Hitachi Solutions India had excluded the amortization of goodwill from operating costs when conducting its comparability study, claiming it was an extraordinary, non-operating item unrelated to its normal service functions. The tax authorities disagreed, arguing that since the goodwill arose from the acquisition of the taxpayer’s business, the related amortization was a recurring cost reflected in the profit and loss account and should be considered part of the operating expenses. They included it in the operating cost base, which reduced the taxpayer’s profit level indicator and affected the arm’s length analysis. An appeal was then filed by Hitachi with the Income Tax Appellate Tribunal. Decision The Income Tax Appellate Tribunal held that amortization of goodwill stems from a capital transaction, not routine operations, and including it would distort comparability with independent companies performing similar services. It concluded that such costs must be excluded from operating expenses and treated as non-operating for transfer pricing purposes. Click here for other translation   ...

“Metal KtF”‘s main activity was the production of metal parts for the automotive industry. It had been making losses since 2012, while the group to which it belonged was profitable as a whole. The tax authorities conducted an audit and classified “Metal KtF” as a low-risk manufacturing company (contract manufacturer) because the functions and business risks assumed were not the same as those of an independent manufacturing company and the losses were partly the result of decisions taken by the parent company. The tax authorities concluded that “Metal KtF” provided a hidden service to the parent company by tolerating loss-making production. An assessmet was issued where the difference between the operating result (loss) reported by “Metal KtF” and the calculated arm’s length operating result had been added to the taxable income. “Metal KtF” filed an appeal, which was mostly dismissed by the Administrative Court, and an appeal was then filed with the Supreme Administrative Court. Judgment The Supreme Administrative Court ruled predominantly in favour of “Metal KtF” and remanded the case for reconsideration. Excerpts in English “[43] On the basis of the above, the Curia emphasises, also in the light of the cited provisions of Article 18 of the Tao. tv., that the defendant, although correctly stating that transactions between unrelated parties are not subject to transfer pricing and that the profit margin achieved in transactions with related parties must therefore be calculated separately, nevertheless, in the merits of its decision, and in a logically contrary manner, accepted the legality of the first instance tax authority’s assessment of 100% of the product sales for transfer pricing purposes. On the record before it, there is no derivation of the arm’s length price for the related party sales referred to by the defendant, which is negatively determined from the sales to unrelated parties. Furthermore, the defendant has also pointed out the correctness of the decision at first instance in relation to the aggregation of sales of goods between related parties with the provision of services between related parties, but there is no factual element in the decision at first instance in this respect, nor is there any data explicitly relating to the aggregation of these two categories of transactions. It is not clear from the decision of the defendant what services the defendant means by these services, the decisions of the tax authorities at first instance only contain data on the licence fee paid by the applicant to related parties, the interest on cash-pool loans and the management services used by the applicant, but not on the definition of the services provided by the applicant. The service provided by the plaintiff was defined in the main proceedings in the sense that the plaintiff provided a (hidden) service to the parent company in order to tolerate loss-making production (and at the same time to keep the plaintiff group profitable), but this argument was rejected by the defendant. [44] In conclusion, the Curia found that the defendant’s decision violated Section 18(1) of the Tao Act due to the above-mentioned deficiency and contradictory reasoning concerning the precise definition of the related transaction and the basis for transfer pricing, the defendant violated its obligation to state reasons and the annulment of the defendant’s decision became justified. Nor could the court have examined the merits of the decision on the grounds of a defect which could not be remedied in the proceedings before the court and which affected the merits of the case. This can only be remedied in new proceedings against the defendant.“ … [48] In the new proceedings, the defendant must proceed in the light of the judgment of the Curia, in that the transaction or arrangement under investigation – between the plaintiff and the related party – must be precisely defined and delimited. It must provide the basis for transfer pricing under the Tao. tv., subject to the Guidelines, which may be used as an aid to application. Only transfer pricing of a related party transaction can be applied, and only for this transfer pricing adjustment by determining the arm’s length price can be applied, transactions with unrelated parties are excluded. The Curia has also emphasised in its case law decision BH2020. 341 that the profit rate in related party transactions should be distinguished from the profit rate in unrelated party transactions. Since no evidentiary procedure was conducted in the case, the applicant will have the opportunity to prove the facts it claims concerning the characterisation and functional analysis in the new procedure by submitting the evidence at its disposal, it being understood that it is for the defendant to assess the facts and evidence and, in particular, to examine the items referred to by the applicant as extraordinary expenses.” Click here for English translation Click here for other translation ...

