In the context of increasing the number of multinational companies, the number of related party transactions increases as well and therefore transfer pricing has begun to be considered as one of the most important aspects in terms of tax matters. This consideration takes into account the fact that through transfer pricing, multinationals may try to move their profits from a high tax jurisdiction into a lower tax one. Given this, tax authorities are paying a special attention to the transfer pricing subject, initiating tax audits in order to verify if the prices invoiced by multinationals in relation with their related parties are complying with the legislative provisions.
During these tax audits entities can be subjected to transfer pricing adjustments which may determine a double taxation of the results at group level. With the increase in what is perceived by most taxpayers as aggressive Transfer Pricing (TP) audits, the anticipated introduction of TP specific penalty era, increasing TP disputes and the need for the Zimbabwe Revenue Authority (ZIMRA) to achieve one of the key objectives of the TP Regulations of providing certainty in TP treatment in Zimbabwe, it has become imperative that the authority implements the provision for Advance Pricing Arrangements (APA) in the new Regulations. This would help companies in order to avoid the risk of transfer pricing adjustments and implicitly of double taxation due to an abusive approach of the tax authorities, as companies could apply for advance pricing agreements. This article provides a general overview of APA, reviews the global trends in APA, highlights the benefits of APA.
What is APA?
“Advance Pricing Agreement” is an agreement between a taxpayer and a taxing authority on an appropriate transfer pricing methodology for a set of transactions over a fixed period of time in the future. The APAs offer better assurance on transfer pricing methods and are conducive in providing certainty and unanimity of approach”.
An APA as referred to by the Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations, 2017 (OECD Guidelines) is “an arrangement that determines, in advance of controlled transactions, an appropriate set of criteria (e.g. method, comparables and appropriate adjustments thereto, critical assumptions as to future events) for the determination of the transfer pricing for those transactions over a fixed period of time”.
The basic idea of an APA is to increase the efficiency of tax administration by motivating taxpayers to present before the tax authorities all the facts relevant to a proper transfer pricing analysis and to work towards a mutual agreement. APA reduces the burden of compliance by giving taxpayers greater certainty regarding their transfer pricing methods, promoting their issues and by allowing them discussion and resolution in advance before the tax authorities.
Unilateral, Bilateral and Multilateral APAs A unilateral APA, may affect the tax liability of associated enterprises in other tax jurisdictions.
Where unilateral APAs are permitted, the competent authorities of other interested jurisdictions should be given an option to determine whether they are willing and able to consider a bilateral arrangement under the mutual agreement procedure (MAP). In any event, countries shouldn’t embrace any unilateral APA with a taxpayer with a requirement that the taxpayer should waive off access to the MAP if a transfer pricing dispute arises. Also, if another country raises a transfer pricing adjustment with respect to a transaction or issue covered by the unilateral APA, the first country is encouraged to consider the appropriateness of a corresponding adjustment and not to view the unilateral APA as an irreversible settlement. The OECD Guidelines provide that because of concerns over double taxation, most countries prefer bilateral or multilateral APAs, and some countries will not grant a unilateral APA to taxpayers in their jurisdiction. The bilateral approach is far more likely to ensure that the arrangements will reduce the risk of double taxation, will be equitable to all tax administrations and taxpayers involved, and will provide greater certainty to the taxpayers concerned.
Unilateral APAs are one-sided tools of addressing problems with bilateral implications. Bilateral APAs give larger tax certainty and address the total scope of dealings and are favoured over unilateral APAs. Unilateral APAs are also helpful in certain circumstances, like covering problems or transactions wherever no applicable tax convention exists, they will have restricted utility wherever tax administrations actively review the sort of transactions being covered. As mentioned earlier, it’s best for both, taxpayers and tax administrations to avoid the inclusion of a discharge of access to MAP in audit settlements. Since MAP involves bilateral problems it’s inappropriate to own two parties (the remunerator and tax administration) not embodying a third concerned party (the alternative tax administration) within the final resolution of a problem. First of all, taxpayers might not understand the potential implications of double taxation and also the indisputable fact that associate adjustment by the opposite tax administration might complicate the problem. Secondly, tax administrations ought to take into account the problems of co-operation and reciprocity similarly, because the indisputable fact that those one-sided settlements will not serve tax authorities well at the end of the day. As for unilateral APAs, if a foreign adjustment is raised against a transaction or issue covered by a unilateral APA, the unilateral APA should be treated as the taxpayer’s filing and, therefore, eligible for MAP and adjustable, as opposed to an irreversible settlement.
The administration of bilateral and multilateral APAs may be very bureaucratic because of the involvement of more than one tax authority and the difficulty associated with reaching a common ground. However, the OECD Guidelines recommend that wherever possible, an APA should be concluded on a bilateral or multilateral basis between competent authorities through the mutual agreement procedure of the relevant treaty. A bilateral APA also significantly reduces the chance of any profits either escaping tax altogether or being double taxed. Moreover, concluding an APA through the mutual agreement procedure may be the only form that can be adopted by a tax administration which lacks domestic legislation to conclude binding agreement directly with the taxpayer.
