Over the last couple of years, compliance with Transfer Pricing rules has become increasingly more complex. This issue has been pointed out by the European Union (EU) Commission and is one of the issues the European Union is aiming to tackle. After a ruling against the EU Commission in a state aid case, the European Union is looking into placing the Organization for Economic Cooperation and Development (OECD) transfer pricing guidelines into EU law.
Based on Article 9 of the OECD Model Tax Convention, businesses involved in cross-border transactions and dealings with entities or Permanent Establishments of the same group must be taxed on the basis that they act at arm’s length on their transactions and dealings with each other.
EU Member States and businesses have recognized and applied the OECD Transfer Pricing Guidelines, which provide several methods for approximating arm’s length pricing transactions and profit allocation between companies of the same corporate group. However, considering there is no harmonization in this regard at an EU level, the application of the arm’s length principle has been controversial, specifically in State Aid cases.
The most recent judgment issued by the Court of Justice (CJEU) in the Fiat case is of relevance. In this case, it was discussed if the OECD Transfer Pricing Guidelines and the arm’s length principle could be applied directly by the EU Commission, regardless of whether they have been incorporated into national law. According to the CJEU, and specifically for State Aid cases, only national provisions are determinative.
Even though the OECD Transfer Pricing Guidelines reflect the international consensus achieved regarding transfer pricing, the CJEU stated that the parameters and rules established by the OECD could be applied only if the national tax system makes explicit reference to them.
Proposal by the EU Commission
Currently, each country applies the OECD Guidelines in different ways. Some may transpose those rules literally as they are stated by the OECD and others may apply them with certain differences.
The initiative will follow the OECD model rules, adapting them to the specific features of the single market, achieving a harmonization regarding the arm’s length principle, its application and methodology.
At an American Bar Association Tax Section Conference, Benjamin Angel, the EU Commission director for direct taxation, said that the change is being considered as part of a coming proposed new framework for EU corporate tax law and was prompted by the CJEU in its recent judgment in the Fiat case.
The initiative is being prepared and analysed, and the Commission is optimistic regarding its approval, since EU Member States agreed on the Pillar I and Pillar II OECD’s corporate tax, which suggests that there may be a willingness among countries for a new corporate tax System.
Looking towards the future
Whilst this initiative has a direct effect on state aid cases, it should be noted that if approved, the OECD Transfer Pricing Guidelines would be incorporated into national legislation in each EU Member State. Although all Member States have incorporated the arm’s length principle already, each country nuances its application based on local legislation. Accordingly, the incorporation of the OECD Transfer Pricing Guidelines into national legislation amongst the EU Member States, will bring much appreciated harmonization and potential changes in local application simultaneously. It is also a likely consequence that penalties will be introduced/increased, and that this will add to the focus on transfer pricing in audit processes.
In order to prepare for the future, we highly recommended to give your transfer pricing model and compliance documentation a once over to ensure you are ready.
For further reading:
- European Commission, Business in Europe: Framework for Income Taxation (BEFIT) initiative, Ref. Ares (2022)7086603 - 13/10/2022
- Fiat Case - Judgment of the Court in Joined Cases C-885/19 P, Fiat Chrysler Finance Europe v Commission and C-898/19 P, Ireland v Commission
- Transfer pricing documentation - important for tax surcharge decisions