Futaba Czech s.r.o. is a Czech company that has been operating since 2005 as a manufacturer and supplier of components for the automotive industry and is part of the Japanese Futaba group. Futaba had been loss making in FY 2016-2017. Following a transfer pricing audit, the tax authorities found that Futaba had provided “comprehensive production service”, which should have compensated by the group. An assessment was issued based on the TNMM with NCP as Profit Level Indicator. Futaba Czech contested the assessment on several grounds. It argued that no instructions or pricing directives from the parent had been proven; that it in fact bore most business functions, risks and financing decisions; that the tax authorities had wrongly reallocated the functional‐and‐risk profile in a value‐chain analysis (for example assigning research and development 50 percent weight versus only 15 percent to production); that the choice of the transaction‐net‐margin method and aggregation over individual‐transaction methods was unjustified; that the reference period (2014–16) and use of the interquartile range to narrow the sample of twelve comparables lacked reviewable statistical reasoning; and that various “extraordinary” cost factors (long‐term contracts, wage and scrap costs) were improperly disregarded or only proportionally recognized. Judgement The Regional Court upheld the tax assessment issued by the tax authorities. The court found that the parties were unquestionably related, that the parent’s seconded managers exercised strategic control, and that the tax authorities had applied the agreed TNMM methodology using Futaba Czech as the tested party. It held that the three‐year reference period and interquartile range-approach fell within both accepted OECD‐and‐domestic guidelines, that the value‐chain weight adjustments reflected the parent’s contribution of know‐how and strategic functions, and that only those extraordinary cost items supported by evidence could be recognized when comparing profitability. Because the tax authority had met its burden of proof at each step;identifying a controlled transaction, establishing arm’s‐length comparables and showing the subsidiary could not satisfactorily explain the deviation, the court dismissed Futaba’s appeal. Click here for English Translation Click here for other translation ...

BASF ARGENTINA S.A. is an Argentine company that manufactures and distributes chemical products, paints, plastics and agricultural inputs. For the 2008 tax year it filed a transfer pricing study applying the TNMM to most transactions with related parties abroad and the CUP method for interest on loans, using external comparables and BASF’s global income statement as the tested data. Following an audit focused on this study, the tax authorities determined income tax ex officio for 2008, increasing taxable income by ARS 5,625,444.17 on the basis that BASF’s profitability, especially in its chemical manufacturing activity, was below the range of independent comparables. The tax authorities did not dispute the choice of TNMM, the multi year period or the set of external comparables, but challenged BASF’s implementation of TNMM and certain comparability adjustments. They rejected BASF’s aggregation of all business segments and functions into a single operating margin, and instead used segmented information by function that BASF later provided, concluding that the chemical manufacturing function alone fell below the interquartile range. They also disallowed three adjustments: exclusion of export duties as “extraordinary,” exclusion of the holding result as non operating, and an upward adjustment to sales in the automotive paints business that BASF said reflected unpassed cost increases. BASF appealed to the National Tax Court, arguing that OECD Guidelines allowed aggregation of closely linked activities, that full segmentation was not required by accounting rules and was operationally difficult, and that the three adjustments were needed to align its financial statements with those of the foreign comparables. Judgment The National Tax Court dismissed the appeal and upheld the tax authorities’ determination in full, with costs to BASF. The Court held that, in this case, manufacturing, distribution and product lines were clearly distinguishable and BASF had not proved they were so integrated that they had to be analysed together, so TNMM had to be applied on a segmented basis. It found that export duties were a recurrent feature of the Argentine market and had not been shown to lack equivalents abroad, so they could not be excluded as extraordinary items; that BASF had not proved it was unable to pass cost increases to automotive customers; and that removing only the holding result in an inflationary context undermined both internal consistency and comparability with foreign companies. The Court concluded that BASF’s aggregation approach and its three adjustments did not improve comparability and conflicted with the arm’s length principle, and therefore confirmed the income tax adjustment for 2008. Click here for English Translation Click here for other translation ...

