An assessment had been issued by the tax authorites in regards of Auronext Pharma’s pricing of purchase and sales transactions with related parties. The tax authorities had rejected the CUP method applied by Auronext Pharma. “Since the comparable transactions were with related parties those transactions cannot be considered under CUP method for the purpose of benchmarking the taxpayers transactions.” Instead, the tax authorities used the Transactional Net Margin Method (TNMM). An appeal was filed by Auronext Pharma with the ITAT. Judgement of the Income Tax Appellate Tribunal The ITAT remanded the case to the tax authorities to examine afresh the data available with respect to un-related parties and find out whether the transaction of the assessee are at arm’s length or not by applying the CUP method. Excerpt ” (…) The sole basis of rejecting the method adopted by the assessee was the transactions were between the related parties and were not un-controlled transactions. A similar view was also expressed by the DRP while passing the impugned order in paragraph 2.2.1. and also in the report filed by the TPO before us dt. 01.05.2023 (supra). 14 Undoubtedly, the assessee in the rejoinder has rebutted the contention of the TPO/DRP and had submitted that the documents/data were furnished before the DRP, of unrelated parties transactions with respect to sale of goods/products. The record shows that the assessee had filed the documents before the DRP and on account of that reason only it was contended by the assessee that the data is readily available. In view of the above, we are of the opinion that the DRP/TPO is duty bound to examine the data available in respect of un-related parties and apply the CUP method to benchmark the international transactions. The assessee, in the original submissions as well as in rejoinder has given the details of unrelated parties, which are mentioned in the preceding paragraphs. In the light of the above, we deem it appropriate to remand back the matter to the file of the TPO/AO to examine afresh the data available with respect to un-related parties and find out whether the transaction of the assessee are at arm’s length or not by applying the CUP method. Needless to say,while doing so, the TPO, may not restrict to the comparables suggested by the assessee, who are unrelated parties and the TPO may be at liberty to find out any other suitable comparables having similar profile, functions and fulfil the other criteria laid down under rule 10B for CUP method.” “It may be apposite to mention that we have not expressed any opinion on merits of the case of the assessee, more particularly about the TNMM method and capacity utilization etc. Those issues are left open to be decided in appropriate proceedings.” ...

By judgment of 22 May 2020, the Administrative Court upheld the complaint filed by “Rubbertek Bulgaria” and set aside an assessment for FY 2015-2016 issued by the tax authorities on the determination of the arm’s length income resulting from related party transactions. According to the Administrative court, the tax assessment was unfounded and unsubstantiated. An appeal was filed by the tax authorities with the Supreme Administrative Court in which the authorities stated that the decision of the Administrative Court was incorrect. The court erred in finding that the decision of the tax authorities referred to other comparable companies than those in Rubbertek Bulgaria’s documentation. Furthermore, the court uncritically accepted Rubbertek Bulgaria’s claim that the reason for the deviation of the declared income from the median for 2015 and 2016 was a relocation of assets from the German company to the Bulgarian company. Judgement of the Supreme Administrative Court The Supreme Administrative Court decided in favour of the tax authorities and set aside the decision of the Administrative Court. Excerpts “”The Court of First Instance erred in holding that the auditing authorities failed to analyse/examine specific transactions, one or more of which were found to have been entered into under conditions the performance of which led to tax avoidance.” “The Court of First Instance also erred in finding that the tax authorities had not proved in the course of the audit proceedings that the profit level indicator, net cost plus surcharge, fell below the lower quartile as a result of the relocation process from the Rubbertek group of companies.” “In view of the foregoing, the financial results of the audited entity for 2015 and 2016 were lawfully restated in an upward direction by the audit act on the basis of Article 78, in conjunction with Article 16(1)(a) of the Tax Code. 1 of the Income Tax Act, as a result of which the due corporate tax and interest were established. In accordance with the positive tax results for 2015 and 2016, the transformation of the financial result for 2017 is also lawful. (1) of the Code of Civil Procedure, to rule on the merits, by which the company’s appeal against the revision act should be dismissed as unfounded.” “ Click here for English Translation Click here for other translation ...

