BEPS this, BEPS that: the Master file, the Local file and the Country-by-Country Report

Par Robert Robillard - 6 novembre 2014

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RBRT Inc. Transfer pricing, tax treaties and other international tax matters

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OECD Transfer Pricing Guidelines:  New Transfer Pricing Documentation Rules

RBRT Transfer Pricing’s Technical Note
No. 2014-11

On September 16, 2014, the OECD released its first series of publications pertaining to the Base Erosion and Profit Shifting initiative (BEPS). This release included new rules on the transfer pricing documentation of transactions between parties not dealing at arm’s length. These rules can be found in Guidance on Transfer Pricing Documentation and Country-by-Country Reporting. They now replace the current Chapter V of the OECD Transfer Pricing Guidelines.

In Canada, some of the new transfer pricing information may already be made available to the Canada Revenue Agency through sections 233.1, 233.3 and 233.4 of the Canadian Income Tax Act (i.e., the reporting obligations through Forms T106, T1134 and T1135). Other transfer pricing information may have been assembled to respond to a request for contemporaneous documentation of the Canada Revenue Agency.

However, the new OECD transfer pricing documentation rules substantially expand the scope of the transfer pricing information that should now be made available to the tax administrations around the world.

The transfer pricing policies and procedures of companies involved in international transactions must be updated to account for these changes. Other business processes may also need to be reconsidered, revised or modified to insure strong operational transfer pricing processes in the MNE group.

The OECD has put forward a “three-tiered approach” to transfer pricing documentation between related parties not dealing at arm’s length:

• the Master file;
• the Local file;
• the Country-by-country report.

This RBRT Transfer Pricing’s Technical Note highlights the information required by these new OECD transfer pricing documentation rules soon to be included in the Canadian Income Tax Act or in the administrative position of the Canada Revenue Agency (for pdf format: click here).

A – Transfer pricing documentation: the Master file

Paragraphs 18-21 and Annex I of the Guidance on Transfer Pricing Documentation and Country-by-Country Reporting (new Chapter V of the OECD Transfer Pricing Guidelines) offer more detail on the components of the Master file. In short, the Master file outlines the organizational structure of the MNE group. It comprises information that can be grouped into five broad categories.

1. Organisational structure

1.1. Chart illustrating the legal and ownership structure of the MNE group and the geographical location of the operating entities.

2. Description of the business of the MNE group

2.1. Important drivers of business profit.
2.2. A description of the supply chain for the group’s five largest products and/or service offerings by turnover plus any other products and/or services amounting to more than 5% of group turnover. The required description could take the form of a chart or a diagram.
2.3. An inventory and brief description of important service arrangements between members of the MNE group, other than research and development (R&D) services, including a description of the capabilities of the principal locations providing important services and transfer pricing policies for allocating services costs and determining prices to be paid for intra-group services.
2.4. A description of the main geographic markets for the products and services that are referred to in item 2.2 above.
2.5. A brief written functional analysis describing the principal contributions to value creation by individual entities within the group, i.e. key functions performed, important risks assumed, and important assets used.
2.6. A description of important business restructuring transactions, acquisitions and divestitures occurring during the fiscal year.

3. Intangibles

3.1. A general description of the overall strategy of the MNE for the development, ownership and exploitation of intangibles, including location of principal R&D facilities and location of R&D management.
3.2. An inventory of intangibles or groups of intangibles of the MNE group which are important for transfer pricing purposes and which entities legally own them.
3.3. An inventory of important agreements among identified associated enterprises related to intangibles, including cost contribution arrangements, principal research service agreements and licence agreements.
3.4. A general description of the transfer pricing policies of the MNE related to R&D and intangibles.
3.5. A general description of any important transfers of interests in intangibles among associated enterprises during the fiscal year concerned, including the entities, countries, and compensation involved.