The Administrative Court had annulled an income assessment issued by the tax authorities to Yazaki Bulgaria in FY 2014, 2015 and 2016. An appeal was filed by the tax authorities with the Supreme Administrative Court for annulment of the judgment. In the assessment, the tax authorities had accepted the comparability analysis carried out by Yazaki Bulgaria in respect of transactions relating to the manufacture of automotive products, including the calculated interquartile range of market values established on the basis of data for 25 comparable companies. According to the benchmark study the Net Cost Plus margins of the comparable companies for the three-year period were as follows: 2014 weighted average Net Cost Plus – lower quartile 2.27%, median 4.16% and upper quartile 7.02%; 2015 weighted average Net Cost plus 2015 – lower quartile 1.68%, median 4.31% and top quartile 6.80%; 2016 weighted average Net Cost plus for 2016 – lower quartile – 2.22%, median 3.95% and top quartile 7.66%; The actual Net Cost Plus margins realized by Yazaki Bulgaria for the periods were outside of the established range (-1.02% for 2014, 1.43% for 2015 and 0.46% for 2016) but by “adjusting” the cost basis, Yazaki Bulgaria’s net profit margin were within the interquartile range: 2.34% for 2014, 4.3% for 2015 and 2.56% for 2016. The tax authorities considered that there were no basis for the adjustments made by Yazaki Bulgaria to the actual net profit margins and since the actual results had been outside of the interquartile range, the profit was set to the lower quartile for each year. Judgment of the Supreme Administrative Court The Supreme administrative court allowed the appeal of the tax authorities and set aside the decision of the Administrative Court. Excerpts in English “In the present case, the audited company alleges the existence of losses from new projects during the audited periods that are specific only to the controlled transactions in the manufacture of automotive products, which were not found in the comparator companies. The impact of group-specific events on the profitability of the examined and compared businesses and the reliability of the comparability analysis is identified as a feature of TNMM in the OECD Handbook, 2010 (paragraph 2.72) and in the NRA Handbook on Transfer Pricing, Fact Sheet 10 (paragraph 6.2). These interpretative sources should be taken into account in the interpretation and application of the substantive law – Article 15 of the Tax Code and Article 46 of Regulation N-9/14.08.2006.” “According to paragraph 1.70 of the OECD Guidelines, 2010, related enterprises may incur real losses due to large initial costs, including inefficiencies or other legitimate business reasons, but under market conditions the losses would be temporary. Paragraph 1.72 states that losses such as those in the trial from unforeseen start-up labour costs can be expected for a limited period of time in order to increase profits in the long term. Such circumstances are also reflected in the transfer documentation prepared by the company, where the comparability analysis on the 2014, 2015 and 2016 automotive transactions indicates that YBE’s long-term projections are that for future periods the Renault Edison and Ford Transit projects, respectively the Renault Edison and Mercedes MFA2 projects will be more efficient and better revenue generating, but the case has not established that such results have been achieved. The valuation of the Renault Edison project in 2017 as a loss-maker and its discontinuation in 2017 is aimed at overcoming losses in accordance with paragraph 1.72 and the arm’s length principle. For the remaining projects, the case does not establish, including from the conclusion of the forensic economic expert, that the losses from the difference between the reported low productivity and the budgeted productivity during the periods at issue, resulting from higher labour costs at start-up, have been overcome in the long term in view of the life cycle effects of the products and that the profitability of the net profit indicator used, net cost plus, has been achieved in accordance with the arm’s length principle. Therefore, it cannot be assumed that the company’s elimination of the impact of labour cost losses for additional staff employed in 2014, 2015 and 2016 in connection with new production projects, when comparing the net profit indicators within the meaning of Articles 43 and 44(2) of Regulation N-9/2006, is in line with the objectives set out in Articles 4, 12 and 14 of the Regulation and with the arm’s length principle.” “Reasonably in this respect in the audit act it is accepted that the losses assumed by the audited company do not correspond to the functions, responsibilities and risks of the controlled transactions, which it has assumed according to the data in documentation for transfer pricing. According to the documentation, market and price risk is borne by the related party in the group (CSC) and not by the manufacturer. In view of the above, it is to be held that the increase in the financial results of a company for the year 2014-16 made by the revision order on the basis of section 15 of the Income-tax Act to the lower quartile of the range of market values found in comparable independent companies is lawful. In holding to the contrary, the court rendered a judgment contrary to the evidence in the case and in violation of substantive law, which should be set aside and another judgment entered dismissing the appeal in its place.” Click here for English translation Click here for other translation ...

