdictions may have their own versions of some or all of these protections, but the contours of the protections often differ across jurisdictions—sometimes in significant ways. In general, privilege is much more expansive in the United States than in other jurisdictions, and generally more expansive in foreign common law jurisdictions (such as the United Kingdom, Canada, and Australia) than in civil law jurisdictions (much of the rest of the world). We therefore recommend consulting local counsel (in-house or outside) to understand which privileges may apply to various communications and documents produced internally during the audit, and how best to articulate and preserve those privileges. In particular, very few foreign jurisdictions have the equivalent of the tax practitioner privilege, and many have different standards for when a protection similar to the work product doctrine would become relevant in a tax audit. 

Imagine this scenario. The foreign tax authorities are looking at a fact-based issue. The local in-house team (composed of accountants) starts gathering facts internally and conducts a series of informal interviews with various members of the local affiliate’s business team. The goal is simply to gather underlying facts to provide to the tax authorities, not to provide the interview notes. Some helpful facts come out in the interviews, but there are unhelpful revelations, too. In many jurisdictions, this fact-finding expedition would not be protected by any privilege, because neither outside counsel nor the in-house legal department was involved. As a result, if the foreign tax authority learns of the interviews and issues an information request for the interview notes, there may not be a privilege ground on which to withhold the notes. Identifying whether counsel should be involved early in the audit process—and having a system in place to make such a determination—can help prevent this situation from developing in the first instance.

Responding to Information Requests

Many foreign audits proceed much like IRS audits—with a series of questions and responses of increasing granularity as the foreign tax authority homes in on a particular issue or issues. Throughout the audit, the foreign tax authority frequently asks for “proof” of facts relevant to your positions. A decade ago, providing the underlying legal documents (for example, intercompany agreements, transactional documents, etc.) or formal board minutes often was sufficient. Today, we see foreign tax authorities across jurisdictions requiring taxpayers to dig deep and produce emails and other contemporaneous communications and documentation to satisfy such requests.

The “proof” generally depends both on what’s accessible—what files and records the group has—and on strategic considerations about what to provide to the foreign tax authorities. In terms of availability, information about past years may be limited by the group’s document retention policy. We recommend employing an approach that is as consistent as possible across jurisdictions but also conforms to any local rules. This should help avoid inconsistent record-keeping and prevent a tax authority from accessing a document that was retained in a different jurisdiction, simply because it was subject to a more lax retention policy. The type of information available also depends on record-keeping at the time of the transaction or transactions being audited. Often, foreign tax authorities operate on an even greater delay than the IRS does. Our clients frequently are subject to audits of transactions nearly a decade old or even older in some foreign jurisdictions. For this reason, we recommend that companies prepare “audit-ready files” for significant transactions close in time to when the transactions are completed. We also recommend compiling contemporaneous factual support for transfer pricing policies, to ensure that key primary source documents are available when needed. This helps ensure that these documents and the underlying information are not lost through employee attrition or the company’s general document retention policy.

Once you understand what kinds of documents are available, you will need to decide which to provide in response to any particular request from a foreign tax authority, just as you would in the case of an IRS audit. The first step is generally to assess whether documents responsive to a request from the tax authorities are protected by privilege, since a taxpayer is typically not required to disclose privileged information. Sometimes, documents may appear privileged at first glance—for example, because they copy a lawyer—but actually are not privileged, because they do not contain legal advice (or a request for such advice).

But what if you have one privileged document that would help your case? Under US law (and in many foreign jurisdictions), if you affirmatively disclose certain privileged documents as a “sword,” you cannot then use privilege as a “shield” to protect other privileged documents that relate to the same subject. Moreover, once a document is provided to a third party, it is generally no longer considered confidential, and thus privilege would also be waived vis-à-vis other tax authorities and other third parties (for example, adverse parties in ongoing nontax litigation). Thus, when considering whether to waive privilege, we generally recommend considering whether you are comfortable waiving privilege on all other privileged documents on the same subject matter (which itself can be a nuanced question), considering the impact of those documents on tax positions in other jurisdictions, and the impact on other company nontax matters and the company’s general privilege policies. It likely makes sense to consult the company’s in-house legal department when assessing whether to waive privilege when responding to requests from foreign tax authorities.

