Issues to consider in the wake of difficult economic times
Most businesses lost capital and revenue in the global economic crisis, reducing tax obligations and, in many instances, increasing tax losses. As times improve and government deficits remain, tax authorities are likely to look back and aggressively challenge what they will view as a “transfer pricing gap” between reported economic performance and taxes due during the crisis. So companies have an urgent need to document in a forensic way the factors supporting their current transfer pricing decisions. A well-documented case can reduce defense costs, lower the risk of flawed, unfair rulings and potentially avoid accrued penalties and interest.
Issues you should consider
Here are six tips to take stock of when building your transfer pricing positions:
Government’s dilemma. Weak economies make it difficult for governments to increase marginal tax rates, expand their tax base with direct or indirect measure, or introduce new asset-based taxes designed to capture the upside when asset values rise again. Consumption taxes require spending. Income taxes need gainful employment and businesses profitability.
The likely response. Expect governments to direct revenue agencies to aggressively monitor the cause and growth in personal and corporate tax losses (e.g., arising from unprofitable businesses and/or disposal of capital assets) and increase their challenges of claims for deduction of those losses against later year revenues. A likely focus of these efforts will be ”outcomes” of international related party transactions reported by multinationals.
The need to document. Given financial pressures, companies may be tempted to cut back on transfer pricing documentation. But it has never been more important, given the likelihood of more frequent challenges to claims over the next decade. Even if documentation does not prevent an adjustment, it will put you in a better position to negotiate for substantial if not full remission of penalties.
Put decisions in context. The effects of macroeconomic factors that have influenced markets and customer sentiment and behavior, especially their impact on margins, need to be captured. You will want to preserve reports and analysis of international agencies and industry bodies, movements in foreign currencies, performance of major stock exchanges and trends in local and global commodity and futures markets. Also, note national and international political and economic issues, natural disasters, terrorist attacks, civil unrest and changes to laws.
Be specific about operational issues. Document and record the reasons for changes in sales and purchase volumes, unit sales and purchase prices, terms and conditions of trade, cash flow and funding options and other relevant activities. Make sure you analyze and identify the key business drivers for each of your business units and divisions, whose details often are not evident in consolidated corporate result.
Explain the fundamentals. In today’s economy, some arm’s length parties whose transactions might in other times have provided comparables for determining transfer pricing margins, may have extraordinary reasons to accept lesser margins, even losses, to stay in business or retain or grow market share. It’s important to document arguments for excluding these otherwise “acceptable” comparables and for including others.
Our experience and service advantages
Our global tax practice is the highest rated, most recommended of any law firm in the world. We bring to tax matters a unique ability to design, implement and defend sophisticated tax structures and transfer pricing strategies and programs in markets across the world. We have been global leaders in managing major tax controversies for almost 50 years, giving us unique insights to anticipate and prevent risks that others often overlook. With innovative and legally sound solutions, we help clients reduce their overall tax rate and protect their business.
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