4. Intercompany financial activities

4.1. A general description of how the group is financed, including important financing arrangements with unrelated lenders.
4.2. The identification of any members of the MNE group that provide a central financing function for the group, including the country under whose laws the entity is organised and the place of effective management of such entities.
4.3. A general description of the general transfer pricing policies related to financing arrangements between associated enterprises in the MNE.

5. Financial and tax positions

5.1. The annual consolidated financial statement of the MNE group for the fiscal year concerned if otherwise prepared for financial reporting, regulatory, internal management, tax or other purposes.
5.2. An inventory and brief description of the existing unilateral advance pricing agreements (APAs) and other tax rulings relating to the allocation of income among countries of the MNE group.

B – Transfer pricing documentation: the Local file

Paragraphs 22-23 and Annex II of the Guidance on Transfer Pricing Documentation and Country-by-Country Reporting (new Chapter V of the OECD Transfer Pricing Guidelines) describe the constituents of the Local file. The Local file provides more detailed information on the specific intercompany transactions of the local entity (i.e., a specific taxpayer). The information required in the local file serves to complement the Master file. It includes information that can be grouped into three categories.

1. Local entity

1.1. A description of the management structure of the local entity, a local organisation chart, and a description of the individuals to whom local management reports and the country(ies) in which such individuals maintain their principal offices.
1.2. A detailed description of the business and business strategy pursued by the local entity including an indication whether the local entity has been involved in or affected by business restructurings or intangibles transfers in the present or immediately past year and an explanation of those aspects of such transactions affecting the local entity.
1.3. Key competitors.

2. Controlled transactions

2.1. A description of the material controlled transactions (e.g. procurement of manufacturing services, purchase of goods, provision of services, loans, financial and performance guarantees, licences of intangibles, etc.) and the context in which such transactions take place.
2.2. The amount of intra-group payments and receipts for each category of controlled transactions involving the local entity (i.e. payments and receipts for products, services, royalties, interest, etc.) broken down by tax jurisdiction of the foreign payor or recipient.
2.3. An identification of associated enterprises involved in each category of controlled transactions, and the relationship amongst them.
2.4. Copies of all material intercompany agreements concluded by the local entity.
2.5. A detailed comparability and functional analysis of the taxpayer and relevant associated enterprises with respect to each documented category of controlled transactions, including any changes compared to prior years. To the extent this functional analysis duplicates information in the Master file, a cross-reference to the Master file is sufficient.
2.6. An indication of the most appropriate transfer pricing method with regard to the category of transaction and the reasons for selecting that method.
2.7. An indication of which associated enterprise is selected as the tested party, if applicable, and an explanation of the reasons for this selection.
2.8. A summary of the important assumptions made in applying the transfer pricing methodology.
2.9. If relevant, an explanation of the reasons for performing a multi-year analysis.
2.10. A list and description of selected comparable uncontrolled transactions (internal or external), if any, and information on relevant financial indicators for independent enterprises relied on in the transfer pricing analysis, including a description of the comparable search methodology and the source of such information.
2.11. A description of any comparability adjustments performed, and an indication of whether adjustments have been made to the results of the tested party, the comparable uncontrolled transactions, or both.
2.12. A description of the reasons for concluding that relevant transactions were priced on an arm’s length basis based on the application of the selected transfer pricing method.
2.13. A summary of financial information used in applying the transfer pricing methodology.
2.14. A copy of existing unilateral and bilateral/multilateral APAs and other tax rulings to which the local tax jurisdiction is not a party and which are related to controlled transactions described above.

3. Financial information

3.1. Annual local entity financial accounts for the fiscal year concerned. If audited statements exist they should be supplied and if not, existing unaudited statements should be supplied.
3.2. Information and allocation schedules showing how the financial data used in applying the transfer pricing method may be tied to the annual financial statements.
3.3. Summary schedules of relevant financial data for comparables used in the analysis and the sources from which that data was obtained.