“A Bottler S.R.L.” carried out intra-group transactions in two main areas: producing (bottling) soft drinks and purchasing finished products for local distribution. In its transfer pricing file, it had used the transactional net margin method (TNMM) and analyzed data on a multi-year basis. It also adjusted certain large, one-off expenses (such as revaluation of land and buildings and reorganization costs) on grounds they were non-recurring items that should be excluded to ensure a proper like-for-like comparison. During the tax audit, however, the authorities recalculated the company’s results using annual figures (instead of multi-year averages) and reversed A. S.R.L.’s exclusion of those one-off expenses. They also changed how certain comparables were included or excluded in the benchmarking sample. The audit concluded that A. S.R.L.’s profits in the bottling and distribution segments were below the arm’s length range, leading to significant upward adjustments for corporate income tax. A. S.R.L. challenged these adjustments, arguing that the multi-year approach was justified under the OECD Guidelines, particularly given the timing for publicly available comparable data. It also maintained that treating the revaluation and reorganization costs as non-recurring was valid, because such expenses did not reflect its ordinary, year-to-year operating performance. Finally, it objected to the tax authority’s decision to introduce certain companies in the comparability sample that did not meet the independence criterion, while simultaneously excluding other companies that the taxpayer considered valid comparables. Judgment The Supreme Administrative Court sided largely with A. S.R.L., ruling that the authorities had overstepped by automatically favoring an annual approach without adequately considering the taxpayer’s multi-year rationale. It further held that big, isolated revaluation/reorganization expenses could indeed be set aside for transfer pricing margin calculations if they were truly exceptional and did not recur in ordinary operations. Lastly, the court found the tax authority had incorrectly included or excluded specific comparables—for instance, it added companies whose ownership structures likely made them ineligible and dismissed others despite those entities having valid data for the relevant years. Consequently, the High Court significantly reduced the transfer pricing adjustment and allowed most of A. S.R.L.’s original methodology, while confirming only a limited additional tax liability. Click here for English translation Click here for other translation ...

TRMSB is a company incorporated in Malaysia and part of the Thomson Reuters Group. Thomson Reuters Global Resources (“TRGR”) entered into the Local Distribution Agreement with TRMSB. Pursuant to the agreements, TRMSB was appointed to market and sell TRGR’s products in the form of “Information Services” and “Dealing Services” in Malaysia. The arm’s length remuneration for its distribution activities was determined to an operating margin of 2% by applying the TNMM where nine companies had been selected as comparables. Following an audit, the tax authorities (DGIR) rejected five of the nine selected companies and replaced them with three new comparables. The tax authorities also rejected TRMSB’s target operating margin of 2% by including SG&A costs in the calculation of TRMSB’s margin. Not satisfied with the assessments, TRMSB appealed to the Special Commissioner of Income Tax (SCIT). It argued that paragraph 2.80 of the OECD Guidelines provides that non-operating income and expenses should be considered as “exceptional and extraordinary” and should not be included in the determination of the taxpayer’s operating profit margin. TRMSB also argued that pan-Asian comparables could be used in the comparability analysis if they were sufficiently comparable. Decision The Special Commissioner upheld the tax authorities’ assessment and dismissed TRMSB’s appeal. The tax authorities had shown that TRMSB’s operating margin was below the interquartile range and TRMSB had failed to prove that the assessments were excessive and wrong. Click here for other translation ...

Rotary Drilling Tools Colombia (RTD Colombia) applied the transactional net margin method (TNMM) to assess whether its income complied with the arm’s length principle. As part of this analysis, the company made a comparability adjustment by excluding a bad debt expense of COP 918,088,000 from its administrative costs. This exclusion of costs increased its operating margin, bringing it within the interquartile range of the selected comparables. The Colombian tax authorities rejected this adjustment, arguing that the comparable companies used in the benchmark analysis also included bad debt expenses in their accounts. They recalculated RTD Colombia’s operating margin by including the bad debt expense and concluded that the margin fell outside the interquartile range. As a result, they made an adjustment to align the company’s margin with the median of the comparables. RTD Colombia appealed the adjustment before the Administrative Court, which largely upheld the position of the tax authorities. The company subsequently appealed to the Supreme Administrative Court. Judgment The Supreme Administrative Court overturned the decision of the Administrative Court and annulled the assessment issued by the tax authorities. It held that RTD Colombia’s comparability adjustment was reasonable, given the extraordinary and atypical nature of the bad debt expence, which significantly distorted the company’s profitability compared to that of the comparables. Click here for English translation Click here for other translation   ...