When considering issues of comparability, the possibility of internal CUPs should not be overlooked ...

Arm’s length interest rates can also be based on the return of realistic alternative transactions with comparable economic characteristics. Depending on the facts and circumstances, realistic alternatives to intra-group loans could be, for instance, bond issuances, loans which are uncontrolled transactions, deposits, convertible debentures, commercial papers, etc. In the evaluation of those alternatives as potential comparables it is important to bear in mind that, based on facts and circumstances, comparability adjustments may be required to eliminate the material effects of differences between the controlled intra-group loan and the selected alternative in terms of, for instance, liquidity, maturity, existence of collateral or currency ...

Once the existence or absence of an indemnification clause in favour of the restructured entity upon termination, non-renewal or substantial renegotiation of the agreements has been determined, the analysis should then focus on assessing whether such indemnification clause and its terms (or absence thereof) are arm’s length. Where comparables data evidence a similar indemnification clause (or absence thereof) in comparable circumstances, the indemnification clause (or absence thereof) in a controlled transaction will be regarded as arm’s length ...

Taxpayers should not be expected to incur disproportionately high costs and burdens in producing documentation. Therefore, tax administrations should balance requests for documentation against the expected cost and administrative burden to the taxpayer of creating it. Where a taxpayer reasonably demonstrates, having regard to the principles of these Guidelines, that either no comparable data exists or that the cost of locating the comparable data would be disproportionately high relative to the amounts at issue, the taxpayer should not be required to incur costs in searching for such data ...

One possible approach is to split the relevant profits based on the division of profits that actually is observed in comparable uncontrolled transactions. Examples of possible sources of information on uncontrolled transactions that might usefully assist the determination of criteria to split the profits, depending on the facts and circumstances of the case, include joint-venture arrangements between independent parties under which profits are shared, such as development projects in the oil and gas industry; pharmaceutical collaborations, co-marketing or co-promotion agreements; arrangements between independent music record labels and music artists; uncontrolled arrangements in the financial services sector, etc ...

Under a contribution analysis, the relevant profits, which are the total profits from the controlled transactions under examination, are divided between the associated enterprises in order to arrive at a reasonable approximation of the division that independent enterprises would have achieved from engaging in comparable transactions. This division can be supported by comparables data where available. In the absence thereof, it should be based on the relative value of the contributions by each of the associated enterprises participating in the controlled transactions, determined using information internal to the MNE group, as a proxy for the division that independent enterprises would have achieved (see Section C.5.2). In cases where the relative value of the contributions can be measured, it may not be necessary to estimate the actual market value of each party’s contributions ...

While the transactional profit split method can be applied in cases where there are no uncontrolled comparables, information from transactions between independent parties may still be relevant to the application of the method, for example to guide the splitting of relevant profits (see Section C.3.1.1), or where a residual analysis approach is used (see Section C.3.1.2) ...

