Transcript Transfer Pricing Methods - IFA-UK

TRANSFER PRICING DEVELOPMENTS
AND COMPARATIVE CASES
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Panel
• Danny Beeton – Freshfields Bruckhaus
Deringer
• Mark Carnduff - HMRC
• Owen Crassweller - Deloitte
• Jonathan Schwarz – Temple Tax Chambers
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Agenda
• The challenge of comparability
• Contentious choice of methods
• Business restructuring and non-recogntion of
transactions
• Use of hindsight
• Collaborative resolution
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Transfer pricing – the challenge of comparability
IFA technical meeting: transfer pricing developments
Danny Beeton, Freshfields Bruckhaus Deringer
3 November 2011
Themes
 The requirement for greater comparability (e.g. 2010 TPG, HMRC
messages, DSG), leading to…
 The increased preference for CUPs to be referred to (e.g. 2010 TPG,
SNF)
 The need to start from the standalone position of the taxpayer (e.g.
AOy, GECC), but adjusted for…
 The special relationship between related parties (e.g. GECC, Diligentia,
Alberta Printed Circuits - but when and how)?
Revised comparability guidance in the 2010 Transfer Pricing
Guidelines
OECD Transfer Pricing Guidelines para. 3.47:
“to be comparable means that none of the differences (if any) between
the situations being compared could materially affect the condition
being examined in the methodology or that reasonably accurate
adjustments can be made to eliminate the effect of any such
differences. “
Expanded discussion of problems in using the Transactional Net
Margin Method (TNMM - para’s 2.56 to 2.107)
OECD Transfer Pricing Guidelines para 3.33:
“Use of commercial databases should not encourage quantity over
quality.”
The new OECD “typical process” for a comparability analysis
 1. Determination of years to be
covered
 5. Review of potential external
comparable uncontrolled transactions
 2. Broad-based analysis of the
taxpayer’s circumstances
 6. Choice of method
 3. Functional analysis
 7. Application of method
 8. Comparability adjustments
 4. Review of potential internal
 9. Determination of arm’s length
comparable uncontrolled transactions
range
An interpretation of HMRC’s position
 Removing the top and bottom 25% of a range of observations does not
make the remaining ones any more comparable
 HMRC is not obliged to accept that only one end of a transaction should
be considered (“the tested party”)
 HMRC may feel that the comparability differences are so great that a
meaningful comparison cannot be made with another transaction or
transactions proposed by the taxpayer
 HMRC then form a view on the split of profit between the parties
 In extreme cases HMRC may impute a different kind of transaction
altogether, or no transaction at all
UK: DSG Retail v RCC (2009)
warranty
reinsurance / insurance
Customers
Commission
Dixons
Finance
Dixons
Finance
(agent)
goods
premium / fee
DSG Retail
DSG
Retail
Commission
Cornhill
Cornhill/
ASL
/ ASL
admin/
repairs premium
Mastercare
Mastercare
DISL
DISL
Australia - SNF (Australia) Pty Ltd v Federal Commissioner of
Taxation (2010)
SNF
France
SNF France
manufacturer
SNF China
manufacturer
Sale of
products
SNF
Australia
distributor
SNF US
manufacturer
Sale of
products
Sale of
products
Sale of
products
B
A
Sale of
products
Sale of
products
Unrelated Parties
Sale of
products
Unrelated Parties
(A and B = potential Comparable Uncontrolled Prices)
Sale of
products
Unrelated Parties
SNF (Australia) Pty Ltd v Federal Commissioner of Taxation
 SNF (Australia) loss-making for several years
 At first heard before a single judge of the Federal Court
 Court rejected ATO’s use of the TNMM (1.7% target operating margin)
in favour of the taxpayer’s CUP method, even though produced a loss
 ATO appealed 27 August 2010, rejected by the Full Federal Court 1
June 2011
 (Good argument that key comparability adjustments were missed)
A Oy: Ruling of the Finnish Supreme Administrative Court
published on 3 November 2010, Case KHO 2010-73
Other third
party
lenders
A Group
New subordinated
loans at 12.53%
and 16.50%
New
shareholder
loans at 17%
Bank
New secured
and unsecured
loans at 3.92%
to 7.45%
BAB
Sweden
New loan at 9.5%
A Oy
Finland
New loans also
at 9.5%
Other A
Group
subsidiaries
Old secured loans
at 3.135% and
3.25%
Bank
A Oy (continued)
 (9.5% = average of new rates paid to third parties and shareholder)
