By Teodora Alecu, KPMG Romania, Director Transfer Pricing Services
In 2014, the Organization for Economic Co-operation and Development (“OECD”) began making recommendations to Member States for the implementation of certain actions aimed at limiting base erosion and profit shifting, known as “BEPS”. The project includes 15 actions, representing 15 areas of regulation that allow states to monitor data which has a fiscal impact, i.e. an impact on the corporate tax base in a particular jurisdiction. Romania is not a member of the OECD, but, in practice, implements most of the OECD’s recommendations into local legislation. Consequently, BEPS is relevant to Romanian taxpayers.
The 13th BEPS action promotes a change in existing rules on transfer pricing documentation. As provided in the September 2014 report published by the OECD and endorsed by the G20, Guidance on Transfer Pricing Documentation and Country-by-Country Reporting, there are three main sections which should normally be included in the Transfer Pricing Documentation of a company. The first section includes what we called until now the “Master File” or the group file, and focuses on information relating to the group structure, activities and strategy, as well as the way in which the methodology and transfer pricing policy have been implemented.
The second section includes what was previously known as the Company file or Country file. This contains the documentation of the transactions and activities carried out by the local entity.
Under the OECD’s recommendations, a new third section has been introduced; Country-By-Country Reporting. This includes statistical information relating to the results obtained by each group entity (from every country), the number of employees and the company’s capital. All this statistical information, as well as the extended information that must be presented in the Group File (the so-called “Masterfile”) aims to provide more transparency in relation to the locations where transactions take place, where substantial operations are carried out within the group as well as the locations where the activity takes on a more formal nature.
The timely submission of the Country-By-Country Report aims to provide fiscal authorities with relevant information relating to the profit centres of the group, but most importantly the centres that create economic value, i.e. which are the group’s entities and which of these concentrate a larger number of employees, where the capital is based, as well as who owns the tangible and intangible assets. The fiscal authorities will be particularly interested in establishing whether a company or a branch operating in a particular country has incurred losses if, at the same time, other group entities have registered profits. The report will enable fiscal authorities from all relevant jurisdictions to share this information.
In 2016, countries will begin to implement the provisions that will require the gathering and presentation of all this information in the Country-By-Country File into local legislation if they decide to follow the OECD recommendations. The goal is for this reporting format to be implemented consistently by OECD Member States.
In 2020, the OECD report issued in September 2014, Guidance on Transfer Pricing Documentation and Country-by-Country Reporting (or the September Report), will be reviewed.
A series of agreements between tax authorities from different countries is expected to be concluded, as a step forward in applying the agreements for cooperation and information exchange that are already in place.
The OECD’s recommendations are designed to address growing demands from fiscal authorities for information relating to the organisational structure, economic structure and fiscal stance of multinational group entities, to enable a more detailed analysis to be made of transactions carried out by local companies with their related parties in this global context.
On the other hand, multinational companies have raised the question of data confidentiality. Based on the new reporting rules, fiscal authorities from one state would have access to financial information, not just to information on the activity carried out in other states by a certain multination group.
The good news is that the OECD recommendations provide a threshold for consolidated turnover. Consequently, multinational groups with an annual consolidated turnover of up to 625 million euros will not be required to prepare such detailed reports.
The Country-by-Country Report is a statistical information source which will also be an instrument to monitor the company’s profile and a way to determine the degree of risk raised by transactions carried out with affiliated parties, from a transfer pricing perspective.
Consequently, a high level of risk is likely to generate increased attention from the local fiscal authorities, who would look more closely at the transactions and possible distortions of the corporate tax base.
The Country-by-Country Report will indicate the level of revenue the group generates in each jurisdiction from transactions with affiliated parties, on the one hand and on the other hand from transactions with independent parties. Consequently, the volume and type of activity in each jurisdiction in which the group operates will be transparent. If the business model provides that the local producer should sell to third parties, any atypical situation where the producer of the group sells only to related parties will be easy to identify.
Furthermore, the report will provide information on the loss or profit registered by group entities, and also the corporate tax paid in every jurisdiction. This will facilitate an analysis as to whether there is a balance between the corporate tax paid in a certain state compared to other states.
Tougher requirements will also be introduced in relation to the presentation of information on research and development activities, intellectual property rights, and the number of royalty contracts.
In conclusion,the 2016-2020 period will be characterized by an increase in investigations by fiscal authorities to help them determine where economic value is created, and where transactional substance can be found. The key principle is that the remuneration needs to correspond with the economic value created in the commercial chain of the group. If a transaction lacks substance, it could be reclassified, along with the mechanism used to determine prices between related parties.