In 2009, 2010 and 2011 BSA Finances received a total of five loans granted by the Luxembourg company Nethuns, which belongs to the same group (the “Lactalis group”). Depending on the date on which the loans were granted, they carried interest rates of respectively 6.196%, 3.98% and 4.52%. Following an audit covering the FY 2009 to 2011, the tax authorities considered that BSA Finances did not justify that the interest rates thus charged should exceed the average effective rates charged by credit institutions for variable-rate loans to companies with an initial term of more than two years. Hence, the portion of interest exceeding these rates was considered non-deductible pursuant to the provisions of Article 212(I) of the General Tax Code. In 2017, the  Administrative Court ruled in favor of BSA Finances and discharged the additional corporate tax. But this decision was appealed by the authorities to the Administrative Court of Appeal which in  June 2019 overturned the decision of the lower court. The Judgement from the Administrative court of Appels was then appealed by BSA Finances to the French Supreme Administrative Court. The Supreme Administrative Court overturned the decision from the Court of Appeal and remanded the case to the Court of Appeal. “In considering that the company had not established that the margin rates applied were in line with market rates for loans made under the same conditions, whereas the Riskcalc application, which it was not disputed was fed from the company’s balance sheets and profit and loss accounts over several years, had classified its level of risk as “BBB/BBB-” on the basis of comparative ratios established by Moody’s, that the refinancing contracts produced, which made it possible to determine the actual margin rate of the loans taken out by the applicant company itself, were accompanied by details making it possible to compare the main specific conditions with the clauses of the loans in dispute and that, lastly, the combination of these elements was such as to justify, in the absence of any element to the contrary, that the credit margins applied by Nethuns were in line with market practices, the Court distorted the documents in the file submitted for its assessment.” Judgement of the Court of Appeal The court ruled in favor of BSA stating that a scoring obtained by using automated tools such as RiskCalc is inherently less accurate than the actual rating a proper rating agency the fact such a scoring is less accurate does not mean that it can be disregarded systematically. in the absence of any valid criticism of the scoring by the tax authorities, it was an acceptable proof “10. After the Conseil d’Etat, in its decision of 11 December 2020, annulled the judgment of the Court of Appeal of 25 June 2019 on the grounds that the combination of elements attesting to a rating of the company’s risk by means of a publicly accessible financial tool, namely the RiskCalc software developed by the rating agency Moody’s, which it was not disputed was fed from the company’s balance sheets and profit and loss accounts over several years, and the syndicated contracts entered into with the company, which were not the subject of a complaint, was not sufficient to justify the decision, and the syndicated contracts concluded with financial organisations in 2010 and 2011 were such as to justify, in the absence of any evidence to the contrary, that the credit margins applied by Nethuns were in line with market practices, the Minister for Economic Affairs, The Minister of the Economy, Finance and Recovery reiterated his criticism of the RiskCalc software, arguing that it covers only a small fraction of the methodology used by the rating agencies, so that it provides only a measure of the probability of default that is meaningful only in relation to the scale of default probabilities created by the software itself. It questions the relevance of the model for entities such as SNC BSA Finances insofar as it is based on data from companies with gross assets of less than EUR 10 million, and is therefore not relevant to global groups. It also stresses the inadequacy of the information provided by the methodologies published by Moody’s regarding the adjustments allowed by the software and their potential impact on the rating, even though these adjustments may be significant, particularly in terms of taking into account the support of the parent company or the special treatment of shareholder loans. 11. However, on the one hand, SA BSA argues, without being challenged, that the ‘BBB/BBB-‘ ratings used correspond to a ‘conservative’ analysis based on ratings that are less downgraded than those of SNC BSA Finances with regard to the rating of its main partner, known as a corroborative economic analysis, so that, having itself made the necessary adjustments, the argument based on the failure to take account of the group’s support in determining the rating is, in any event, lacking in fact. The Minister does not mention, in detail, any other form of data restatement, in particular as regards a possible ‘special treatment of shareholder loans’, which would have been necessary in this case. On the other hand, SA BSA argues, again without being challenged, that if the model is established with regard to a sample drawn up by Moody’s showing the balance between small and large companies, it does not lead to an under-representation of the latter given their economic weight. Finally, in a more general way, it is certainly constant that the ratings obtained from tools of the trade make it possible to attribute a rating to a specific loan that is more approximate than a credit rating that could be carried out by a rating agency for a given borrower. Nevertheless, while SA BSA argues without being challenged that the use of a rating agency is not intended to apply, given its cost, in an intra-group transaction, the rating provided in this case by RiskCalc can be considered sufficiently reliable to justify the profile of SNC BSA Finances and ...

