Transfer Pricing Policies—Looking Ahead

March 8, 2021, 8:00 AM

One year on from the catastrophic spread of Covid-19 across the globe, the mood is gradually shifting in a more positive direction. Media coverage of vaccines and their rollout in Europe, the U.S. and other countries provides the basis for a simmering optimism that by the end of 2021 the world may be back to what was previously regarded as normal.

Yet if there’s one thing that we’ve learned over the past year, it’s that the Covid-19 virus is as unpredictable as it is dangerous. With new strains emerging, changes in political administration, and work still to be done to protect citizens around the world, one thing we can be certain of is that we’re a long way from the finish line—if there even is one.

Transfer Pricing Policies Under Scrutiny

Tax professionals largely agree that, as the global economy looks to get back on its feet over the coming years, transfer pricing models are likely to receive heightened attention. Whether it be here in the U.S., across the pond in European markets or elsewhere across the EMEA and Asia-Pacific regions, tax administrators everywhere are already examining whether changes to tax policies could bolster their fiscal firepower. South Korean President Moon Jae-in’s recent call for companies that profited from the pandemic to share some of their increased margins, and hand them to others who lost out, is just one example of how politicians are willing to consider all available options in their approach to fiscal recovery.

For businesses that have been financially damaged by the pandemic, there is an obvious benefit to re-examining their transfer pricing between entities in different jurisdictions, in order to manage cash flows and aid their fiscal recovery. To date, the main economic focus in the public arena has been on the damage to businesses caused by Covid-19, but the medium- and longer-term story could well focus on how the multinational groups that financially benefited from the pandemic have approached their tax models, including transfer pricing.

It will be debated for a long time to come how businesses that fared well financially during the last year should have approached reviews of their transfer pricing in 2021. There are many who would advocate any CFO seeing a spike in profit examining the underlying cause.

Some might question the urgency or importance of doing so, but you are unlikely to hear such dissent from tax professionals who are tapped into the current industry chatter. Many in the tax world anticipate that there may be increased tax controversies over the coming years, as tax authorities scrutinise transfer pricing policies as a means to recoup additional currency to support their fiscal programs.

Potential for Tax Controversy

What will be the cause of the increased tax controversies? The expectation is that, while it could take a couple of years to be reflected in filed returns, corporate shareholder pressure to recover and streamline in the wake of Covid-19 will lead to an increase in companies making more aggressive tax efficiencies between jurisdictions. One need only look to the number of companies in the pre-pandemic period whose tax-efficient approaches have placed them in the public or political firing line to understand the controversy it can generate around a brand’s reputation.

In the wake of Covid-19, one of the questions also being asked is, how long will we remember the financial and operational pressure that corporate groups were under in 2020/21? If economic recovery is swift and groups are seen to be returning to profitability sooner than expected, what pressure will they come under to justify and, more importantly, keep hold of, their gains?

Multinationals who made changes to their transfer pricing policies in reaction to pressures from Covid-19, only to later find that the problems were not so severe, and wish to quickly return to prior policies may find themselves especially susceptible to challenge. While there may be some sympathy to be found for businesses suffering genuine losses, the same will not be said of those seen only to take advantage of the circumstances.

Going Forward

If other governments follow the philosophy of President Moon Jae-in, companies who have had a strong financial year would be wise to undertake careful analysis and compile hard data that evidences the cause of activity over 2020 and to reflect that profit is being recorded where the value is being derived. Political memories in particular are shorter than most. If the public coffers continue to support the economic recovery, CFOs will need a record to defend themselves against greater scrutiny coming down the road, whether it be to defend success or failure.

Such analysis will act as a de-risking exercise that few large multinational companies can afford to avoid in the current environment. It will also prepare them for any potential mergers and acquisitions activity in the coming years, when due diligence is conducted, to include an understanding of tax positioning during the pandemic.

A lack of detail or transparency over transfer pricing has historically had a knock-on effect on the value of a company being bought or sold by private equity entities. If the industry view of increased external attention on tax affairs proves accurate then this will be an area in even greater need of safeguarding than it was prior to 2019.

There was some mild anticipation the Organization for Economic Co-operation and Development (OECD) guidance that came out in late 2020 might provide a concrete guideline for CFOs looking to make transfer pricing efficiencies. However, to nobody’s surprise, it instead made clear that the mantra of the day over the correct application of transfer pricing is still, “it depends.” It’s not possible to provide blanket guidance on transfer pricing in normal circumstances, let alone over Covid-19. The impact of the pandemic simply has too individual an effect on every respective business and economy.

Despite its inability to provide definitive practical guidance, the message from the OECD should read loud and clear to CFOs. Now is the time to take a step back and look at your business circumstances holistically, regardless of whether your revenue plunged or soared over the last financial year.

Analysis of the detail of inter-company transactions must be undertaken to a degree of precision that has not been reached before if a company is going to create safeguards that see it through the next few years.

This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.

Marc Alms is Managing Director of Alvarez & Marsal Taxand, New York.

The author may be contacted at: malms@alvarezandmarsal.com

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