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ATO Second Commissioner Speaks on Transfer Pricing Focus — Orbitax Tax News & Alerts

The Australian Taxation Office (ATO) has published the welcome address and opening remarks delivered by acting Second Commissioner, Jeremy Hirschhorn at the Tax Institute National Transfer Pricing Conference in Sydney on 14 August 2019. The address covers transfer pricing as a key focus for the ATO and includes the following with respect to recent focus areas and advice to transfer pricing professionals:

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Focus areas

If I just touch quickly on a few of our recent focus areas, where we have been quite overt about what is acceptable compliance risk in publishing PCGs.

Related party loans continue to be used by Australian taxpayers, and we have made great inroads in addressing taxpayers who have sought to achieve artificial transfer pricing benefits through these arrangements. For example, we have brought about $80 billion in previously high risk related party loans into low risk or 'green zone' arrangements, and expect this to increase as we resolve existing issues.

Marketing hubs continue to be a key focus area. But again, by working actively with taxpayers to resolve these matters we are seeing a positive impact of our hubs strategy on reducing the use of these arrangements to reduce tax in Australia. It's a matter of public record that BHP will now be paying their full Australian tax on their Singapore hub, and that their on-going arrangements are in line with our 'green zone' set out in our guidance materials. This was a significant development in our marketing hubs strategy; as one of Australia's major taxpayers this sends a strong signal to taxpayers with similar arrangements in that industry, as well as to the emerging oil and gas industry.

More recently we have also signalled to the market our focus on inbound supply chains. We observed a race to the bottom in terms of the profit landed in Australia and realised we had to intervene with expected returns. Not only was this inappropriately reducing Australian tax, but also clogging up our APA processes with ambit claims, adversely affecting taxpayers with genuine prices seeking certainty.

Transfer mis-pricing traps

I thought I would briefly set out some of the transfer mis-pricing traps that we see in practice:

  • pricing a contractual arrangement that does not reflect what is happening in reality
  • entering into transactions or restructures against the best interests of the Australian entities, for example:
    • entering into a worse transaction with a related party than could be obtained with a third party (or in fact was previously in place with a third party)
    • contractually artificial allocations of risk and reward that would never occur in the real world
      • I describe this as the "kidney donor" approach to transfer pricing: just because you can point to someone living a full life on dialysis, this doesn't support a proposition that someone would remove their own kidneys and go on dialysis in order to transfer the risks and rewards of their kidneys to someone else
  • transferring intellectual property to a related party just before it becomes commercially viable at a significant discount to what it would be worth
  • an optimistic use of one methodology, with no cross-checking against other methodologies
  • ultimately transfer pricing disputes are resolved by judges – history would show they are concerned with real world pragmatism and have little time for convoluted methodologies or expert witnesses; it has been said that the reason for having expert witnesses in transfer pricing cases is to ensure that the other sides are also disregarded
  • pricing a transaction which would never take place with a third party
  • failing to take into account the bargaining power that the group would have with a notional third party if it were to enter into that transaction (a version of the "orphan" approach) – in the real world, a Coles pays less per square metre than the florist
  • when the price is bad (or there is a change in transfer pricing legislation), changing the story not the price.

In relation to the last point, and at the risk of bluntness, some transfer pricing documentation and supporting information we receive reads more like a historical novel than a well-researched biography: some of the characters are real, but there is a lot which seems to come from the imagination of the author. In short, we often find that the glossier the report, the worse the price.

Being wise not clever

So if I think then about 'what does a wise advisor do?' well it's really the flipside of some of these things.

A person providing wise advice:

  • understands the big picture of where channel profit is being landed around the world (especially untaxed profits)
  • looks at whether the transaction makes commercial sense and, if it does not, does not simply price a non-commercial transaction
  • looks at multiple methodologies to see if the price makes sense
  • where the price is bad, changes the price, not the story
  • understands the ATO's risk assessment frameworks
  • seeks greater certainty – particularly where transfer pricing is part of their "tax infrastructure" (i.e. it is material to their fundamental tax profile), rather than a fringe issue.

Be a transfer pricing professional

To conclude, I just want to reiterate that what you do is really important – you are a critical part of the operation of the tax system in Australia. What you do matters, not just to your clients, but to confidence in the tax system as a whole.

We are encouraged by the increased and positive engagement from taxpayers and their advisors over the past few years to address transfer pricing issues upfront.

I encourage everyone during each of the sessions today to think about how they can be a wise transfer pricing professional.