In a leading case on the burden of proof and documentation requirements in relation to transfer pricing, the Danish National Tax Tribunal sets aside the Danish tax au-thorities' decision to increase the taxable income of a consolidated company.

The ruling of the Danish National Tax Tribunal

On 16 December 2015, the Danish National Tax Tribunal issued a ruling in a leading case on transfer pricing, which was announced on 3 October 2016. The Danish tax authorities, SKAT, had increased the taxable income of a company on the grounds that the company had priced controlled transactions contrary to the arm's length principle.

Duty to provide documentation and burden of proof
During the proceedings the company presented comprehensive material relating to its transfer pricing services, including comparability analyses and accounts of how prices and conditions of the services provided had been determined.

The Danish National Tax Tribunal found that the company had met the documentation requirements for controlled transactions, for which reason it was up to SKAT to render probable that the company had not complied with the arm's length principle.

During the proceedings, SKAT was not able to document that the comparability analysis presented by the company was subject to uncertainty to such an extent that it was unfit to serve as basis for settlement of the controlled transactions. Furthermore, SKAT failed to present a more fair transfer pricing method than the method applied by the company. Thus, SKAT had not satisfied the burden of proof, and the company was successful in its claim that the price of the services in question was determined in accordance with the arm's length principle.

Bech-Bruun's comments

The ruling of the Danish National Tax Tribunal establishes that SKAT is not entitled to make a discretionary assessment if the company in question has prepared adequate transfer pricing documentation. If the documentation requirement has been met, the burden of proof passes from the company to SKAT.

If SKAT disagrees with the applied transfer pricing method in the documentation presented, it is up to SKAT to prove or (at least) render probable that the documentation provided cannot form the basis for settlement, and as such SKAT must present a method which is more fair than the one applied by the company.

Bech-Bruun has significant knowledge of the Danish transfer pricing regime and is able to assist businesses in their preparation of transfer pricing documentation as well as review of existing documentation with a view to determine to what extent a business is exposed to fines under the new rules. Furthermore, Bech-Bruun has vast experience in representing businesses in transfer pricing matters vis-à-vis SKAT and the Danish Tax Tribunal as well as before the courts.

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Facts of the case 

The case concerned a large, global company that provides management consulting services, technology services and outsourcing solutions to clients worldwide.

The company's primary characteristic is a global delivery model which consists of intercompany IAA transactions (International Assignment Agreement) and is the company's main competitive advantage.

The IAA agreements concluded between the units of the company enables the company to seamlessly transfer its resources, including in-depth technical expertise, intellectual property assets and wide-ranging services to clients worldwide. The cross-border transfer of resources is in the form of secondment of employees between the units of the company.

The view of SKAT 

To support its claim to increase the taxable income of the company, SKAT stated that the comparability analysis presented by the company was faulty to such a degree that it could not form the basis of an assessment of the arm's length price of the IAA services. SKAT specified in particular two main points where the company had made errors in its analysis.

Comparable companies
Firstly, SKAT was of the opinion that the company in its comparability analysis had applied an incorrect activity code. In this connection, SKAT argued that the comparability analysis should have been based on standard temporary employment agencies and not consultancy firms, as applied by the company, since the company only seconded employees when the employees were not already engaged in tasks with the seconding unit. In addition, SKAT stated that the functions and risks associated with the units' secondment of employees were limited to the administration of the secondment itself. Consequently, the nature of the seconding unit was that of an intermediary or agent with limited risks rather than a consultancy firm.

Net Profit Principle
Secondly, SKAT stated that the company in its pricing had applied a net profit principle rather than a gross profit principle as specified by the company, since the seconding unit's total costs in relation to the secondment only comprised payroll costs with the addition of overhead costs. In this connection SKAT rejected that expenses in the form of general administrative costs, costs for training of staff, etc., could be included in the cost base. According to SKAT, the company had thus calculated mark-up based on too high a cost base.

Insufficient documentation
As a result of the detected errors in the comparability analysis presented by the company, SKAT was of the opinion that the TP documentation presented by the company was not sufficient. Against this backdrop, SKAT made its own assessment of the pricing of the IAA services on the basis of temporary employment agencies and by application of a net profit principle whereby indirect costs were not included.

The view of the company

The company argued that the result of the benchmark survey should be considered reasonable as well as the best possible arm's length principle basis for pricing of the IAA services.

Gross Profit Principle
In relation to the above, the company argued that the corrections made by SKAT did not comply with the arm's length principle, as SKAT had applied a mark-up based on net costs, whereby the seconding unit only received partial coverage of its overhead costs related to the IAA transactions. Thus, SKAT had failed to include the company's investment in the training of employees, lost opportunities' costs as well as the obligation to pay wages and other compensation to the employees.

Comparable companies
Furthermore, the company stated that the seconding units were not comparable with tem-porary employment agencies, since the IAA transactions are characterised by the fact that the seconding units undertake significant ongoing investments in the training and development of employees, unlike temporary employment agencies. In addition, the seconding units assume the risk of them not being able to engage the seconded employees in their own businesses during the secondment. Also, unlike temporary employment agencies, the seconding units are obliged to pay wages to the employees regardless whether the employees in periods may constitute idle capacity for the units.

Burden of proof
Finally, the company argued that the TP documentation it presented was sufficient and that SKAT thus did not have a legal basis for making its discretionary assessment of the pricing of the IAA services. According to the company, SKAT thus had to render probable that the company's pricing of the IAA services did not comply with the arm's length principle as well as present a method that would result in a more fair remuneration than the method applied by the company.

The ruling of the Danish National Tax Tribunal


Documentation requirements and the burden of proof
The Danish National Tax Tribunal found that it was up to SKAT to render probable that the company's prices of IAA services did not comply with the arm's length principle. The Danish National Tax Tribunal based this on the fact that the company had presented comprehensive and sufficient TP documentation. Consequently, SKAT had the burden of adequately documenting that the comparability analysis presented by the company was faulty to such an extent that the analysis could not form the basis for the pricing of the IAA services.

Cost base
Furthermore, the Danish National Tax Tribunal found that the basis for calculating mark-up should include all costs associated with the IAA services. The company had in this regard presented sufficient documentation that indirect costs should be included in the pricing of the IAA services.

Comparable companies
In addition, the Danish National Tax Tribunal held that ordinary temporary employment agencies, whose sole task is to provide labour and thus incur far fewer costs than international consultancy firms, could not form the basis for a comparability analysis concerning the consulting company in question, which seconds highly specialised labour.

The ruling of the Danish National Tax Tribunal
In light of the above, the Danish National Tax Tribunal found that SKAT had not discharged the burden of proof. The discretionary increase of the company's taxable income was thus not upheld.