International Tax Review - Future challenges in Ukranian transfer pricing disputes

by DLA Piper
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This article was originally published in the International Tax Review and it is reproduced with permission from the publisher.

Ukraine’s major transfer pricing reforms took effect on September 1 2013. Generally, the new rules are OECD-based, though some exceptions exist.

While these new and technically complicated rules represent untested waters for all stakeholders, it is uncertain whether Ukrainian tax payers may rely on the local judiciary system to protect themselves against the excessive pressure which is likely to be applied by the tax authorities.

With that in mind, it is useful to have a look at the court practice existing to date.

Before the transfer pricing reform was launched, Ukrainian laws did not contain sophisticated transfer pricing regulations. In practice, out of a variety of methods, only the comparable uncontrolled price method was used.

While applying the comparable uncontrolled price method, the tax authorities often ignored comparability requirements for choosing comparables. Together with the attitude of the tax authorities towards cash-collection caused by the stripped state budget, this resulted in a large number of tax reassessments, especially as far as commodity transactions were concerned.

This tax authority approach is still evident. A recent example concerned tax payers in the Ukrainian grain market applying the comparable uncontrolled price method to futures contracts. The decision in case #813/246/1 3 was delivered by the Lviv Region Administrative Court on July 10 2013.

The background of the case is that the Ukrainian grain exporter concluded futures contracts which fixed the grain price as at the contracts' date where actual delivery happened in months to follow. The contracts were registered through the Ukrainian agrarian stock exchange.

The tax authorities challenged the export price saying it did not meet arm's-length standards. Their argument followed that at the moment of actual shipment of grain, an average market price for grain was higher than the one used by the tax payer. To put it simply, the authorities got it all wrong and confused spot and futures contracts concepts. The corporate profits tax reassessment which followed was appealed by the tax payer through the court procedure.

Having analysed the facts and circumstances of the case, the administrative court of the first instance delivered the decision in favour of the tax payer. The court's decision was based on the following findings:

  • Existence of the export contract concluded through the agrarian stock exchange indicated that the grain was sold at the arm's-length price as of the date of the conclusion of the contract and not as of the date of the actual grain shipment
  • Tax authorities have not analysed important comparability factors such as batch volume, shipping method, delivery basis and qualitative characteristics of the grain, and
  • Tax authorities failed to indicate explicit (publicly available) sources of information to establish arm's-length prices of grain which were used for the tax reassessment.

Although this decision of the first instance court is yet to be confirmed by the administrative appeal and the higher administrative court, it serves as an extremely encouraging signal.

To conclude, some of the Ukrainian courts had a proper understanding of transfer pricing concepts and comparability requirements even before the transfer pricing reform was adopted.

Tax payers are advised to stay vigilant and prepare themselves to defend against future challenges. Do your homework: documentation is likely to be the key tool to stand your ground in the courts.

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