The Australian Taxation Office (ATO) on May 16, 2017, released Draft Practical Compliance Guideline (PCG) 2017/D4 setting out the ATO’s compliance approach to cross-border related party financing arrangements. It sets out a multifaceted framework for how the ATO differentiates risks (according to six colour-coded risk zones) and how it proposes to tailor its compliance approach according to the features of the related party financing arrangement, the profile of the parties and the choices and behaviours of the multinational group.
PCG 2017/D4 seeks to ‘assist’ taxpayers in assessing the tax risk of a related party financing arrangement in accordance with the ATO’s risk framework and understand the compliance approach the Commissioner is likely to adopt given the risk profile of a related party financing arrangement. It follows the recent decision in Chevron Australia Holdings Pty Ltd v Commissioner of Taxation  FCAFC 62. When issued in final, PCG 2017/D4 will apply to both existing and newly created financing arrangements, structures, and functions from July 1, 2017. Broadly, PCG 2017/D4 details that any pricing of a related party debt should be ‘in line with the commercial incentive of achieving the lowest possible all-in cost to the borrower’. This means there is an expectation that, in most cases, ‘the cost of the financing should align with the costs that could be achieved, on an arm’s-length basis, by the parent of the global group to which the borrower and lender both belong’.
In assessing such related party debt, a cumulative consideration will be given to the presence of various qualitative and quantitative risk indicators beyond mere pricing. These include, but are not limited to, foreign tax rate of lender, hybridity of instruments, residency of lender, and ‘exotic’ features.
PwC observation: Entities with related party financing arrangements that fall outside the low risk category can expect the Commissioner of Taxation to monitor, test and/or verify the tax outcomes of such arrangements. The higher the risk rating, the more likely an arrangement will be subject to specific ATO review and scrutiny. Taxpayers are expected to document their self-assessment of risk for related-party financing arrangements.