Navigating nuances in transfer pricing
On May 19, 2017, Chevron Australia Holdings Pty Ltd. (CAHPL) sought special leave to appeal to the High Court of Australia the Full Federal Court’s decision, which affirmed the Australia Taxation Office’s (ATO) assessment of AU $340 million in taxes and penalties by disallowing interest deductions claimed by CAHPL on a US $2.5 billion loan from Chevron Texaco Funding Corporation (CTFC). The ATO held that the interest rate on the intercompany loan was inconsistent with the arm’s length standard under Australian transfer pricing rules. If the High Court refuses to grant Chevron’s special leave request, this particular case will end; however broader discussions among multinational enterprises (MNEs) on cross-border intercompany financing arrangements under Australian and other jurisdictions’ transfer pricing rules continues as taxpayers face uncertainty.
As the tax playing field evolves, it is no surprise individual governments have developed specific nuances to attempt to ensure a share of tax revenue. Australia has established its own transfer pricing guidance ostensibly following the guidelines promulgated by the Organization for Economic Co-operation and Development (OECD). However, the ATO’s recent success in Chevron Australia demonstrates how an individual government can assert its own interpretation of the arm’s length standard, not necessarily in lockstep with generally accepted standards.
After the Full Federal Court dismissed Chevron’s appeal and affirmed the ATO’s tax assessment, the Government welcomed the decision. The Australian Treasurer, Scott Morrison, said it was “a first priority” for the Government to ensure Australia has some of the toughest rules in the world dealing with cross-border transactions and that “multinationals do the right thing and pay their fair share of tax here in Australia.” MNEs with intercompany financing arrangements in Australia or considering such transactions should note the Australian approach likely is not as straight forward as approaches generally accepted elsewhere. The latter generally compares the interest rate set by related parties in an actual intercompany transaction with the rate determined by two unrelated third parties in a similar, unrelated transaction. The former begins with the terms set by related parties in an actual intercompany transaction, and then constructs a rate by addressing the non arm’s-length features or conditions of the actual intercompany transaction. Along those lines, features or conditions such as the entire corporate group’s credit standing are emphasized more than the features and conditions between two independent stand-alone entities. (Read: Implications of Australian tax authority win in transfer pricing case)
While the global transfer pricing landscape evolves, taxpayers must navigate these government specific nuances. This is a tricky task. Patricia Yarrington, Vice President and Chief Financial Officer of Chevron Corporation, said that the Australian Court’s ruling “deviates substantially from recognized international transfer pricing guidelines.” Unfortunately for taxpayers, in specific countries the recognized international transfer pricing guidelines may not hold water or may be dismissed entirely as guidance and not law.
In early April 2017, the UN released a revised Practical Manual on Transfer Pricing for Developing Countries to provide further guidance for MNEs amid the Base Erosion and Profits Shifting (BEPS) initiative driven by the OECD and other international tax initiatives. In the manual, countries were able to provide additional transfer pricing viewpoints and experiences. For example, China promotes a location savings concept, under which an MNE must ensure that when it moves operations, the unit amount of profit earned at the new jurisdiction equals the unit amount of profit that would have been earned at the prior jurisdiction.This concept, too, can be seen as deviating from recognized international transfer pricing guidelines.
Most recently, the ATO released new guidance outlining a proposed approach to the transfer pricing implications arising from related party financing arrangements that will come into effect on July 1, 2017. The Practical Compliance Guideline provides an assessment that allows taxpayers to self-assess their tax risk associated with any related party financing arrangements. These new country-specific transfer pricing concepts add further complexity to global transfer pricing planning and compliance.
Whether the ATO’s Practical Compliance Guideline outlining the transfer pricing implications arising from MNE’s related party financing arrangements is purely coincidental or impacts Chevron Australia remains to be seen; but as the Australia High Court contemplates Chevron’s special leave request, MNEs should continue to deliberately and diligently review their transfer pricing documentation to ensure it complies with local jurisdictional requirements.