 BAB did not make a profit
 A Oy was assessed for tax as if it had paid interest at 3.25%
 A Oy appealed to Adjustment Board which reassessed tax as if interest at 7.04% had
been paid (= average of interest rates paid by BAB to third parties, excluding shareholder
loans)
 Helsinki Administrative Court agreed
 Taxpayer argued that the shareholder loans should be taken into account because at
arm’s length interest rates - subordinated to 16.5% third party loans, so the arm’s length
interest rate must be at least 17% as charged
 State argued that A Oy’s interest rate should depend on its standalone creditworthiness
and not be the same as the other subsidiaries, and on a standalone basis it would not
need the third party and shareholder top-up
 Supreme Administrative Court agreed, referred to the old bank loans and A Oy’s available
collateral and enforced the original tax assessment based on a 3.25% interest rate
Canada - GE Capital Canada Inc v The Queen (2009)
GE Capital
Corporation
(US)
Guarantee
Market
investors
GE Capital
Canada
(CAN)
CP/debentures
GE Capital Canada Inc v The Queen
 Canadian Revenue asserted US parent guarantee worthless as Canadian Sub
benefited from implicit support anyway
 Tax Court Canada (2009) held for GECC that guarantee fee is appropriate:
 GECUS shareholding relevant for comparability but does not obviate need
for guarantee
 Implicit support is not a guarantee (but is a relevant fact – justifying 3 ratings
notches in this instance)
 Unwarranted to conclude that GECC’s credit rating would be the same as
GECUS’s rating if no explicit guarantee
 But separateness of entities respected: Sub did not acquire Parent’s AAA
rating
 Compare paragraph 7.13 OECD TPG
 Federal Court of Appeal dismissed the Crown’s appeal in December 2010
Diligentia AB, case no. 2483-2485-09
Ruling June 2010, Swedish Supreme Administrative Court
Parent
New
unsecured
loan
Interest
@ 9.5%
Repaid
Loans
Independent
lenders
Diligentia
(SWE)
Interest @ 4.25%
Diligentia AB
2010, Swedish Supreme Administrative Court
 Consideration of whether unsecured loan from parent to sub analogous
to a secured loan because of control relationship
 Held: control affected credit risk and thus interest rate
 Procedural issue blocked SAC’s consideration of a rate <6.5%, being
the rate accepted on earlier appeal; 6.5% rate therefore confirmed
Alberta Printed Circuits Ltd v. The Queen
2011, Tax Court of Canada
WB and GB
DM
· Agreement to
share the profits
of APCI Inc 2/3
: 1/3
 APCI Inc received same payment as APCL
 Taxpayer’s expert witness relied on the internal
CUP without adjustments
 CRA’s expert witness said unreliable, used the
TNMM to benchmark APCI Inc (too profitable)
Ramber
Electronics Ltd
(Canada)
 Judge accepted the internal CUP but said two
business strategy adjustments should be made:
Alberta Print
Circuits Ltd
(Canada)
· Provision of set-up
services
· Provision of
set-up services
APCI Inc.
(Barbados)

being able to offer customers set-up services lets
APCL sell more profitable manufacturing services,
so would transact with APCI Inc for no margin or
even a loss (offsetting transaction)

and the shareholders of APCL would receive two
thirds of the profits of an “overpaid” APCI Inc
 but the Judge did not quantify the adjustments to
confirm that the transfer price was arm’s length
·
Manufacturing
of prototypes
Customers of
APCL
© Freshfields Bruckhaus Deringer LLP 2011
This material is for general information only and is not intended to provide legal
advice.
LON17860395
Jonathan Schwarz
Temple Tax Chambers
www.taxbarristers.com
TRANSFER PRICING METHODS
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A Brief History of TP Methods
•
1979 Guidelines
– Traditional methods only
• 1995 Guidelines
– Traditional transaction methods preferable to other
methods.
– Transactional profit methods -last resort for exceptional
situations where no or insufficient data to rely on
traditional methods
• Since 1995 Guidelines transactional profit methods used i
practice far more than would be expected from their last
resort status.
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Selection of Method
2010 Guidelines para 2.2
•
not necessary to prove that a particular method is not
suitable
• does not mean that all the transfer pricing methods should be
analysed in depth or tested in each case in arriving at the
selection of the most appropriate method.