“Spare Parts S.A. had transactions with related parties abroad for the purchase of inventory, administrative services, technical services, commissions, purchase of fixed assets, royalties and provision of administrative services. “Spare Parts S.A.” had used the Transaction Net Margin Method (TNMM) to determine the transfer prices for these transactions. Following an audit, the tax authorities found inconsistencies between the income tax returns and the transfer pricing reports. The tax authorities found that “Spare Parts S.A.” had excluded USD 6 million 956 thousand 967 from its general and administrative expenses in the calculation of the profit margin, by classifying these ordinary costs as extraordinary expenses. When the costs were included in the calculation, the profit of “Spare Parts S.A.” was below the range established in its transfer pricing study. The tax authorities therefore adjusted its operating margin to the median of 4.39%. Not satisfied with the adjustment, Spare Parts S.A. filed a complaint. Decision of the Court The Tax Court ruled in favour of the tax authorities, finding that the general and administrative expenses were ordinary costs that should have been included in the calculation. Click here for English translation Click here for other translation ...

Yazaki Bulgaria Ltd is active in the automotive industry and is part of the Japanese Yazaki Group. It had used the transactional net margin method (TNMM) to demonstrate that prices for the sale of products to related parties were at arm’s length. Following an audit, the tax authorities found that the company’s profit was outside the arm’s length range and issued an assessment of additional income for FY2014-2016. According to the tax authorities, Yazaki Bulgaria Ltd had not included all its costs when calculating its profit margin. Administrative Court Judgment The Administrative Court annulled the tax authority’s assessment and ruled in favour of Yazaki Bulgaria Ltd. Excerpt “It is undisputed in this case that the adjustments made by the appellant for comparability with the amounts of additional labour costs in individual years are as follows: For 2014, the reported operating loss of £2,192,845.67 was adjusted upwards to a net profit of £4,837,402.79 as a result of the elimination for comparability purposes of costs of £7,030,248. 46 leva; before adjustments a net profit margin of -1.02% is calculated and after adjustments the net profit margin indicator is +2.34% and falls above the lower quartile value which is 2.27; For 2015 – the reported net profit from operations of £4,086,310.44 has been adjusted upwards to a net profit of £11,832,352.26 as a result of eliminating for comparability purposes expenses of £7,746,041. 82 leva; before adjustments, the net profit margin is calculated at 1.43% and after adjustments, the net profit margin indicator is 4.26% and falls above the lower quartile value of 1.68%; for 2016 – the reported net profit from operations of £1,259,468.30 has been adjusted upwards to a net profit of £6,815,444.19 as a result of eliminating for comparability purposes expenses of £5,555,975. 89; Before adjustments, the net profit margin is calculated at 0.46% and after adjustments, the net profit margin indicator is 2.56% and falls above the lower quartile value which is 2.22% . In summary of the foregoing, the court finds that after the audited entity’s elimination of net profit comparability expenses, Y.B.’s net profit margin indicator falls within the interquartile range, and therefore, the conclusion that the company’s net profit margin indicator is below market values is not warranted. The adjustments made were to eliminate the effect of additional staff and training costs which affected the auditee’s net profit margin and, in the Court’s view, were consistent with the purpose of Article 4 N-9 of 14.08.2006 – to achieve a result that would have been achieved in an ordinary commercial or financial relationship between independent persons under comparable conditions. The additional costs have been recognized by the tax administration as actually incurred and are part of the costs taken into account in the declared financial result of the company. There is no basis for transformation of the financial result of the company, as done by the audit on the basis of Art, Article 16 and Article 78 of the Income Tax Act, since the net profit of the company falls within the market values when adjustments are made for comparability, i.e. there is no conduct on the part of the audited entity aimed at tax evasion. For the reasons set out above, the Court considers that the appeal should be upheld by annulling the contested revision act.” Click here for English Translation Click here for other translation ...