Another strategic consideration is whether the information you provide to a foreign tax authority will remain confidential vis-à-vis third parties and other government agencies. Many jurisdictions have rules similar to those in Section 6103, which prohibits disclosure of “taxpayer information.” Whether those provisions are enforced in any foreign jurisdiction with the same vigor as Section 6103 is in the United States, however, varies. In some cases, a foreign tax authority could conceivably engage in a fishing expedition where it asks broad questions and then shares the information with other government agencies in the jurisdiction (if not the public), whereupon that information could prompt a separate civil or criminal action. There are also circumstances when information collected by a tax authority in one jurisdiction could be shared with another governmental agency in another jurisdiction, such as under a non-tax-specific treaty. We recommend consulting local counsel or tax practitioners to assess the confidentiality of information provided to foreign tax authorities. (This is often the first question that your colleagues in the legal department will ask if they get involved in a foreign audit.) 

A final strategic consideration pertains to what to do with documents in other jurisdictions. Often, documents relevant to the tax position under audit might not be in the possession of the foreign affiliate under audit. These documents might include board minutes of entities outside the jurisdiction, emails and other documents from overall group leadership, or even tax planning documents. There is a choice of whether to request these materials from the entity in the relevant jurisdiction (the United States or otherwise) or to simply decline to produce such materials.

If the foreign affiliate under audit does not voluntarily seek (and obtain) these documents held by affiliates in other jurisdictions, the foreign tax authorities may request these documents through the exchange of information (EOI) process under various bilateral or multilateral agreements that enable cross-border sharing of taxpayer information. Under various tax treaties and other agreements, a tax authority may ask for specific information on a particular case from another jurisdiction (that is, an EOI on request). The EOI goes directly from the Competent Authority of one jurisdiction to the Competent Authority of the other jurisdiction, bypassing the taxpayer. Though it depends on local law, there is often no obligation for the Competent Authority of the second state to inform the taxpayer to which the request relates. However, if the Competent Authority of the second jurisdiction does not have the relevant information on hand, it may issue a request (for example, an information document request or IDR in the United States) to the party in its jurisdiction to provide the information. Understanding that a foreign tax authority often has an avenue to get the information it wants directly from a foreign affiliate changes the calculus of simply responding, “We don’t have it here.” And, treaties will sometimes provide for the Competent Authority of the requesting jurisdiction to interview individuals and examine books and records of the taxpayer in the requesting jurisdiction, albeit with the taxpayer’s consent. Notably, treaties often preclude either Competent Authority from carrying out administrative measures that are contrary to its jurisdiction’s—or the other jurisdiction’s—laws and administrative practices. Thus, if the foreign affiliate receives a request, it can hold its ground, for example with respect to the application of privilege, as though interfacing with the IRS. That said, there may be strategic or timing differences to consider in voluntarily producing out-of-jurisdiction documents versus forcing the foreign tax authority to pursue EOI.

Correlative Relief

Correlative relief in the form of foreign tax credits for the additional foreign taxes paid or corresponding income adjustments to match the foreign adjustments may be barred if you do not take proactive, protective steps during the audit. We therefore recommend you begin thinking about these issues before the foreign audit concludes.

Where the adjustment to foreign income is made to a foreign member of a US-parented multinational group, the additional foreign taxes may be creditable in the United States, depending on the extent of limitation in the appropriate separate limitation category so long as the statute for claiming the credits remains open. The statute of limitations for claiming foreign tax credits is generally ten years under Section 6511(d)(3)(A); courts have interpreted the statute to tie back to the year to which the foreign taxes “relate.”2 Thus, if additional foreign taxes are imposed in 2021 with respect to a foreign audit for the 2014 taxable year, the relevant year for starting the Section 6511(d)(3)(A) statute of limitations would be 2014, not 2021. If the ten-year statutory limit approaches, consider filing a protective refund claim that meets the requirements in Treasury Regulations Section 301.6402-2(b)(1) before the foreign tax is finally assessed with the goal of keeping the statute of limitations open so that relief may be claimed in the United States at the end of the foreign audit. In some cases, as discussed below, relief may still be available under a tax treaty, even after the domestic statute of limitations has closed.