However, the unique and almost unprecedented economic conditions arising from and government responses to COVID-19 have led to practical challenges for the application of the arm’s length principle. For example, the pandemic may raise novel issues or exacerbate in complexity or magnitude the occurrence of certain transfer pricing issues (e.g. effect of government assistance or the availability of reliable comparable data). For taxpayers applying transfer pricing rules for the financial years impacted by the COVID-19 pandemic and for tax administrations that will be evaluating this application, there is a need to address these practical questions. Based on the responses to the questionnaires submitted to members of the Inclusive Framework and businesses, and conscious of the need to provide practical and timely guidance, this note addresses four priority issues: (i) comparability analysis; (ii) allocation of losses and the allocation of COVID-19 specific costs; (iii) government assistance programmes; and (iv) Advance Pricing Arrangements (“APAs”). For ease of presentation, these issues have been presented as discrete topics, but it is important to emphasise that in performing a transfer pricing analysis, these topics may be interrelated and therefore should be considered together and within the analytical framework of the OECD TPG. For example, in order to determine whether an entity should be allocated losses during the pandemic under arm’s length conditions, the guidance in Chapter II of this document is relevant, but the guidance in Chapter I (as it relates to the results of the comparability analysis) and the guidance in Chapter III (if it receives government assistance) is also relevant ...

In 2009, 2010 and 2011 BSA Finances received a total of five loans granted by the Luxembourg company Nethuns, which belongs to the same group (the “Lactalis group”). Depending on the date on which the loans were granted, they carried interest rates of respectively 6.196%, 3.98% and 4.52%. Following an audit covering the FY 2009 to 2011, the tax authorities considered that BSA Finances did not justify that the interest rates thus charged should exceed the average effective rates charged by credit institutions for variable-rate loans to companies with an initial term of more than two years. Hence, the portion of interest exceeding these rates was considered non-deductible pursuant to the provisions of Article 212(I) of the General Tax Code. In 2017, the  Administrative Court ruled in favor of BSA Finances and discharged the additional corporate tax. But this decision was appealed by the authorities to the Administrative Court of Appeal which in  June 2019 overturned the decision of the lower court. The Judgement from the Administrative court of Appels was then appealed by BSA Finances to the French Supreme Administrative Court. Decision of the Supreme Administrative Court The Supreme Administrative Court overturned the decision from the Court of Appeal and found in favor of BSA. “In considering that the company had not established that the margin rates applied were in line with market rates for loans made under the same conditions, whereas the Riskcalc application, which it was not disputed was fed from the company’s balance sheets and profit and loss accounts over several years, had classified its level of risk as “BBB/BBB-” on the basis of comparative ratios established by Moody’s, that the refinancing contracts produced, which made it possible to determine the actual margin rate of the loans taken out by the applicant company itself, were accompanied by details making it possible to compare the main specific conditions with the clauses of the loans in dispute and that, lastly, the combination of these elements was such as to justify, in the absence of any element to the contrary, that the credit margins applied by Nethuns were in line with market practices, the Court distorted the documents in the file submitted for its assessment.” Click here for English translation Click here for other translation ...