Following an audit of “Tin Cup Ltd” for FY 2016 and 2017 an assessment was issued by the tax authorities regarding excessive amounts of waste materials and pricing of intra-group transactions. On the issue of excessive amounts of waste materials, tax deductions was denied by the authorities as the costs was not considered to have been held in the interest of the company, i.e. it did not take place with the purpose of increasing “Tin Cup Ltd” income. On the second issue, the tax authorities found that the most appropriate method for the transactions in question (sales to a related party) was the CUP method. Applying the CUP to the controlled transactions (instead of the TNMM) resulted in additional income of approximately 392.000 EUR in total for FY 2016 and 2017. A complaint was filed by “Tin Cup Ltd” with the Dispute Resolution Board. Decision of the Board The Board upheld the assessment of the tax authorities both in regards of denied deductions of costs related to excessive waste materials and in regards of the transfer pricing adjustment. Excerpts Issue of excessive waste materials “The applicant further submits that the audit is not entitled to disallow the excess consumption for tax purposes, since it is a real amount, which can only be considered to be in the interest of the undertaking, since the processing of the raw material results in the products to be sold. Since, however, the applicant’s above individual allegation is well-founded only to the extent that the purchases of raw and auxiliary materials are made within reasonable and expected limits and taking as a reference technical specifications and the data of common experience. Because in the present case, the products for which a difference was calculated show overruns of consumptions from 8,43% to 53,96% in excess of the normal consumption according to the accounting records. Because as it follows from the relevant Audit Report, the audit established with full and clear arguments that the excessive consumption of raw and auxiliary materials, which affected the cost of sales and the net results, did not take place in the interest of the company, i.e. it did not take place with the purpose of increasing its income and therefore, the condition of para. (a’) of Article 22 of Law 4172/2013. The applicant’s claim is therefore rejected as unfounded.” Issue of transfer pricing “…Because, as is clear from the relevant Audit Report (pp. 28-35), the audit provides full and sufficient reasons for the rejection of the applicant’s documentation, namely: · the sample of external comparables selected by the applicant concerns EU-28 countries, whereas the transaction at issue is between two Greek undertakings and the geographical area is a factor which materially affects the comparability of the transactions. · the audit preferred the comparable uncontrolled price (CUP) method, not only because it is the preferred traditional method in accordance with the above provisions, but also because it found that internal comparables with independent/unrelated companies existed. · the transactional net margin method (TNMM) has the disadvantage that the net profits taken into account are affected by factors not related to intra-group transactions, such as extraordinary income and expenses, thus reducing its reliability (OECD Guidelines 2017, para. 2.70 and 2.72). Indeed, in the present case, specifically in the 2016 tax year, the applicant incurred extraordinary expenses of €1.5 million, with the result that the net profit margin ratio is approximately half of what it would have been without them. Because the applicant also claims that there is a comparability deficit in the sample of the audit, since the way and time of payment of the sales invoices differs. In particular, unlike other independent/unrelated customers, which have open balances for a significant period of time, the related company………..normally advances 50 % of the annual turnover from the previous year. Since, however, because of this preferential method of collection, the applicant incurs significant amounts of interest payable to the abovementioned affiliated company, amounting to: · 2016: 200.121,00 € · 2017: 103.000,00 €, transaction which has also been documented and contributes to the elimination of any difference in comparability. Since the methodology and the conclusion of the audit, as reflected in the relevant Audit Report, are hereby found to be valid, acceptable and fully justified. The applicant’s claim is therefore rejected as unfounded. Click here for English translation Click here for other translation ...

The Danish tax authorities had issued a discretionary assessment of the taxable income of Tetra Pak Processing Systems A/S due to inadequate transfer pricing documentation and continuous losses. Judgment of the Supreme Court The Supreme Court found that the TP documentation provided by the company did not comply to the required standards. The TP documentation did state how prices between Tetra Pak and the sales companies had been determined and did not contain a comparability analysis, as required under the current § 3 B, para. 5 of the Tax Control Act and section 6 of the Danish administrative ordinance regarding transfer pricing documentation. Against this background, the Supreme Court found that the TP documentation was deficient to such an extent that it had to be equated with missing documentation. The Supreme Court agreed that Tetra Pak’s taxable income for FY 2005-2009 could be determined on a discretionary basis. According to the Supreme Court Tetra Pak had not proved that the tax authorities’ discretionary assessments were based on an incorrect or deficient basis, or that the assessment had led to a clearly unreasonable result. Hence, there was no basis for setting aside the assessment. The Supreme Court therefore upheld the prior High Court’s decision. In the decision reference is made to OECD 2010 Transfer Pricing Guidelines Importance of Transfer Pricing documentation and comparability analysis: Para 1.6, 2.22, 2.23, 2.78, 3.1, 3.22 and 5.17 Choice of tested party: Para 3.18 Exceptional and extraordinary costs and calculation of net profit indicator/profit level indicator: Para 2.80 Click here for translation ...

