The National Tax and Customs Administration (NTCA) approach in transfer pricing matters tends to be conservative; in practice it requires the application of statistical methods (specifically, the use of the interquartile range) to narrow the final range of comparable values. In a recent case, however, such approach was successfully challenged by a taxpayer.
This taxpayer (the "Company") is a Hungarian tax resident manufacturer. It acquires the required raw material partly from related parties and it also sells the final products partly to related parties. In accordance with the Hungarian transfer pricing regulation, it prepared transfer pricing documentation determining the arm's length price of these transactions by applying the transactional net margin method on comparable data searched in an international financial database.
During a tax audit, the NTCA did not challenge the application of the method or the screening steps the Company already made. However, it stated that such approach is incomplete since the screening process in general is not capable of producing properly exact results. Therefore, according to the NTCA, a statistical filter (the interquartile range, which excludes the lower and upper 25% of the comparable values) should be applied to the results.
The Company appealed the decision of the NTCA defending its position by stating that
|-||it is not obliged by the Hungarian laws to apply the interquartile range; and|
|-||the interquartile range indiscriminately narrows the range of the comparable values (being a statistical, quantitative method). In other words, it may exclude companies regardless of their comparability with the Company since it does not take into account the relevant characteristics (functions, assets and risks) of the compared companies.|
The matter was finally brought before the court where the Company also pointed out that if further corrections are required to increase the comparability, it could be done by applying the working capital adjustment ("WCA") described by the OECD Transfer Pricing Guidelines; this method would take into account the material differences of the comparable companies instead of the indiscriminate exclusion of 50% of the values (as the interquartile range would do).
At this stage of the court process, the Ministry of National Economy issued its supervisory injunction as the supervisory body of tax authorities (requested by the Company before the court procedure), stating that
|-||no legal obligation exists in Hungary to apply the interquartile range to the final set of comparables and albeit there can be cases where it is advisable, it is unnecessary in the present case; and|
|-||the WCA should be used in the case which is a qualitative adjustment as opposed to the interquartile range. On this basis, the tax authority must re-open the case during which the decision of the Ministry of National Economy must be taken into account.|
Such case may affect a number of Hungarian tax resident entities which had a transfer pricing dispute with the NTCA on the basis of mandatory application of the interquartile range.