Transfer Pricing in the International Context of Economic Downturn

Octombrie 2009

TEODORA ALECU - Director Divizia Consultanta Fiscala – Preturi de transfer NICULAE DONE - Senior Tax Partner KPMG ROMÂNIA S.R.L.

As the economic downturn continues, and with many analysts predicting that recovery is unlikely before 2010, governments worldwide are coming under growing financial pressure. Not only are they having to bail out banks and other industries to avoid social crises and mass unemployment, but they are also finding that their tax revenue is decreasing. Many companies have seen their profits slashed and some have gone out of business. A significant number of individuals are earning less, and unemployment is rising. All this means less tax coming in. In response, tax authorities have intensified their efforts to collect revenue, conducting more frequent audits and clamping down on tax avoidance and evasion.

Moreover, the recession has caused an increase in events which under any circumstances would encourage the tax authorities to conduct audits. These include companies making substantial losses, or closures, which frequently put the authorities on alert in case such occurrences are being used to mask tax liabilities.

 

Increasing global focus on transfer pricing

The tax authorities of virtually all the major market economies have implemented transfer pricing rules, often accompanied by documentation requirements with significant penalty provisions. In the past it was possible to focus transfer pricing compliance on the requirements of just one country, but now multinational companies must respond to an ever-changing landscape of court decisions, rule-making and regulations. With an increasing range of challenges, transfer pricing policies and documentation have to be designed - to the best possible extent - to satisfy the requirements of each tax authority that has an interest in the transaction.

However, dealing effectively with tax authorities is complicated due to various differences in transfer pricing regulations and practices. One of the major differences existing between various jurisdictions is that although the overriding principle of the arm's-length standard, as set forth in the guidelines of the Organization for Economic Co-operation and Development (OECD), enjoys almost world wide acceptance; local country approaches vary considerably.

Given the need to meet the requirements of two or more tax authorities with sometimes conflicting rules, transfer pricing becomes an exercise in risk management rather than simple compliance. With each new announcement of transfer pricing enforcement initiatives, the development of transfer pricing policies that meet corporate objectives, satisfy each of the tax authorities at issue, and reduce the risk of double taxation becomes increasingly more complex.

Later in this article we detail some major changes of transfer pricing regulation and practices of some economic regions throughout the globe (i.e. the Americas, Asia Pacific and Europe).

Transfer pricing in the Americas

Despite the geographic proximity of the countries in the American continents, transfer pricing issues faced by taxpayers in the various jurisdictions of the region are not at all consistent. Taxpayers face issues and challenges in the United States that are very different from those they face in Latin America and somewhat different from those they face in Canada.

Canada has earned a reputation as one of the countries with the toughest transfer pricing audits. Canadian companies have seen audit adjustments that slash outbound royalties and require high levels of operating profit on the assumption that the Canadian market has unique characteristics in which substantial profits are earned if the arm's-length principle is respected.

At the same time, the Canadian Revenue Agency (CRA) recently announced that it would restrict the use of Advance Pricing Agreements (APAs) where the taxpayer is under audit. Previously, taxpayers seeking to settle future periods through an APA could also request that the APA terms be "rolled back" to include years under audit. Now in Canada they must seek separate resolution of the pre- and post-audit periods.

In the US, the Obama administration has initiated several measures to enhance the enforcement capacity of the IRS such as the increase of the budget for transfer pricing regulations enforcement in 2010 to USD 5.5 bn (7.6 percent more that in 2009). These extra funds will be particularly focused towards the training of 800 new employees in transfer pricing and international taxation and for conducting transfer pricing audits throughout the country. The 800 new employees will be hired in addition to the 700 employees budgeted for 2009. This significant investment is being made to upgrade the current fiscal enforcement bodies so they can become more effective and tax as much American profit as possible in a fair, transparent manner.

• US administration measures to enhance the enforcement capacity of the IRS

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