Benefits of implementing APAs in Zimbabwe
APAs generally have become well established tools for risk management, advanced compliance, and an alternative TP dispute resolution. An APA should be a win-win for all the parties involved. Companies that enter in APAs obtain certainty in the treatment of their related party transactions, thereby resulting in voluntary compliance with the arm's length principle. Similarly, ZIMRA can better understand the tax-related issues within the taxpayer’s industry and the concluded agreement ensures dependable future tax revenues. The certainty that APAs offer for both sides is valuable.
Some of the specific benefits of APA include:
a) Rollbacks- The primary incentive for some taxpayers seeking an APA is the prospect of a rollback of a Transfer Pricing Method (TPM) developed in an APA to resolve past open tax years (rollback period). A rollback may provide a cost-effective way to resolve an ongoing TP dispute.
b) Obtains certainty for complex, high risk transactions- APA is considered as a strategy to minimise the risk of a transfer pricing adjustment; provide certainty through a negotiation process. An APA can be undertaken by companies that have complex inter-company transactions; high degree of transfer pricing adjustment risk that may result in penalties or for companies that desire certainty with regard to their transfer pricing policies.
c) Time and cost savings- TP examinations are often time-consuming and expensive. The APA process generally takes substantially less time to complete than a TP examination followed by a dispute resolution mechanism, which can easily last three to four years, and in many cases longer
with complex examinations.
d) Avoids double taxation- The pricing of goods and services by multi-nationals for transactions among themselves is generally governed by a global pricing policy. The policy typically ensures that it provides an arm's length return to various constituents of the MNE group, based on the functions performed, assets employed and risks assumed by each member of the group. Whenever a revenue authority in a particular jurisdiction challenges and disputes such pricing policy and raises a consequential demand, it leads to double taxation for the Group. The process of APA also seeks to do away with these tax risks. Bilateral APAs also address the inconsistent and evolving interpretation and enforcement of TP rules in other countries and the risk of double taxation.
e) Reduces the burden of record keeping, as taxpayers know in advance the required documents to be maintained to substantiate the agreed terms and conditions of the agreement.
f) Timely tax revenue, reduction in compliance costs- Under an APA, the tax administration agrees the arm's length pricing for the related party transaction. This ensures that the right taxable amounts are recorded by businesses and taxed timely as opposed to the delayed additional tax revenue resulting from TP audits (that is, Reduces compliance cost and costs associated with audit and appeals over the APA term by eliminating the risk of transfer pricing audit).
g) Competent authority analyst with knowledge of negotiating with the other country guides in the case from the outset and allows one competent authority to act as a counterbalance for another.
h) Perhaps the biggest benefit is the certainty gained for all of the years covered by the APA. It eliminates TP disputes to a large extent, saves the tax administrators the cost of conducting TP audits, appeals and litigation, loss of immediate tax revenue and associated time value of money. Broadly, it also creates certainty in the country’s tax regime and eventually increases the ease of doing business in an economy.
Global trends in APAs
United States of America (USA)- The Internal Revenue Service (IRS) published a Revenue Procedure that authorised APA contracts. A taxpayer is given flexibility to request a pre-filing process during which the taxpayer and the IRS can explore whether the taxpayer’s TP goals are suitable for resolution through the APA process. As a part of the contract, the tax payer agrees to provide annual reports demonstrating the company’s compliance with the APA, particularly highlighting the acceptable application of the chosen TP methodology. The IRS can revoke an APA in the event of fraud.
China- The method of executing APA in China is similar to what is done in the America. The stages in the process include preparation, formal application, evaluation and negotiation, and conclusion. Japan– Actively encourages taxpayers to use for APAs and has the foremost expertise with APAs. These APAs are valid for 3 to 5 years. Canada– Started a formal APA program in July, 1995. There's a powerful preference for bilateral or multilateral APAs if the foreign jurisdiction conjointly has an APA program.
In a recent global survey, MNEs have indicated that TP risks are the second biggest forms of risk apart from changes in legislations. This is due to the high level of subjectivity and uncertainty surrounding the treatment of TP issues. APA is an effective way of managing such uncertainties to help reduce incidence of TP disputes and costly litigations to both parties. It is therefore imperative for the ZIMRA to consider the implementation of APA in Zimbabwe to enable both MNEs and ZIMRA to reap the associated benefits, since the objective of an APA is to deliver certainty, for the taxpayer and the tax authorities. An APA scheme is a welcome amendment which will introduce larger certainty in the TP regime. Moreover, the introduction of measures like APAs and safe harbor benchmarks would certainly help Zimbabwe in orientating our transfer pricing rules to OECD Guidelines and alternative international best practices, including a forceful reduction in the penalties. It would go a long way in enhancing Zimbabwe's name as an attractive foreign direct investment (FDI) destination, a goal which government wants to achieve.
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