One thing to keep in mind is that foreign taxes that are voluntarily paid are not creditable under the Internal Revenue Code.3 Without such a rule, so long as foreign taxes could actually be credited against a taxpayer’s US tax liability, there would always be an incentive to simply settle the foreign audit as quickly as possible (without real challenge) and file a refund to claim foreign tax credits in the United States. In practice, this rule means that taxpayers often must exhaust foreign remedies, or obtain an opinion from foreign counsel explaining that continuing to pursue remedies in the foreign jurisdiction would be fruitless, in order to be able to claim foreign tax credits. This need to continue to pursue relief obviously affects settlement strategy and options in the foreign audit itself.

Other correlative relief may be relevant, too, and may be possible under the Mutual Agreement Procedure (MAP) provisions of a relevant bilateral tax treaty, which may also override domestic law limitations on relief. For example, the language in Article 25 of the 2017 OECD Model Treaty provides that relief under that article applies “irrespective of the remedies provided by domestic law.” Under this treaty article, a taxpayer can apply for relief and the Competent Authorities of the two jurisdictions are supposed to work together to reach a resolution that eliminates double taxation that would otherwise result from the adjustment. For example, if a foreign jurisdiction disallows part of a royalty payment made by a foreign affiliate to the US parent, the amount of the disallowance would be subject to tax in both jurisdictions. Under MAP, the Competent Authorities would communicate directly with each other. In many cases, the United States (or other foreign jurisdiction) may be a helpful advocate to bring an aggressive foreign tax authority more in line with international norms. However, many treaties contain time limits, and these can vary significantly by treaty and are sometimes tied to a period after the year to which the taxes relate or to the “first notification” of tax. As a result, a MAP application or at least a protective notification under the treaty may be due before the foreign proceedings are fully resolved. We therefore recommend that you keep track of these timelines throughout the foreign audit.

Concluding Thoughts

Foreign audits can be just as burdensome and resource intensive as IRS audits, and they pose unique challenges, particularly concerning management and maintaining privilege. By making it a point to develop materials relevant to recurring foreign audit issues, selecting the right case team for audit defense, actively working to maintain privilege (including over the work product produced during the audit), and identifying and managing corresponding outcomes and correlative relief, you can stay ahead of the curve.

Sean Akins and Kevin Otero are partners in the tax group at Covington & Burling LLP. Lauren Ann Ross is special counsel within Covington’s tax group, and Pooja Shah Kothari is an associate within the group. All four specialize in tax controversy and tax litigation, representing domestic and foreign corporations, partnerships, and other organizations in high-stakes tax matters.


  1. All references to “Section” or “Code” refer to the Internal Revenue Code of 1986, as amended, and the Treasury Regulations thereunder, unless otherwise indicated.
  2. See Albemarle Corp. & Subs. v. United States, 797 F.3d 1011, 1016 (Fed. Cir. 2015), reh’g denied, 116 AFTR2d 2015-6563 (Fed. Cir. 2015), aff’g Albemarle Corp. v. United States, 118 Fed. Cl. 549, 2014-2 (2014) (“It is well established that a contested foreign tax is counted toward the credit limitation of its year of origin, because that tax is used to offset the US tax liability for the year of origin”) (citing to United States v. Campbell, 351 F.2d 336, 338 (2d Cir. 1965); United States v. Cruz, 698 F.2d 1148, 1150 (11th Cir. 1983); Rev. Rul. 58-55, 1958-1 C.B. 266). 
  3. See Internal Revenue Code Section 901; Treasury Regulations Section 1.901-2(e)(5).

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