C – Transfer pricing documentation: the Country-by-Country Report

Paragraphs 24-26 and Annex III of the Guidance on Transfer Pricing Documentation and Country-by-Country Reporting (new Chapter V of the OECD Transfer Pricing Guidelines) define the components of the Country-by-country report. In short, the Country-by-country report requires aggregate “tax jurisdiction-wide information” relating to the global allocation of the income, the taxes paid, and various indicators of the location of economic activity among tax jurisdictions in which the MNE group operates.

The Country-by-country report also requires a comprehensive inventory of all the entities for which financial information is reported, including the tax jurisdiction of incorporation, where different from the tax jurisdiction of residence, as well as the nature of the main business activities carried out by every entity. It comprises information that can be grouped into three broad categories.

1. An inventory of every tax jurisdiction in which the entities of the MNE group are resident for tax purposes.

2. For each tax jurisdiction, the total amounts as it pertains to:

2.1. Revenues generated from transactions with associated enterprises, including the sales of inventory and properties, services, royalties, interest, premiums and any other amounts.
2.2. Revenues generated from transactions with independent (arm’s length) parties, including the sales of inventory and properties, services, royalties, interest, premiums and any other amounts.
2.3. Profit (Loss) before income tax, including all extraordinary income and expense items.
2.4. Income tax paid on a cash basis.
2.5. Income tax accrued for the current year.
2.6. Stated capital.
2.7. Accumulated earnings.
2.8. Number of employees.
2.9. Tangible assets other than cash and cash equivalents.

3. In each tax jurisdiction, an inventory of the entities resident and the nature of the main business activity(ies) carried out by every entity in a specific tax jurisdiction, including:

3.1. Research and development.
3.2. Holding or managing intellectual property.
3.3. Purchasing or procurement.
3.4. Manufacturing or production.
3.5. Sales, marketing or distribution.
3.6. Administrative, management or support services.
3.7. Provision of services to unrelated parties.
3.8. Internal group finance.
3.9. Regulated financial services.
3.10. Insurance.
3.11. Holding shares or other equity instruments.

Conclusion

Paragraphs 27-46 of the Guidance on Transfer Pricing Documentation and Country-by-Country Reporting (new Chapter V of the OECD Transfer Pricing Guidelines) discuss numerous compliance issues that may arise from the new OECD transfer pricing documentation rules including efforts to assemble the contemporaneous documentation, the timing of the preparation of the transfer pricing documentation, materiality of a specific controlled transaction for inclusion in the documentation, frequency of documentation update and confidentiality issues.

Considered altogether, the new OECD transfer pricing documentation rules should not be taken lightly since these new rules will slowly enter domestic tax laws around the world. France has already taken concrete steps to include the new transfer pricing documentation rules in its domestic tax law. Other countries are expected to follow.
In Canada, the new OECD rules will likely be included in the Canadian Income Tax Act or in the administrative position of the Canada Revenue Agency.

The transfer pricing policies and procedures of companies involved in international transactions must be updated to account for these changes. Other business processes may also need to be reconsidered, revised or modified to insure strong operational transfer pricing processes in the MNE group.

For pdf format: click here / (en français ici)

Robert Robillard, CPA, CGA, MBA, M.Sc. Econ.
Transfer Pricing Chief Economist, RBRT Inc.
514-742-8086; robert.robillard « at » localhost
www.localhost

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RBRT Inc. is all about transfer pricing. We specialize in transfer pricing, tax treaties and other international tax matters. Our services include transfer pricing documentation (transfer pricing policies and procedures, BEPS and C-doc), transfer pricing dispute resolution, tax treaty matters including double tax relief, tax treaty-based returns and waivers, advanced pricing agreement (APA), value chain management and TP planning, transfer pricing training. The information in this blog post is general information only. Data and information come from sources believed to be reliable but complete accuracy cannot be guaranteed. RBRT Inc. and the author are not responsible or liable for any error, omission or inaccuracy in such information. Readers should seek tax counsel from RBRT Inc. as required.