Sté Paule Ka Holding, was set up as part of a leveraged buy-out (LBO) operation to finance the acquisition of the Paule Ka group, and in 2011 it acquired the entire capital of the group a price of 42 million euros. The acquisition was financed by issuing convertible bonds carrying an interest rate of 8%. The French tax authorities issued an assessment where deductions for certain payments related to the acquisition and part of the interest payments on the bonds were disallowed. Decision from the Administrative court of appeal The Court found in favor of the company in regards to the payment related to the acquisition and in favor of the tax administration in regards to the partially disallowed deduction of interest payments. “It follows from the foregoing that the elements invoked by the administration do not provide proof that the expenditure of EUR 390,227 correctly entered in the accounts was not incurred in the interest of the company Paule Ka Holding. The latter is thus entitled to argue that the administration was wrong to refuse to deduct it in respect of the financial year ended in 2012 and, consequently, to request the reduction of the tax bases and the discharge of the corresponding taxes, including the penalties for deliberate failure to comply as provided for in a) of Article 1729 of the General Tax Code, applied by the administration to this head of rectification.” “...These bonds have a term of ten years, bear interest at a rate of 8%, have a principal amount that is repayable in full at maturity, are not accompanied by any guarantee or security, bear capitalised interest and are convertible at maturity at the rate of one new share with a value of one euro for every 10 OCAs granted. Paule Ka Holding recognised interest on bonds of EUR 2 083 490 for the year ended 2012 and EUR 2 574 298 for the year ended 2013 as an expense. The department questioned the amount of these deductions for the interest paid on the bonds subscribed by Black Tie Luxco by applying the legal interest rate provided for in Article 39(1)(3) of the General Tax Code, i.e. 3.64% and 3.10% for the said financial years. Deductions for the difference in the calculated interest in the amount of EUR 1,092,601 for the financial year ending in 2012 and EUR 908,667 for the financial year ending in 2013 were disallowed. To justify the rate applied to the above-mentioned compulsory loans, Paule Ka Holding produced a study drawn up by the firm Dauge et associés on 30 September 2015. This firm carried out a credit rating of the company, based on an analysis of its financial structure with regard to its balance sheet situation, based on two criteria, the Banque de France rating of the borrower, based on the criteria of earning capacity, financial autonomy The Banque de France rating of the borrower, based on the criteria of earning capacity, financial autonomy, solvency and liquidity, and the estimate of the credit risk of the OCAs issued using the Standard and Poor’s analysis grid, on the basis of the group’s consolidated business plan, to conclude that the rating is estimated at BB-, corresponding to a satisfactory business risk profile and an aggressive financial risk. Based on this rating, it then estimated the credit margin applicable to the OCAs based on the European Commission’s recommendations for estimating reference and discount rates, with margin levels based on credit rating categories. The firm concluded from these elements that the interest rate of 8% seemed appropriate given the profile of the borrower and the characteristics of the bonds issued. However, the study produced consists of generalities and the data presented in it is not documented. Indeed, the mere reference to a credit rating does not imply that all the companies concerned by this rating have identical repayment capacities, taking into account all the quantitative and qualitative factors specific to each company. Furthermore, it does not appear from this study that the internal rating of Paule Ka Holding, as described, takes sufficient account of the company’s own characteristics, in particular the state of its accounts, its competitive positioning and the quality of its managers and employees. This internal rating does not take into account the possibility of the company receiving external assistance in the event of difficulties in honouring its commitments. Under these conditions, this study is insufficient to justify the rate applied to the bonds in dispute. In addition, Paule Ka Holding has provided examples of companies that took out bonds in the context of LBO transactions for acquisitions dated from May 2011 to June 2012 at rates varying between 7 and 12%, which, according to the company, show that the rate of 8% was a market rate compared with those applied by other companies of comparable size and for loans of the same nature. However, the investigation shows that the bonds presented for comparison have either a shorter duration than those in dispute or are not convertible into shares. Their amount is very different from that issued by Paule Ka Holding, some of which are also associated with “senior” debts. Moreover, the issuing companies, of very different sizes, carry out their activities in different fields from that of Paule Ka Holding, a takeover structure of a group in the high-end ready-to-wear sector. There is nothing to show the conditions under which the loans presented for comparison purposes were established. Under these conditions, since the comparability of the economic conditions has not been demonstrated, the terms of comparison proposed by Paule Ka Holding do not justify the rate applied to the bond loans in dispute. It follows from the foregoing that Paule Ka Holding does not justify the rate it could have obtained from independent financial institutions or organisations for a loan granted under similar conditions with regard to the yield on bond loans from undertakings in comparable economic conditions, for loans constituting a realistic alternative to an intra-group loan, taking into account its own characteristics, in particular its risk profile. It does not therefore ...

WB Ambassador, took out two loans with its Luxembourg parent company and another group company, each bearing an annual interest rate of 7%. Following an audit, the tax authorities, considering that the company did not justify that the 7% interest rate of the above-mentioned intra-group loans corresponded to the rate it could have obtained from independent financial institutions or organisations under similar conditions and partially disallowed deductions of the interest incurred. Supreme Administrative Court The Supreme Administrative Court overturned the decision of the Administrative court of Appeal and ruled in favor of the WB Ambassador. It stated that the Lower Court had erred in law in ruling out the possibility that a company, in order to justify the rate it could have obtained from independent financial institutions for a loan granted under similar conditions, could rely, in order to assess that rate, on the yield of bond issues granted by undertakings in comparable economic conditions. Consequently, WB Ambassador was entitled, without needing to examine the other pleas in law of its appeal, to seek the annulment of the judgment which it is challenging. “The borrowing company, which has the burden of proving the rate it could have obtained from independent financial institutions or organisations for a loan granted under similar conditions, may provide this proof by any means. In this respect, in order to evaluate this rate, it may, where appropriate, take account of the yield on bonds issued by undertakings in comparable economic conditions, where such bonds constitute, in the circumstances under consideration, a realistic alternative to an intra-group loan.” Click here for English translation Click here for other translation ...

