On March 11, 2014, a working document, “Paper on Transfer Pricing Comparability Data and Developing Countries” (the “Paper”), was released by the OECD.
The document is the result of the G8’s request made during its last summit to find ways to address the concerns expressed by developing countries on the quality and availability of information regarding comparable transactions for transfer pricing purposes. This is an interim draft, published for comments, and the views expressed in the document do not necessarily represent those of the OECD members countries.
The Paper starts by noting that commercial searchable economic databases commonly used for comparability purposes provide imprecise or limited financial data on companies operating in developing countries due to (i) the limited number of sizeable independent companies, (ii) the absence of requirements for the public registration of companies’ statutory accounts, and (iii) the difficulties in obtaining access to such information when it exists.
The Paper emphasizes that insufficient comparables data create difficulties in terms of effectiveness of transfer pricing methods based on comparables and of compliance with OECD principles. This may also deny countries tax revenue and create an uncertain investment climate for business. Lastly, according to the Paper, the lack of objective data may result in difficulties in resolving disputes and encourage the adoption of aggressive positions by both the tax authorities and taxpayers.
In order to address these concerns, the Paper suggests four approaches:
- Expanding access to data sources for comparables, through, for example, regional initiatives, introduction of requirements for filing statutory accounts, setting-up of internal databases by tax authorities;
- More effective use of data sources for comparables: training of tax administrations, but also broadening of comparables searches (geographic markets, industries, tested party);
- Use of alternative approaches that reduce reliance on direct comparables: although formulary apportionment is excluded by the Paper, alternative approaches notably include profit split method, value chain analysis, safe harbors, “sixth method” or anti-avoidance mechanisms; and
- Advance pricing agreements (“APA”) and mutual-agreement proceedings.Comments on this Paper were due by April 11.
Baker & McKenzie comments:
Although some suggestions in the Paper are appropriate and welcome (broadening comparables searches to other geographic markets, APA, mutual agreement proceedings), certain action proposals are questionable. In particular, the use by tax authorities of secret comparables raises serious concerns, as well as the suggestion that a broader use of the profit split method may be a solution to the lack of comparables data. In effect, although a profit split method may be appropriate where a lack of comparables is due to the contribution of unique valuable intangible assets by both parties to a transaction, this cannot systematically be the solution where it is due to insufficient public data. It is to be asked whether the Paper emphasizes comparables at the expense of the selection of the most appropriate transfer pricing method. For example, in a contract manufacturing transaction, would it be more appropriate to apply a cost-plus method with a possible uncertainty about the mark-up due to the lack of reliable comparables, or to apply a profit split method with no comparables?
Further developments on this Paper will have to be closely monitored given that, in practice, during tax audits, companies are frequently faced with the rejection of their comparables and the substitution of other comparables by the tax authorities.