• As a matter of good practice, the selection of the most
appropriate method and comparables should be evidenced
and can be part of a typical search process
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Indian Cases on Selection of
Methods
• Tacke Wind Energy India Pvt Ltd
– components for selling wind turbines in India to third
parties-RPM
• Global Services Pvt. Ltd
– published industry hourly rates-CUP
• Serdia Pharmaceuticals (India) Pvt Ltd
– Pharmaceutical Ingredients -CUP
• Abhishek Auto Industries Ltd
– raw materials, royalty payments and technical know-how
fees-reconsideration
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SNF (Australia) Pty Ltd v. FCT
[2010] FCA 635
• Imported products for manufacturing and
selling chemicals in Australia
– Taxpayer- CUP
– Commissioner - TNMM
• Held:
– TNMM does not provide a proper basis for
determining the arm's length consideration
– Therefore does not address the issue as required
by Australian TP provisions.
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SNF (Australia) Pty Ltd v. FCT
[2010] FCA 635
• Full Bench:
Only in the absence of useful evidence of an uncontrolled
transaction will it be necessary to use another method. For
example, because no comparable transaction exists or because
there are differences in the transactions that cannot be taken
into account. The other methods are also useful in that they can
be used as a check on each other.
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DSG Retail Ltd & Ors v HMRC
•
Guidelines give a secondary role to other methods where
traditional transactions methods cannot be reliably applied
alone or exceptionally cannot be applied at all.
• One such other method is ...in particular the profit split
method.
• Guidelines make the point that it is unusual to find profit as a
condition "made or imposed" in the relevant transactions.
• This is an exceptional case because so long as the loss ratio is
under 80%, the underwriting profit for Cornhill and DISL is set
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Owen Crassweller
Deloitte LLP
BUSINESS RESTRUCTURING AND
NON-RECOGNITION OF
TRANSACTIONS
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The arm’s length price
• OECD Guidelines para 1.64 – 1.69
– ‘ORDINARILY BASED ON TRANSACTIONS ACTUALLY UNDERTAKEN’
– ‘IN OTHER THAN EXCEPTIONAL CIRCUMSTANCES, SHOULD NOT
DISREGARD ACTUAL TRANSACTIONS OR SUBSTITUTE OTHER
TRANSACTIONS’
• EXCEPTIONS:
– I) ECONOMIC SUBSTANCE AND FORM DIFFER
– II) ARRANGEMENTS VIEWED IN THEIR TOTALITY DIFFER FROM THOSE
BETWEEN INDEPENDENT ENTERPRISES ACTING COMMERCIALLY
RATIONALLY AND THE ACTUAL STRUCTURE IMPEDES DETERMINATION
OF PROPER TRANSFER PRICE
• CAN USE ALTERNATIVELY STRUCTURED TRANSACTIONS AS
COMPARABLES, WITH APPROPRIATE ADJUSTMENTS
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The arm’s length transaction
•
•
•
•
Australia – ‘commercial realism’
Germany – ‘prudent business man’
France – ‘abnormal act of management’
UK - ‘could vs would’ / CFC Con Doc re
transfers of intangibles
• OECD Guidelines – Chapter IX
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CHAPTER IX
• B.2 – Determining whether the allocation of
risks is arm’s length
– Contrast with para 1.69, which accepts non-arm’s
risk allocation and adjusts comparables in
determining arm’s length price for actual risk
allocation
• Restructuring transactions
– ‘options realistically available’ as independent
entities (e.g., para 9.84 – group level motives
irrelevant)
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Chapter IX Part IV
•
•
•
•
‘exceptional’ in para 1.37 - .69 = ‘rare’ or ‘unusal’
Existence of comparable arrangements is binding
No requirement to behave in arm’s length manner
Standard is ‘commercial rationality in light of
realistically available options’
• Ability to price actual arrangements prevents nonrecognition (but not risk reallocation!)
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Mark Carnduff
HMRC
HINDSIGHT
COLLABORATIVE RESOLUTION
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Hindsight
‘TPG 3.68 In principle, information relating to
the conditions of CUTs carried out during the
same period of time as the controlled
transaction is expected to be the most reliable
information to use in a comparability analysis,
because it reflects how independent parties
have behaved in an economic environment
that is the same as the economic environment
of the taxpayers transaction.’
Same period of time
TPG 1.55 Economic circumstances
• the date and time of the transaction
• the existence of a cycle
Comparables from databases usually relate to a
period of a year.
Dates for transactions not available
Timing
• It may be impossible to know an arm’s length
price when transacting
• Will sufficient data be available before the
return is completed?
• Fluctuations in prices during the year
• What about penalties?
• Is it more of an issue for TP compliance in
other fiscs?
Collaborative Resolution
• HMRC will seek to handle disputes nonconfrontationally and by working collaboratively with
the customer wherever possible.
• In the majority of cases, this is likely to be the most
effective and efficient approach.
• A collaborative approach requires all parties to be
open, transparent, and focused on resolving the
dispute.