Between the end of 2008 and the end of 2012 Studialis had issued bonds subscribed by British funds, partners of a Luxembourg company, itself a majority partner of Studialis, carrying an interest rate of 10%. The Tax authorities considered that the interest rate on the bonds was higher than the limit provided for by Article 212, I of the CGI (at the time between 2.8% and 4.1%). According to the authorities only an effective loan offer contemporaneous with the transactions and taking into account the specific characteristics of the borrowing company could establish with certainty the rate it would have received from a independent credit institution, and rejected all the evidence in support of the pricing presented by the company. Decision of the Administrative Court of Appeal The Court ruled in favor of Studialis. It considered that the evidence provided by Studialis – loan offers and certificates from independent banks combined with and a comparability study on rates of bonds using “Riskcalc” – sufficiently justified the 10% interest rate on the bonds issued by Studialis. Click here for English translation Click here for other translation ...

In 2008 Lender Kft. entered into a loan agreement with its foreign domiciled affiliated company Kft. 1. According to the terms of the contract, the loan amounted to 53,174,516, the maturity date of the loan was 31 January 2013 and the interest was paid semi-annually at the semi-annual CDI rate fixed in the contract plus 200 basis points per annum. In the years 2009-2011, Kft. 1 paid 15 % of the interest as withholding tax, and Lender Kft. received 85 % of the interest. In its books, Lender Kft. entered 100 % of the interest as income, while the 15 % withholding tax was recorded as other expenses. According to Lender Kft’s transfer pricing records, the normal market interest rate range was 8,703 % to 10,821 % in FY 2009, 10,704 % to 12,598 % in the FY 2010 and 10,704 % to 12,598 % in FY 2001, and the interest rates applied in the loan transaction were 10,701 % to 12,529 %, 12,517 % to 14,600 % and 12,517 % to 14,600 % in the same years. In other words, according to the records, the interest rates applied to the transaction were partly within and partly above the market price range. Lender Kft. used the CUP method to determine the transfer price, taking into account external and internal comparables. As an external comparison, it used a so-called risk premium model based on the rating of the debtor party and the terms and conditions of the loan, taking into account publicly available data. For the credit rating of the related company, it used the risk model of the name, on the basis of which it classified the company between A1 and A3. It defined the range of interest rates to be applied in the loan terms and conditions, then the default rate and the rate of return, and finally, by substituting these data into the risk premium model formula, it defined the risk premium rates for each risk rating. In doing so, it used subordinated bonds. The benchmark interest rate range was defined as the sum of the risk-free rate and the risk premium. As an internal comparison, the applicant requested quotations from various commercial banks, as independent parties, before granting the loan, as to the amount of profit it could expect to obtain if it deposited its money with them (Bank1, Bank2) The Tax tax authorities carried out an audit of Lender Kft for FY 2009, 2010 and 2011. In the view of the tax authority at first instance, the CUP method, although appropriate for determining the arm’s length price, was not the method used by the applicant. According to the tax authorities the rating of a debtor using public rating models may differ greatly from the rating carried out by the rating agency which created the model, which results in a high degree of uncertainty as to the method used by the applicant. A further problem was that Lender Kft had based its pricing on a rate for subordinated bonds, whereas a bank loan and a bond are two different financial instruments and cannot be compared. In this context, it was stated that the transaction under examination was a loan contract and not a bond issue. The tax authorities explained that the unit operating costs are the lowest in the banking market and that it had not been demonstrated that the cost of the applicant’s lending was lower than that of a bank loan. It also stated that the mere existence of information through a relationship does not imply a lower risk exposure. In relation to the internal comparables, it stressed that the loan granted by Lender Kft could not be classified as a deposit transaction and that the comparison with the deposit rate was therefore incorrect. According to the tax authority, for the purposes of determining the normal market price, the … banking market best reflects the conditions under which the related undertaking would obtain a loan under market conditions, and therefore the so-called “prime rate” interest rate statistics calculated by the Central Bank of the country in question are the most appropriate for its calculation. This statistic shows the average interest rate at which commercial banks lend to their best customers. Accordingly, the tax authority at first instance took this rate as the basis for determining the difference between the interest rate applied to the transaction at issue and the normal market rate. As a result, the applicant’s corporate tax base was increased by HUF 233,135,000.00 in the financial year 2009, HUF 198,638,000.00 in the financial year 2010 and HUF 208,017,000.00 in the financial year 2011, pursuant to Article 18(1) of Act LXXXI of 1996 on Corporate Tax and Dividend Tax (‘Tao Law’). Lender Kft. filed a complaint against the decision and requested that the decision be altered or annulled and that the defendant be ordered to commence new proceedings. In the complaint it stated that the method used by the tax authorities did not comply with points 1.33, 1.35 and 2.14 of the OECD TPG, nor with Article 7(d) of the PM Regulation. By judgment of 20 April 2018, the Court of First Instance annulled the tax authorities first assessment and ordered the authority to initiate new proceedings in that regard. The court stated that the tax authority must determine whether the pricing of the loan at issue in the case was in line with the arm’s length price, taking into account the OECD Transfer Pricing Guidelines and the expert’s opinion in this context. Under the revised audit process the tax authorities found other issued which were added to the new assessment. Lender Kft. then filed an appeal with the Administrative Court. Judgement of the Administrative Court The Administrative court found the appeal well founded. Excerpts “The tax authority was only legally able to implement the judgment of the court in the retrial ordered by the court. The subject-matter of the action was the finding of the tax authority as a result of the audit ...

