Part 2.3: Various stages in TP analysis Flashcards
What are the 5 stages in the TP analysis?
- Information gathering
- TP analysis
- Comparable data:
- Documentation:
- Future process:
What does the stage 1: information gathering entail?
- Fact gathering.
- Interviews with key personnel.
- Review agreement and financial information.
- Functional analysis: functions, risks, …
=> Identification of …
- Characteristics of goods
- Group structure
- Compliance of contractual terms
- Characteristics of functions and risks
What are the types of risks an organization can bear? (5)
- Risks linked with changes of costs, prices and/or stocks
- Risk of success/failure of research and development
- Financial risks (exchange rate, interest rate)
- Risks with respect to the production of goods (e.g. product liability, warranty risk)
- Risks linked to the ownership of the goods and equipment
=> An entity that is bearing a lot of risk should get a higher reward.
What are the typical manufacturing models? (4) What are the differences in function and risk?
- Fully Fledged Manufacturer
- Owns the Intellectual property
- Manufactures on behalf of himself
- Owns the materials
- Bears all risk - Licensed Manufacturer
- Doesn’t own the Intellectual property
- Manufactures on behalf of himself
- Owns the materials
- Doesn’t bear the technology risk - Contract Manufacturer
- Doesn’t own the Intellectual property
- Manufactures on behalf of others
- Owns the materials
- Bears inventory risk - Toll Manufacturer
- Doesn’t own the Intellectual property
- Manufactures on behalf of others
- Doesn’t own the materials
- Bears no risk
What are the typical distribution models? (3) What are the differences in function and risk?
- Normal distributor
- All functions
- Bears all the risk - Limited risk distributor
- No after sales service
- Minimal risk (market & inventory) - Commission/ sales agent
- only marketing & advertising
- No/ Minimal risk (Market risk)
What does the stage 2: TP analysis entail? (2)
- Agree appropriate TP methodology.
- Determine search strategy for comparable data.
=> Free choice of the method, yet limited because of practical reasons. Combinations of methods is possible.
What does the stage 3: comparable data entail? (2)
- Identify comparable data
o Within group: commercial transactions
o Outside group: Databases - Determine arm’s length range.
o Arm’s length range: full range; min. to max.
o Interquartile range : for the TNMM; data between the 25th and the 75th percentile
o Use of multiple year data: multiple year analysis (4 year weighted average)
o Intentional set offs
=> Best choose interquartile range, between the 25th and the 75th percentile.
What does the stage 4: Documentation entail? (3)
- Document Stage 1,2 and 3.
- Produce a TP report.
o Profile of the group
o Market description
o Function and risk analysis
o Economic analysis
o Conclusion - Prepare TP documentation to comply with OECD/local TP legislation documentation requirements.
o Master file/ Local file
What does the stage 5: Future process entail? (3)
- Put in place a plan for regular updating the TP policy and the TP documentation.
- Transfer pricing policy
- Ruling/ advance pricing agreement (APA)
What does ruling mean and when is it used?
Ruling: Up front approval of what organizations are planning to implement with the transfer prices.
Unilateral/ Bilateral/ Multilateral?
Unilateral: APA by one tax authority
Bilateral: APA by two tax authorities.
Multilateral APA involve multiple countries.
APA = advanced pricing agreement
What are the consequences of the five stages of the TP analysis for the taxpayer? (3)
- Increase of compliance costs following the “rat race” regarding transfer pricing.
- Higher compliance/ requirements in general
- Country specific requirements
- Language requirements
- Specific opinions regarding comparable searches: Use of local databases, industry codes (US/UK SIC, NACE, CSO, etc.), use of ‘secret comparable’
- Specific documentation requirements - Increased risk for double taxation: part of the income of the multinational is taxed twice.
How can double taxation be resolved?
- Ask tax authorities approval in advance on the TP policy that you want to apply. Unilateral, bilateral, multilateral… (Ruling). Costly and time consuming.
- Documentation, yet can be challenged so it is also not totally waterproof.
- Pragmatic solution: If faced with tax authorities, we adapt our invoices when double taxation arrives. (Illegal)
=> These are not waterproof.
Better solutions: 3 solutions. Only 2 on the slide.
- Check domestic tax legislation for a procedure that foresees relief from double taxation.
- Unilateral intra domestic procedures: firms can go to the regional tax inspector. But, regional tax inspector doesn’t feel comfortable enough to have a say about the transfer pricing policy. So, they have to contact someone else and this is costly and time consuming.
- MAP (DTT): Mutual agreement procedure (double tax treaty). If your transaction is not between EU companies or for instance between Belgium and a country with whom Belgium doesn’t have a double taxation agreement, then you cannot solve the problem.
- Complex/time-consuming/expensive
- No certainty about a (timely) solution/exemption
Have these countries concluded a double tax treaty?
Yes. If the treaty includes mutual agreement procedure, tax authorities have to sit together, but it doesn’t obligate them to find a solution.
(Belgium – US: arbitration clause). They have to come to a solution (= resultaatsverbintenis) Almost always a guarantee that your double taxation will be solved.
=> Arbitration commission forseen, guaranteed soltion, so relief of double taxation.
What makes a solution certain in the case of double taxation in Europe?
European Arbitration Convention (EAC):
Convention that every EU-country needs to foresee in their domestic legislation. The right of a company established in the EU to call upon the provision in the EAC. Can only be applied between EU members.
The convention foresees de facto 3 stages.
1. Mutual agreement procedure: Tax authorities come together and are obliged to discuss the problem of the double taxation. (2 year period to find a solution)
2. If after 2 years there is no consensus for a solution, an AC (arbitration commission) will be assembled. (6 months period to establish the commission)
3. A number of experts will come together to find and propose a solution to the countries. (6 months to find a solution)
=> After 3 years the relief from double taxation will be realized (in practice this can take longer)
What is the impact of the TP analysis on cash (financial)? (5)
- Double Taxation (2 taxes on the same income it has a cash impact)
- Unexpected cash calls
- Interest on Tax (for late payment)
- Penalties (sometimes they levy penalties so that’s also a problem)
- Fees for external advisors
