Saturday, November 12, 2005

Standardising transfer pricing documentation requirements in the EU – the soft law approach

After a two-year activity, the EU Joint Transfer Pricing Forum presented the results of its activity and its conclusions on issues related to transfer pricing documentation requirements in the EU. Following the conclusions and in line with other soft law initiatives, the Commission proposed a new Council recommendation to Member States to implement the conclusions of the Forum and to establish a global standardised EU-wide transfer pricing documentation policy.

In fact, the European Commission “Communication on the work of the EU Joint Transfer Pricing Forum on transfer pricing documentation for associated enterprises in the EU” (COM(2005) 543 final), aims at standardising transfer pricing documentation requirements in the EU and thereby substantially reducing business compliance cost and thus strengthening their global competitiveness.

The word Code of Conduct is becoming a cliché on EU taxation policy. We have the famous Code of Conduct for business taxation that requires politely for Member States to refrain from introducing any new harmful tax measures and amend any laws or practices that are considered harmful. We also have the less famous Code of Conduct for the effective implementation of the EU Arbitration Convention. So basically, we have a conduct code when the EU needs to instruct softly the member states to do something it cannot require harshly to do! As the commission always states, such Codes of Conduct are not a legally binding instrument but they nevertheless have clear political force (although I do not know exactly what that means in the EU context!).

So why is the Commission in the case of Transfer Pricing not proposing a proper instrument of Community law? The memo containing the FAQ includes this same question and it is interesting to see how this political juggle works. According to the Commission, “the Code of Conduct is an approach, which has regard to the sovereignty of Member States in the direct tax area”. In addition such instrument provides Member States the “flexibility as to how to implement it into their domestic law”. In fact, according to the Commission previous examples used in the area of direct taxation lead to substantive results. So if soft-law initiatives give results why go through the slow lane of Directives and regulations with all this unanimity limitations and implementation problems? Harmonization through soft-law is the new word.

Now let-me explain a bit of what is proposed by the Commission through my own FAQ.

What is the EU Joint Transfer Pricing Forum (JTPF)?
The Forum established by the Commission in June 2002 consists of one expert from the tax administrations of each Member State plus 10 experts from business. Representatives from applicant countries and the OECD Secretariat attend as observers.

What are the main achievements of the JTPF in this two-year activity?
The main achievements of the JTPF in its first term of activity were its less famous Code of Conduct for the effective implementation of the Arbitration Convention and on mutual agreement procedures under double tax treaties between Member States. The main achievements of the JTPF in its second term of activity relate to the work on standardising EU transfer pricing documentation requirements. According to the Communication, the JTPF will continue its work and will now focus on issues like alternative dispute avoidance and resolution procedures (including Advance Pricing Agreements and prior consultation); interest and penalties relating to transfer pricing adjustments; interaction of the mutual agreement and arbitration procedure with administrative and judicial appeals; and influence of accounting systems on transfer pricing (consequences and possibilities of more harmonized and integrated accounting systems on transfer pricing).

Why deal with EU transfer pricing documentation requirements?
Simple question - simple answer. The examination of EU rules lead to the conclusion that documentation requirements in the EU have increased and that there are significant differences in documentation requirements between Member States. Such differences can be considered an obstacle to the internal market since the place a higher burden on a company in one Member State that wants to set up and/or conduct business with an affiliated company in another Member State.

So what does the Commission is proposing on this field?
The Commission an EU-wide common approach to transfer pricing documentation requirements. The so-called "EU Transfer Pricing Documentation" (EU TPD) includes the following features (i) standardization of the documentation requirements; (ii) the possibility of centralization at group level of the core part of the documentation ("masterfile"); and (iii) the availability to all EU Member States of common standardized transfer pricing information relevant for all EU affiliates of a multinational enterprise ("country-specific documentation"). The novelty of this approach is that all Member States involved would have access to the same common documentation and information in the masterfile element, whereas the country-specific documentation would generally be available only to the specific Member State concerned.

So now what happens to member states that do not have TP documentation or have lax requirements?
Recalling the good and bad side of a soft law instrument, according to the Commission Member State are still free to decide not to impose transfer pricing documentation requirements or decide to impose less detailed documentation requirements. The only issue is that when they have such requirements in place, such rules should be compatible with the new EU TPD approach.


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