Top Transfer Pricing Considerations for Manufacturers (article)
The quest for cost efficiency in the production process has pushed many businesses into offshoring part or all of their manufacturing activities into lower-cost jurisdictions. Operating abroad comes with a host of considerations, from navigating local culture to complying with local laws and managing international tax reporting requirements. In these conversations, transfer pricing laws are becoming more and more important.
Transferring goods, services, intangible assets and capital among related entities requires the same pricing that would have resulted from an “arm’s length” transaction with an unrelated entity. Transfer pricing rules vary by country and are evolving quickly as countries worldwide attempt to limit base erosion and profit shifting (i.e., the practice of companies splitting up their operations in an effort to reduce their tax bill in their home country). International activity around financial transparency makes transfer pricing compliance a challenge because of the speed with which the laws and requirements in various countries are changing. If your company has international operations, it should consider the implications of the following as part of its tax-reporting strategy.
Managing the BEPS Project
A few years ago, a collective of 36 member countries in the intergovernmental Organisation for Economic Co-operation and Development (OECD) released anti-profit shifting recommendations – collectively the Base Erosion and Profit Shifting (BEPS) project. Through its BEPS actions, the OECD is trying to build global consensus around enhanced transparency and proper alignment of profit outcomes with economic substance as it relates to related party transactions.
Many countries have implemented BEPS actions into their local country transfer pricing laws, which increases the burden on taxpayers to demonstrate compliance with the arm’s length standard. For example, the Australian Tax Office recently released a draft of guidelines that will affect multinational groups with Australian subsidiaries and inboard distributors. For a sampling of how many local countries are adjusting their transfer pricing policies and the types of changes they are making, see our latest quarterly transfer pricing update.
BEPS-related changes are also expected to increase the amount of transfer pricing audit inquiries and controversies. The IRS Large Business and International (LB&I) Division has included Related Party Transactions in its core compliance initiatives. It will conduct issue-based examinations and compliance campaigns with a particular focus on related party transactions in the mid-market segment. International jurisdictions may be similarly focused on intra-entity activities.
If selected for an exam, manufacturers might be required to produce a transfer pricing study. Manufacturers that do not have the necessary documentation in place may find complying with the transfer pricing study request both extremely time-consuming and costly.
Juggling Compliance and Law Changes
The changes to local country policies coupled with the increasing risk of enforcement actions may be outpacing the capacity of your internal tax department. Companies operating in multiple jurisdictions may need to outsource some of the transfer pricing related work to ensure that transfer pricing policies are up-to-date and that the company is maintaining the necessary transfer pricing documentation to support arm’s length transactions and pricing.
For an example of how one manufacturer benefitted from outsourcing its transfer pricing activities, see our case study: Transfer Pricing Studies Alleviate Manufacturer’s Compliance Burden.
Your Team – For More Information
For more information on transfer pricing, don’t hesitate to reach out to the authors, Ava Colocho and Josh Finfrock, or your local CBIZ MHM tax professional.