Second, it will be necessary to consider how exceptional, non-recurring operating costs arising as a result of COVID-19 should be allocated between associated parties.19 These costs should be allocated based on an assessment of how independent enterprises under comparable circumstances operate. Separately, as extraordinary costs may be recognised as either operating or non-operating items, comparability adjustments may be necessary to improve the reliability of a comparability analysis. It is important to keep in mind that the treatment in a transfer pricing analysis of “exceptional,” “non-recurring,” or “extraordinary” costs incurred as a result of the pandemic will not be dictated by the label applied to such costs, but by an accurate delineation of the transaction, an analysis of the risks assumed by the parties to the intercompany transaction, an understanding of how independent enterprises may reflect such costs in arm’s length prices, and ultimately how such costs may impact prices charged in transactions between the associated enterprises (see OECD TPG paragraph 2.86, for example). Financial accounting standards should be considered in the comparability study, as they contain relevant and potentially helpful concepts in identifying the nature of costs. However, it should also be noted that even under those financial accounting concepts, there can be uncertainty as to whether particular costs are properly characterised as exceptional or extraordinary costs. 19 Depending on the duration of COVID-19 and the broader effects of the pandemic, the question may arise what constitutes an “exceptional, non-recurring” operating cost and when should such costs no longer be considered “exceptional” or “non-recurring”. As the effects of the pandemic vary by industry, business model or market, it is likely that this question can only be answered through a careful analysis of the specific costs under consideration ...

In this case, a Romanian manufacturer and distributor (A. SA) in the Electrolux group (C) had been loss making while the group as a whole had been profitable. The tax authorities issued an assessment, where the profit of A. SA had been determined based on a comparison to the profitability of independent traders in households appliances. When calculating the profit margin of A. SA certain adjustments was made to the costs – depreciations, extraordinary costs etc. When comparing A. SA’s net profit to financial results with those of the group to which it belongs, it emerged that, during the period under review, the applicant was loss-making while C. made a profit. With reference to paragraphs 1.70 and 1.71 of the OECD Transfer Pricing Guidelines, when an affiliated company consistently makes a loss while the group as a whole is profitable, the data may call for a special analysis of the transfer pricing elements, as this loss-making company may not receive an adequate reward from the group of which it is part and with which it does business for the benefits derived from its activities. An analysis of the way in which the prices at which the applicant’s products are sold to other companies in C. are determined shows that those prices are imposed by the group, and that there is a uniform group policy of remunerating the manufacturing companies within the group and those carrying out distribution activities. According to the document called “Framework Documentation 2013”, Annex 28 of the transfer pricing file, transfer prices are established on the basis of budgeted estimated costs, comprising direct material cost, direct labour cost and direct manufacturing costs, as well as indirect manufacturing costs and processing costs, plus a margin of 2.5%. Compared to this mark-up, the mark-up applied to B.’s direct and indirect production costs was between 27.04% and 34.87% over the period 2008-2013, as shown in B.’s public financial statements. It is true that B. is an entrepreneur whose activity involves several functions and risks, which may lead to higher mark-ups or higher losses, but it is worth noting that the mark-up applied to the cost of goods sold by B. is 11-14 times higher than that established for A. S.A.. During the entire period subject to tax inspection, the applicant incurred losses, while C. made a profit. In the years 2010, 2011 and 2013, with a turnover of more than 400.000.000 RON, the applicant always recorded a net loss. According to the tax authorities the court of first instance erred in finding that the comparison between the operating cost margin of 2.50% established by the transfer pricing policy for the applicant’s household appliance manufacturing activities and B.’s gross cost margin was erroneous, given that the applicant failed to identify the source of the cost of goods sold values used for the calculation of B.’s gross cost margin, according to RIF p. 5. A comparative analysis of the applicant’s sales invoices for household appliances to C. on the one hand and to independent companies on the other found that, for identical products, in similar quantities, at similar times of the year, the applicant sold to independent companies, under conditions presumed to be competitive and negotiated, at unit prices at least 25% higher than the prices at which it sold the same products to group companies. Judgment of Supreme Court The Court referred the case back to the lower court, within the limits of the cassation, for the completion of the evidence, in compliance with the rulings given on the questions of law in this decision. Excerpt “The Court of First Instance held that the defendant authorities had estimated the income which the applicant should have obtained from transactions with related persons by taking into account the median value of the interquartile range, relying on the provisions of Article 2(2)(b) of the EC Treaty. (2) and (3) of Annex 1 to OPANAF