Taxpayers must comply with increased transfer pricing requirements for the 2018 tax year according to the recent guidance issued by the Australian Taxation Office (ATO). The International Dealings Schedule (IDS) filed with the ATO has additional questions that must be addressed to allow the ATO to assess the transfer pricing risk of filers and help identify taxpayers for examination. The IDS will now include specific questions regarding the following:
- Research and development (R&D) costs
- If an Australian taxpayer performs R&D services on behalf of a related party, it will be required to separate the cost of the provided R&D service from the markup received on these costs.
- This change raises the importance of the markup being arm’s length, as the Australian taxpayer can make the case—if needed—that the entity receiving the R&D services owns the intangible property developed. Therefore, no adjustment to the markup would be needed.
- Offshore marketing hubs
- If an Australian taxpayer has an intercompany transaction dealing with a hub for marketing services, it will be required to report the value of the expense or the revenue received for these services.
- Hybrid arrangements
- All hybrid mismatch arrangements must be disclosed.
- Foreign exchange gains and losses
- In past years, foreign exchange gains and losses were reported on the local file. Moving forward, the same foreign exchange gains and losses will be reported in the IDS.
These additional questions on the IDS will help taxpayers—in accordance with the ATO—identify issues of risk to intercompany transactions.
In 2018, the ATO updated the guidelines for the Simplified Transfer Pricing Record Keeping Options. Qualifying for the Simplified Transfer Pricing Record Keeping Options has one noticeable benefit: those taxpayers will not be subject to an ATO transfer pricing audit if they follow certain principles and guidelines. Taxpayers are eligible for the Simplified Transfer Pricing Record Keeping Options if they meet one of the following criteria:
- The Australian taxpayer has revenue less than A$25 million in Australia
- Distributors with an operating margin of at least 3 percent (at the earnings before interest and tax level)
- Routine intragroup services, i.e., low-value management and administrative services, priced on a cost plus 7.5 percent basis of less than $1 million, or 15 percent of total revenue or expenses (as appropriate)
- Management and administration services with a 5 percent markup
- Technical services with a 10 percent markup
- Low-value inbound loans (less than A$50 million) denominated in AUD with an interest rate not exceeding a Royal Bank of Australia indicator rate
- Low-value outbound loans (less than A$50 million) denominated in AUD and with an interest rate equal to or exceeding a specified interest rate
- Total international related-party transactions are less than 2.5 percent of the Australian taxpayer’s revenue
As demonstrated by the list, the ATO is conceding that some taxpayers are inherently low transfer pricing risk. In other words, some types of taxpayers have a low risk of not operating on an arm’s-length basis. While the Simplified Transfer Pricing Record Keeping Options help reduce transfer pricing documentation compliance for qualified taxpayers, taxpayers that elect into it should have arm’s-length transfer prices. Because arm’s-length transfer prices are still expected by the ATO, it may be best to maintain at least a brief analysis of the transfer prices used.
However, the ATO is only so obliging in terms of minimizing transfer pricing compliance obligations. The following types of Australian taxpayers don’t qualify for the Simplified Transfer Pricing Record Keeping Options:
- The business has sustained losses
- There are dealings with low-tax jurisdictions
- The Australian taxpayer or its functions have been restructured
- The intercompany transactions are for royalties, license or R&D services
These changes are typical of the ATO, as it is one of the most active tax authorities when it comes to transfer pricing. The ATO is focusing on areas that it considers high risk, while also trying to make transfer pricing documentation compliance easier for smaller companies.
To discuss these issues in further detail, contact Elizabeth or your trusted local BKD transfer pricing advisor.