HMRC yield from transfer pricing casework hits new high
Watershed moment as HMRC transfer pricing compliance yield tops £2 billion.
Watershed moment as HMRC transfer pricing compliance yield tops £2 billion.
The transfer pricing risks multinational companies face from operating internationally continue to rise. Statistics published by HMRC covering the 12 month period to 31 March 2021 (FY21) show a remarkable rise in the yield from transfer pricing casework, a 49 percent increase on FY20 to £2,162 million, the first time this figure has exceeded the £2 billion barrier. The statistics also provide clear evidence of the challenges in achieving timely resolution of transfer pricing uncertainties through traditional mechanisms (bilateral advance pricing agreements, HMRC enquiries and treaty Mutual Agreement Procedures). HMRC have delivered on their promise to include data on the Profit Diversion Compliance Facility for the first time and the outcomes appear positive and may encourage taxpayers to consider making unprompted registrations in the future, particularly given the lengthening timescales for settling enquiries.
The statistics published by HMRC are now over 12 months old but they show some important trends which multinational companies should take note of when considering their transfer pricing risk management strategy.
The bumper compliance yield comes despite fewer enquiries being settled in FY21, by comparison to the numbers settled in each of the previous three years. One of the factors driving this is likely to be an extra boost from the resolution of a number of cases falling under the Profit Diversion Compliance Facility but this figure is too small to explain the entire increase.
The other aspect that stands out from the data is the £1,467 million of additional corporation tax generated from diverted profits investigations as this is up by over 100 percent on the FY20 comparator. HMRC have been raising large numbers of Diverted Profits Tax (DPT) charging notices for several years prior to FY21 and the 15 month review period provides a finite window for taxpayers to reach a settlement with HMRC on a transfer pricing basis to prevent tax being charged at the higher 25 percent rate. It is likely that these charging notices have helped drive up the yield in FY21 and a few very large cases could be having a significant impact on the numbers.
There are no signs that HMRC are using this ‘big stick’ more sparingly based on the numbers of new notices issued in FY21 and the level of net DPT receipts from charging notices (£151 million) which were the highest they have been since FY18. It was also notable how swiftly the UK Government responded to announce a change in legislation following the direction by the First-tier Tribunal in the Vitol Aviation case.
Advanced Pricing Agreements (APAs) and Advanced Thin Capitalisation Agreements (ATCAs)
HMRC agreed 24 APAs in FY21 and received an equal number of new applications. This reflects a continuing trend of lower demand for APAs and this is unlikely to change based on these statistics as the average time taken to reach agreement was over 4.5 years. It was also unusual to see such a high number of withdrawn applications (11) and applications turned down (four).
The reality is transfer pricing issues are becoming harder rather than easier to resolve bilaterally following the original BEPS project and resulting changes made to the OECD Transfer Pricing Guidelines. It introduced new concepts which were loosely defined and open to differing interpretations. Against this backdrop of increasing uncertainty, APAs still have an important role to play in providing taxpayers with a bilateral dispute prevention mechanism and have the potential to resolve transfer pricing uncertainties far quicker than a HMRC enquiry, followed by a Mutual Agreement Procedure which, based on the latest statistics, could take six years from when the enquiry was opened.
There are reasons for optimism as the most recent statistics on bilateral APAs (BAPAs) published by the US, Canada and Japan all showed reducing timescales and were three years or below and China concluded 14 BAPAs in 2020 (mostly in the manufacturing sector) despite the disruption of the pandemic. HMRC are also involved in OECD working groups which are seeking to promote the adoption of APA best practices amongst OECD member countries.
The level of ATCAs in force and new ATCAs agreed continue to decline and the average time to agree ATCAs has continued to grow despite these generally being unilateral agreements and lower demand for them. The publication of the new Chapter X guidance on financial transactions creates new opportunities for bilateral APAs for financial transactions and HMRC are planning to discuss this with some of the UK’s key treaty partners.
Mutual Agreement Procedure (MAP)
Continuing with the theme of protracted negotiations, HMRC settled 62 MAP cases in FY21 which was the lowest number since FY17 and less than half the number of new cases admitted. The average time taken to resolve the 62 cases settled in FY21 was 34.4 months. This reflects the fact that the UK Competent Authority team made a concerted effort to try to resolve a number of older cases during 2020 and were successful in doing so (OECD statistics for the 2020 calendar year showed the UK’s inventory of pre-2016 transfer pricing MAP cases was almost halved in 2020 falling from 50 to 27). However, this is a statistic HMRC will be looking to improve as they will be mindful of the 24 months target set as part of BEPS Action 14 and being seen to lead by example on this. The rapid growth in the MAP inventory will also be of concern. It may be challenging for HMRC to significantly improve these metrics in the short term as almost 50 percent of the UK’s TP MAP inventory at the end of 2020 related to cases involving Italy, Germany and India.
Profit Diversion Compliance Facility (PDCF)
HMRC launched the PDCF in January 2019 and this is the first time we have seen this level of data on usage and outcomes for the facility. The data show that the PDCF has been successful with 22 cases resolved in 2020/21 in an impressive average of 12 months from registration meeting to receiving a decision from HMRC and 96 percent of those had their final proposals accepted.
Although more of the 74 PDCF registrations in 2018/19 and 2019/20 remained unresolved at 31 March 2021 this will reflect the additional time granted by HMRC due to the impact of the COVID-19 pandemic. KPMG’s experience over many cases has been that the PDCF process has had the desired momentum and that more cases have been resolved in later years. Our experience is that HMRC are generally taking a principled approach to cases and not requiring taxpayer adjustments in every case which has meant that cases can be efficiently resolved whether or not an adjustment is proposed.
Overall around two thirds of the businesses which received ‘nudge letters’ from HMRC registered for the PDCF and there were also some businesses which registered without having been prompted to via a nudge letter. HMRC should view £305 million of yield as a good return on their investment in the facility so it seems likely it will be continued.
Given the data on the duration of enquiries, this should be food for thought for multinationals with transfer pricing uncertainties, particularly in light of the introduction of the uncertain tax treatment notification rules which apply for corporation tax returns due on or after 1 April 2022 and may require notifications to be made where there are UK transfer pricing related risk provisions in the company accounts.
The transfer pricing environment in the UK continues to evolve. We expect draft legislation to be published over the summer on the new documentation requirements for large businesses and further details on the ‘summary audit trail’ requirement, which will provide HMRC with information on the quality and source of the inputs into the documentation.
Investment upfront by taxpayers in considering the options available for managing their transfer pricing risks can pay dividends down the track, for example, a check on transfer pricing policies and a refresh of functional and value chain analyses in light of the focus areas within the PDCF guidance.