In an Opinion issued on 10 July 2019 on request from the Administrative Court of Versailles, the Conseil d’Etat states as a principle that the arm’s length nature of intra-group interest rate can be demonstrated by reference to comparable unrelated transactions, when these loans constitutes realistic alternatives to the intra-group loan. Excerpt from the Opinion “… 5. The rate that the borrowing enterprise could have obtained from independent financial establishments or organizations under similar conditions means, for the purposes of these provisions, the rate that such establishments or organizations would have been susceptible, account given its own characteristics, in particular its risk profile, to grant it for a loan with the same characteristics under arm’s length conditions. 6. This rate cannot, having regard to the difference in nature between a loan from a financial institution or body and financing by bond issue, be that which this enterprise would itself have been able to serve for subscribers if it had chosen to finance itself by issuing bonds rather than taking out a loan. 7. The borrowing enterprise, which bears the burden of proving the rate that it could have obtained from independent financial institutions or organizations for a loan granted under similar conditions, has the option of providing this proof by any way. As such, to assess this rate, it may if necessary take into account the yield on bond loans issued by companies in comparable economic conditions, when these loans constitute, in the hypothesis considered, a realistic alternative to a intra-group loan. 8. This notice will be notified to the Versailles Administrative Court, to the simplified joint stock company Wheelabrator Group and to the Minister for Public Action and Accounts. It will be published in the Official Journal of the French Republic.” Click here for translation ...

One possible approach is to split the relevant profits based on the division of profits that actually is observed in comparable uncontrolled transactions. Examples of possible sources of information on uncontrolled transactions that might usefully assist the determination of criteria to split the profits, depending on the facts and circumstances of the case, include joint-venture arrangements between independent parties under which profits are shared, such as development projects in the oil and gas industry; pharmaceutical collaborations, co-marketing or co-promotion agreements; arrangements between independent music record labels and music artists; uncontrolled arrangements in the financial services sector, etc ...

Under a contribution analysis, the relevant profits, which are the total profits from the controlled transactions under examination, are divided between the associated enterprises in order to arrive at a reasonable approximation of the division that independent enterprises would have achieved from engaging in comparable transactions. This division can be supported by comparables data where available. In the absence thereof, it should be based on the relative value of the contributions by each of the associated enterprises participating in the controlled transactions, determined using information internal to the MNE group, as a proxy for the division that independent enterprises would have achieved (see section C.5.2). In cases where the relative value of the contributions can be measured, it may not be necessary to estimate the actual market value of each party’s contributions ...

