Hot on the heels of the Australian transfer pricing law changes of 2012, the latest round of Australia's transfer pricing law amendments, contained in the Tax Laws Amendment (Countering Tax Avoidance and Multinational Profit Shifting)
Act 2013, has recently received Royal Assent.
The new law represents a major shift in the way transfer pricing law applies in Australia. For a multinational company with operations in Australia, it will need to ensure that its documentation processes meet the new technical and timing standards in Australia. Importantly, this includes higher thresholds for defending the commerciality of cross-border arrangements undertaken.
The 2012 Amendments were intended as a "stop-gap" measure to address a perceived threat to the Australian tax revenue base. Controversially, those rules were backdated to 1 July 2004. The Australian Government explained this on the basis that the intended operation of the original transfer pricing rules was consistently made clear in public statements over many years, and these changes merely clarified that intention. This is despite Australian Courts having found the previous domestic law to have been deficient in adequately capturing that intention.
Complicating matters, going forward the 2013 Amendments replace the 2012 Amendments. The pre-existing domestic transfer pricing legislation contained in Division 13 of the Income Tax Assessment Act 1936
is repealed. The 2013 Amendments are intended as a modernisation of transfer pricing laws to better align with OECD developments and practice, as well as to re-tool the Commissioner to address perceived threats to the tax base as a result of modern business practice.
However, it is quite doubtful whether the rules establish positions wholly consistent with OECD guidance, which means at a minimum that multinationals will need to carefully consider whether existing documentation processes meet the new technical and timing standards in Australia for their related party dealings. Areas that will continue to be the focus of attention will include intra-group debt arrangements, historical loss positions, business restructures and previous and future tax and financial disclosures.
Application of New Law
New subdivisions 815-B to D modernise and relocate the transfer pricing rules into the Income Tax Assessment Act 1997
(ITAA 1997) to ensure that consistent rules apply to both tax treaty and non-tax treaty cases, and to relevant dealings between parties whether or not they are associated. In addition, subdivision 284-E of Schedule 1 to the Taxation Administration Act 1953
(TAA 1953) contains new rules related to transfer pricing documentation.
Subdivision 815-B covers dealings between separate legal entities. It requires certain amounts (taxable income, a loss of a particular sort, tax offsets and withholding tax payable) to be worked out by applying the "internationally accepted arm’s length principle".
Broadly, this principle is proposed to be brought into the domestic law by requiring the commercial and financial conditions operating between entities, and which produce a transfer pricing benefit, to be replaced with the arm’s length conditions. The identification of arm’s length conditions involves hypothesising what independent entities dealing at arm's length would have done in the place of the actual entities in comparable circumstances. If that exercise results in a transfer pricing benefit to the taxpayer, a tax adjustment must be made accordingly.
Generally, the rules are intended to be self-executing, consistent with Australia's self-assessment system, but also provide for consequential adjustments, at the discretion of the Commissioner. The rules are to be applied as consistently as possible with relevant OECD guidance. There are also equivalent rules for partnerships and trusts.
The "basic rule" must be applied taking account of the form and substance of the actual conditions between the parties. Broadly, this is intended to limit the Commissioner's ability to hypothesise conditions outside the actual commercial arrangements of the parties.
However, there are exceptions to this "basic rule". Where these exceptions apply, actual commercial or financial relations in connection with which the actual conditions operate are disregarded for the purposes of identifying arm’s length conditions and making a tax adjustment (i.e. a reconstruction power). Broadly, these exceptions are where:
the form and substance are not consistent; or
parties dealing wholly independently with one another in comparable circumstances would not have dealt with each other in that way, or at all.
These exceptions will create new administrative burdens and uncertainties on multinationals which will need to carefully consider how far these hypothetical enquiries need to be pursued.
Subdivision 815-C applies to entities with permanent establishments (PEs). The rules operate to ensure that the attribution of income and expenses of the entity between its parts is reflective of an allocation that could be expected if the parts of the entity were separate entities dealing wholly independently with each other. The decision of whether to adopt the more complex OECD-endorsed “separate entity approach” continues to be the subject of a separate domestic law review.
Documentation, Limitation Periods and Penalties
Subdivision 284-E of schedule 1 of the TAA 1953 explains the new documentation standards, which did not previously exist. Documentation continues not to be mandatory, however penalty risk will only be reduced by preparing and maintaining contemporaneous, supporting documentation that meets a "reasonably arguable position" standard. Bringing this within the self-assessment regime will mean extra responsibility on those charged with tax risk management, including directors and public officers.
A welcome development is there is now a limitation period on transfer pricing adjustments of seven years from the date of assessment. Previously there was no limitation period.