The COVID-19 pandemic not only jeopardizes the health of millions, but is also likely to cause a serious global recession. For enterprises trying to combat the economic consequences of the pandemic, deviations from the established transfer pricing model creates a transfer pricing risk. Finnish Tax Administration encourages companies to engage in pre-emptive discussions in transfer pricing matters.
The pandemic resulting from COVID-19 jeopardizes the health of millions of people. The virus can be regarded also a ”Black Swan” which unexpectedly risks the economy and enterprises worldwide. The virus and actions of authorities aimed at combatting it result in plummeting revenues and stoppages in production due to consumers and workers staying in their homes or in quarantine, and shortages of components. Going forward, the virus is expected to cause a serious global recession.
Many enterprises apply a transfer pricing model where group companies involved in e.g. sales and/or manufacturing activities are regarded as limited risk companies. Based on the transfer pricing model, they are compensated their costs and an arm’s length profit mark-up while the principal, in many cases the parent company, carries the risks of the business.
It is important to keep in mind that limited risk does not mean no risk at all. The pandemic is a material, unexpected risk due to which companies need to consider if exceptional costs due to e.g. orders of authorities of a certain country or to workers falling ill or laid off in wide scale should really be borne by the principal. Also profit mark-ups which are based on benchmarking analyses prepared on financial data from previous year might not be at arm’s length in 2020 circumstances when the profits of the comparable companies plunge.
Deviation from the established transfer pricing model is always a transfer pricing risk. Showing a tax loss in a limited risk sales company easily attracts attention from the tax authorities’ side. On the other hand, allocating all exceptional costs due to the pandemic to the principal company without consideration can be also a risk. Tax audit activity can be expected to increase in Finland and other countries to cover the losses of tax revenue and the costs of support packages provided to enterprises, and also due to planned changes in transfer pricing legislation.
Further, it can be questioned if a group company whose business activities have been interrupted benefits from management services and licensed IPR during the stoppage. Then, if the evaluation indicates that particular group companies do not obtain benefit, it may be reasonable to interrupt management fee or royalty charges for the period of the interruption.
In Finland, the Tax Administration encourages companies to engage in pre-emptive discussions in transfer pricing matters. Due to the exceptional circumstances in 2020 there is more need for such pre-emptive discussions than any time before. Therefore, companies considering the transfer pricing impacts of the pandemic should do as follows:
KPMG tax advisers are prepared to assist you in all stages explained above.
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