While the transactional profit split method can be applied in cases where there are no uncontrolled comparables, information from transactions between independent parties may still be relevant to the application of the method, for example to guide the splitting of relevant profits (see section C.3.1.1), or where a residual analysis approach is used (see section C.3.1.2) ...

Once the existence or absence of an indemnification clause in favour of the restructured entity upon termination, non-renewal or substantial renegotiation of the agreements has been determined, the analysis should then focus on assessing whether such indemnification clause and its terms (or absence thereof) are arm’s length. Where comparables data evidence a similar indemnification clause (or absence thereof) in comparable circumstances, the indemnification clause (or absence thereof) in a controlled transaction will be regarded as arm’s length ...

Where comparables data are available, they can be relevant in the profit split analysis to support the division of profits that would have been achieved between independent parties in comparable circumstances. Comparables data can also be relevant in the profit split analysis to assess the value of the contributions that each associated enterprise makes to the transactions. In effect, the assumption is that independent parties would have split the combined profits in proportion to the value of their respective contributions to the generation of profit in the transaction. On the other hand, the external market data considered in valuing the contribution each associated enterprise makes to the controlled transactions will be less closely connected to those transactions than is the case with the other available methods ...

EcoloJeans SL had made purchases from its majority shareholder, Mr Donato. According to the tax authorities, the agreed prices for these purchases were higher than the arm’s length price, resulting in lower taxation. The tax authorities had determined the arm’s length price by applying the resale price method, based on the margin obtained by companies in the same sector in comparable transactions with independent parties. For this purpose, a sample of six wholesalers had been selected – two whose identification data were known and four that had not been identified by the authorities for reasons of confidentiality. EcoloJeans SL filed a complaint against the assessment to the TEAR, but the complaint was later rejected. An appeal was then lodged with the TEAC (Tribunal Económico Administrativo Central), which was partially upheld in the sense that the Tribunal found a lack of reasoning (due to use of secret comparables), leaving EcoloJeans SL defenceless. Judgement of the National Court. The Court upheld the TEAC’s decision in regards of lack of reasoning (use of secret comparables) in the pricing of the controlled transactions. Excerpt “In the contested decision, the TEAC analyses the valuation method used by the Actuary, which was based on data obtained from certain companies in the sector, and states, textually: “Having analysed the file by this Central Court, the only documentation relating to these companies that is contained is a sheet for each one on which, obtained from the AEAT database, the recorded profit and loss account of the 1998 Corporation Tax returns is reflected, the ‘screenshots’ of the AEAT’s CDB to which the interested party refers, and which contain the data used by the inspection (turnover and supplies), without figuring either the tax identification number or the name of the holder of those data, or any reference to the activity carried on. The regulations require that the act of determining the normal market value be reasoned, containing the grounds on which the valuation made is based; that the valuation that gives rise to the increase in the taxable base with respect to that declared is rationally and sufficiently justified. And the meaning or purpose of that statement of reasons is to preserve the interested party’s right of defence, and therefore the Administration must use in that valuation procedure data that can be made fully known to the interested party so that it can defend itself adequately, and not data affected by confidentiality, and which, for that reason, the interested party is denied knowledge thereof, as occurs in the present case, however relevant such data may be for the specific case. Therefore, this Court considers that the interested party’s right of defence has been impaired as a result of the Inspectorate’s actions, preventing the lack of identification of the companies used in the sampling to determine the market value, the verification by the interested party of their suitability or unsuitability for the purposes of the valuation and, therefore, preventing it from timely defending its right and adequately opposing the valuation carried out, causing it, in short, a defencelessness that would lead to the annulment of the act. For all of the above reasons, and considering that this Court considers that there is a lack of reasoning in the valuation agreement which caused him to be defenceless, his claim on this point must be upheld and the adjustment made must be annulled”. Click here for English translation Click here for other translation ...