No 222/2008. These provisions, which concern both the comparison and the adjustment, stipulate, with regard to the first issue, that the maximum and minimum segments of the comparison interval are extreme results which will not be used in the comparison margin. They were held by the court to unduly restrict the range of comparison since neither Article 11 of the Tax Code, to the application of which the Order is given, nor the Methodological Norms for the application of the Tax Code provide for the exclusion of the upper and lower quartiles from the range of comparison. Citing paragraph 2.7 of Chapter II, Part I of the OECD Guidelines, which it held to be of superior legal force to FINANCE Ordinance No 222/2008, the court concluded that, in order to consider that the prices charged in transactions with related persons comply with the arm’s length principle, it is sufficient that the taxpayer’s net margin falls within the interquartile range of comparison, without eliminating the extremes. The High Court finds that there is no argument to exclude from the application of the provisions of OPANAF No 222/2008 relating to the preparation of the transfer pricing file and, in particular, the provisions cited above, which exclude extreme results from the comparison margin. The Order is a regulatory act and applies in addition to the provisions of Article 11(11) of Regulation (EC) No 1073/2004. (2) of the Tax Code and Art. 79 para. (2) of O.G. no. 92/2003 on the Fiscal Procedure Code. The higher rules do not regulate the comparison method or the adjustment method, which were left within the scope of the secondary rules. On the other hand, the provisions of the Guidelines cited by the Court of First Instance do not support the thesis that such extreme results are not excluded, since they refer to the choice of the most appropriate method for analysing transfer prices between related persons, and not to the comparability analysis referred to in Chapter III, Section A.7, which allows the use of a comparison range and the exclusion of extremes (paragraph 3.63). Moreover, the comparison ...

Following an audit, the Colombian tax authorities issued a notice of additional taxable income for FY 2006. The notice was based on an assessment in which they concluded that Vidrio Andino S.A.’s profit margin was below the interquartile range established in the benchmark study, and the result was therefore adjusted to the median. An appeal was filed with the Administrative Court, which later ruled in favour of the tax authorities. An appeal was then filed with the Council of State. According to Vidrio Andino S.A., the results were within the range when a comparability adjustment was made to the results for extraordinary administrative expenses. Judgment of the Court The Council of State overturned the decision of the Administrative Court and ruled in favour of Vidrio Andino S.A. Excerpt in English “The Chamber then departs from the Tribunal’s conclusion, as it considers that the applicant demonstrated the existence of a higher value of administrative expenses assumed by Vidrio Andino due to an exceptional economic circumstance, which should be eliminated from a comparison with independent third parties in order to reasonably estimate its profit margins. While it is true that other companies also saw an increase in their expenses, albeit in smaller percentages, that variation was reflected in their operating income, so it is reasonable to estimate that Vidrio Andino’s higher expenses did not have a similar result, as they were related to a construction project, which is a particular economic circumstance of the plaintiff. That particular economic circumstance does not necessarily correspond to an unforeseeable or irresistible event, but to a situation specific to the controlled entity, which distorts the comparative examination of its transactions with comparable third parties, in so far as it hinders the objectivity of the comparison. Although an extraordinary expense that responds to an unforeseeable event may give rise to a comparability adjustment, such a qualification does not appear as a necessary condition to justify making an adjustment, with a view to obtaining better comparability conditions between the transactions evaluated by means of transfer prices, especially when no correction was required by the DIAN to maintain consistency. Regarding the opportunity to make the adjustments, the Chamber considers that, even though the appropriate adjustments were not reflected in the information return, it is not possible to ignore the analysis contained in the transfer pricing study, i.e. in the supporting documentation, when comparing the economic reality of the company with the information contained in the income tax return for the corresponding taxable year. Indeed, although it is expected that the information return fully reflects the economic situation of the taxpayer compared to its comparables, including the appropriate adjustments, as they are necessary to determine the real profit margin, in this case, in the absence of correspondence, it is fully viable to resort to the supporting documentation, additional studies or the application of other methods, in order to verify whether the adjustment in the tax return is appropriate to reflect the economic reality of the company. This does not prevent the tax administration from deploying its auditing capacity in relation to the information return: If the DIAN considers that the economic reality of the plaintiff’s operation corresponded to what was indicated in the information return, and not in the supporting documentation, it should disprove the information contained in the supporting documentation, or prove the reasons that show the plaintiff’s violation of the arm’s length principle.” Click here for English translation Click here for other translation ...