Growing Transfer Pricing Scrutiny by World's Tax Authorities Creates New Risks for Multinationals

Kolkatha, India, April 08, 2010 --(PR.com)-- Multinationals are facing new tax risks due to a growing number of authorities adopting divergent transfer pricing (TP) requirements, according to a new Ernst & Young survey examining the approaches and attitudes of tax authorities in 49 countries.

The 2009 Global Transfer Pricing Survey comprises insights from Ernst & Young's TP professionals around the world and interviews with tax authorities. It reveals a dramatic increase in the scope of TP documentation demanded by governments and their stated intent to seek penalties more frequently and at higher levels when multinationals get it wrong.

Since Ernst & Young's last TP survey of tax authorities in 2006, more than 10 additional jurisdictions have introduced new requirements for tax payers to create and maintain documentation arrangements, with China, Slovakia and Greece the three most recent.

John Hobster, Global Accounts Leader for Transfer Pricing for Ernst & Young, says: "Amid the challenges of a global economic downturn, many governments are sharpening their focus on compliance, enforcement and legislative approaches. While TP regulations were once confined to a handful of industrialised countries, they have since spread rapidly. As governments search for tax revenues to offset growing budget deficits, multinationals will have to be prepared for more TP investigations. In order to avoid being selected for audit, multinationals will need to adopt a hands-on management approach to TP design as well as making sure they follow best practices in documenting TP decisions."

Tax authorities dedicating more resources to TP investigations Given the need for governments to raise revenues in the challenging economic climate and the changing regulatory environment, the study anticipates heightened litigation in
the near future. This expectation is driven by the almost universal trend towards increased TP investigation resources within tax authorities.

Countries that are relative new comers to TP enforcements are tending to gear up capabilities quickly. Furthermore, a number of jurisdictions are moving towards setting up specialist transfer pricing examination teams (e.g., Austria, Indonesia and Slovenia), with the aim of focusing their efforts and resources.

From a core team in 2006 of five directors and seven transfer pricing officers to seven directors and twenty three TPOs in 2009, the number of transfer pricing resources in India has increased substantially over the last two years. Compared to other BRIC countries this number is the highest. According to Mr. Vijay Iyer, Tax Partner, Ernst & Young India, "Governments approach to strengthen the team both in quantity and quality is an indication of how seriously the tax authorities take transfer pricing scrutiny. The commitment is evident from the fact that the team of experts regularly interacts with OECD experts to understand global best practices."

Industries, countries and transactions in the spotlight

In roughly half of the countries surveyed, certain industries are formally or informally being targeted. Sixteen tax authorities stated that they target specific industries and eight more are believed to do so. Globally, the main targeted industries are automotive, consumer products, financial services, oil and gas, and pharmaceuticals. The survey also revealed that a clear focus is emerging on transactions with perceived tax havens and 'blacklisted' countries.

Scenarios that signal further TP investigation include unusually high profits or losses in a group company; corporate restructurings involving closures or reductions in operations; significant inter-company management fees; dealings with a group company in a tax haven; and being located in a low-cost country.

The survey revealed that in India, there is no formal focus on audit of specific transactions or companies in a particular industry. However, it has been seen that following transactions have caught the attention of the authorities (ranked in order of prevalence):

-Intra-group services (software, ITeS, other services);
-Tangible goods;
-Intellectual properties (e.g. royalties, licensing);
-Financial transactions; and
-Cost sharing/ cost pooling arrangements

"In India, the selection of taxpayers for scrutiny is based on the value of transactions with overseas group companies. In some countries, including the BRIC countries profitability of the tax payer, volume of inter company transactions and restructuring have emerged as the criteria to select cases for transfer pricing scrutiny" said Vijay.

Managing the risks

The survey also indicated that globally an increase in the usage of Advance Pricing Agreements (APAs) is occurring, in an effort to give both the taxing authority and the multinational an increased level of certainty in an uncertain world.

Nonetheless in India, APAs discussions are on implementation of the same.

Planning for the future

The continued and growing interest of tax authorities in TP and the proliferation of local rules have made the assessment and management of TP risk a key focus for CFOs and tax directors. Multinationals should have in place effective tools for identifying and measuring risk and a familiarity with both technical and procedural approaches for dealing with TP issues raised by tax authorities.

Vijay concludes by cautioning the India Inc, "The survey expects that in the next two years, the India Income-tax authorities will interact more with customs authorities and indirect-tax authorities and place greater emphasis on transfer pricing compliance measures."

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