Companies got long-awaited help Friday for ensuring that their pandemic-era cross-border arrangements don’t run afoul of the tax authorities.
The Organization for Economic Cooperation and Development’s guidance addresses four issues companies are currently struggling with: comparability analysis; losses and the allocation of Covid-19-specific costs; government assistance programs; and advance pricing agreements.
Companies have been asking for answers by year-end on key transfer pricing questions posed by this year’s pandemic, to help them avoid double taxation and disputes with tax authorities. Transfer pricing is how companies value their intercompany transactions.
The guidance reflects the consensus view of the 137 jurisdictions that make up the OECD’s Inclusive Framework, giving companies more certainty that tax authorities will accept their intercompany arrangements. Both companies and tax authorities face an “an urgent need to address these practical questions,” the report said.
“Generally, the guidance is conceptually very useful,” said John Warner, a shareholder at Buchanan Ingersoll & Rooney PC in Washington. “It gets into a lot of detail that could help taxpayers and tax administrations set up or frame COVID-19 related transfer pricing issues.”
The OECD guidelines explain to multinationals how they can continue to value transactions between related entities as if they were unrelated—known as the arm’s length principle—during the unique economic circumstances of the pandemic.
Transfer pricing calls for companies to find appropriate real-world data to support an arm’s length valuation for related entities. That comparability analysis has been difficult for some to find in 2020, as the pandemic has disrupted many companies and industries this year.
The OECD guidance includes the contemporaneous information companies can use to support their 2020 comparability analysis as well as what tax administrations can consider when comparability information isn’t available.
Many multinational groups incurring losses this year worry about an increased risk of disputes with tax authorities over how to allocate those losses among their entities.
Companies typically allocate the majority of profits to the entity that takes on risks, performs critical functions, makes investments, or develops or holds intellectual property. The OECD guidance urges companies to rely on those same principals when divvying up losses.
A key question for companies has been how to allocate losses to entities that perform low-risk activities, like distribution. The guidance didn’t provide a general rule in those situations, but instead advised a facts-and-circumstances analysis of each particular entity’s functions, assets, and risks.
“The guidance contains some helpful language on the possibility that ‘limited risk’ distributors may suffer at least short-term losses at arm’s length,” Warner said. “So, the key for taxpayers seeking to claim such losses for those controlled distributors will be to find data for comparable uncontrolled limited risk distributors to support those results.”
Agreements, Government Assistance
Advance pricing agreements—in which companies and governments agree on their transfer pricing over a set period of time to provide more certainty—"should be respected, maintained and upheld” despite the pandemic, the OECD said, unless a critical assumption clause has been breached.
The clause requires that any critical assumptions made by both the company and government when negotiating the agreement must be maintained or the APA will be void.
“Engaging with the tax authorities proactively, supported by well documented evidence on the impact of COVID 19, would be important,” for taxpayers with existing APAs and APAs under negotiation that may be affected by Covid-19, said Shee Boon Law, director of international tax at DLA Piper in London.
The OECD also advised companies to consider the specific terms of government support programs, like wage subsidies, and the economic characteristics of the transaction. It also addressed questions on whether and how government assistance may modify allocation of risk or affect comparability analysis.
In dealing with any transfer pricing issues this year, it is important for companies to keep contemporaneous documentation, Law said.
“In a year or two we might all forget how crazy these last months were,” he said.