OECD Transfer Pricing Guidance on COVID-19: Limited risk entities may be allowed to make losses
Are entities that are normally rewarded with a routine profit margin on costs of sales still required to report a profit during the COVID-19 crisis? Maybe not, according to the guidance of the OECD. The OECD has released a report titled “Guidance on the transfer pricing implications of the COVID-19 pandemic” on 18 December 2020. Extraordinary times can lead to extraordinary effects. That is the OECD’s COVID 19-guidance in a nutshell.
The OECD’s guidance covers four topics:
- Comparability analysis;
- Losses and the allocation of COVID-19 specific costs;
- Government assistance programs; and,
- Advance pricing agreements;
The practical takeaways of this new guidance are as follows:
Losses and COVID-19
One of the four items concerns losses incurred by so-called “limited-risk” entities during COVID-19. The most important thing to note is that these entities can incur losses in the short run. Limited risk entities carry out fewer activities and are exposed to fewer business risks than a comparable independent company would be. For instance, a limited risk distributor often does not have any inventory.
Whether it is actually possible to report losses, depends much on the at arm’s length allocation of the business risks between the parties involved.
The allocation of COVID-19 specific costs
To allocate COVID-19 specific costs between parties, companies have to take a close look at the specifics of the transactions, the risks assumed by each party and consider how third parties would have allocated these costs in comparable circumstances.
Modifying intercompany agreements may be allowed
The OECD Guidance may also allow companies to modify their intercompany agreements if independent companies would have done the same in comparable situations. Prior to modifying any agreement it is strongly advised to assess and document whether independent parties would indeed do the same as questions from tax administrations may arise in future years.
Government assistance programs
With regards to government assistance programs, it is important to note that in absence of reliable information on independent party behavior, you should be cautious to share any government assistance received with related parties in your group (via your transfer pricing).
Advance pricing agreements (tax rulings)
On advance pricing agreements (rulings) the OECD guidance advises to assess whether critical assumptions within these rulings (e.g. a change of economic circumstances) have been met. If so, it is advised to proactively report this to the relevant tax authorities and perhaps renegotiate part of the advance pricing agreement.
Much of the rest of the COVID-19 guidance consists of theoretical and technical considerations that are beyond the scope of article.
We trust this article provides you with some insight in the possibilities for adjusting your transfer pricing as a result of the OECD COVID-19 guidance. If you want to make use of one of these possibilities we strongly recommend reaching out to one of the tax specialists at Crowe Peak.