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Managing Directors George Condoleon, Michelle Johnson and Stefanie Perrella, Director Leda Zhuang, and Vice Presidents Michael Berbari and Zachary Held from Duff & Phelps' Global Transfer Pricing practice, provide U.S. and Australian perspectives on how these countries currently address the issue of related party loans or related party guarantee situations.
In the March 2018 issue of Bloomberg BNA's Transfer Pricing Forum, the topic of financial transactions (loans) included commentary on the following:
- Does your country specify permissible methods for evaluating an arm’s length interest rate on related party loans? What methods does it specify – or which does it permit if it does not specify methods – (e.g., CUP, reference to interest indices, or percentage mark-ups over a base such as the national bank interest rate)? Do local tax inspectors tend to apply particular methods over others? What methods have you found to be effective, or do you see most often used for financial transactions, and what evidence do taxpayers or the government’s examiners use to establish the rate under those methods?
- Does the country officially (or do tax inspectors in practice) express a preference for valuation methods or approaches that are different for outbound transactions (domestic lender/foreign borrower) than for inbound ones?
- Assume a typical related-party borrowing situation in your country: a foreign member of a multinational group has lent money to a domestic affiliate. It must be established whether the borrowing is on an appropriate arm’s length basis. How are these issues dealt with in your country?
- In light of BEPS Action 2 (Hybrid Mismatch Arrangements), a number of countries during the last year have been enhancing, modifying, or adopting rules that affect transfer pricing of financial transactions. If changes have recently been made to your country’s rules, what changes are those, and when do they take effect?
- How do your country’s rules for attribution of income to a permanent establishment work with the rules on debt financing? In particular does the ‘‘distinct and separate enterprise’’ view of a PE’s income calculation permit (or require) separate entity evaluation of the PE?
- If a foreign affiliate provides an explicit loan guarantee, when do your country’s rules or your country’s practice indicate that a guarantee fee must be accounted for? (If it must, when can it be an adjustment to the interest rate, or when must a separate guarantee fee be deemed to be paid to the foreign affiliate?) How is the appropriate charge for a guarantee determined?
- If your country has adopted interest deduction limits, such as the OECD’s suggested ratio or group ratio approach, what are those measures? Do you expect that those measures will reduce the need for strict enforcement of transfer pricing in regard to related-party loans, by making it less tax-efficient to erode the domestic tax base through interest charges? Do thin capitalization or other specific limits such as debt vs. equity rules limit the operation of transfer pricing more generally? If so, how do these affect decisions that companies might make?