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TAX TALKSThis podcast was done in conjunction with Tax Talks on the key principles of Transfer Pricing.
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Having a reasonably arguable position (RAP) for your transfer pricing (TP) position will mitigate penalties and interests in the event this is challenged by the ATO. It doesn’t protect you from the ATO or any other tax authorities disagreeing with your position, however, it will mean that you will have appropriate robust TP documentation to defend the position which is much more likely to lead to a better outcome as opposed to not having a reasonably arguable position.
In this episode, Benedicte Olrik of Andersen Australia will tell you how you can achieve a RAP in three simple steps.
Here is what we learned in this episode about reasonably arguable position but please listen in as Benedicte explains all this much better than we ever could.
What this podcast covers:
TP Reasonably Arguable Position
Whenever you have cross-border transactions between two related parties, you have a transfer pricing issue. If one of the parties is an Australian tax resident, you need to show the ATO that the transfer price you used to value the cross-border transaction is at arm’s length.
You can do this in one of two ways:
1 – Get a Reasonably Arguable Position
Prepare ‘contemporaneous compliant transfer pricing documentation’ in a timely manner. Ideal at the time the transaction occurs or before the company’s income tax return is lodged with the ATO. Even if the ATO disagrees with your transfer pricing position, the reasonably arguable position will protect you from penalties and interests. The compliant transfer pricing documentation will further provide you with solid defence if challenged by the ATO.
2 – You Go For the Crunch
In Australia it is not mandatory to prepare transfer pricing documentation but highly recommended as we are highlighting in this podcast. So let’s say you bank on not getting audited. If the ATO doesn’t audit you, all good. But if the ATO does come knocking, you will be doing it the hard way. Trying to defend your position and getting hit with penalties and interest if the ATO disagree with your transfer pricing position could lead to adjustments to your taxable income for all the income years under scrutiny, on top of significant penalties and interests for not having a reasonably arguable position.
Your choice. But keep in mind that the ATO is heavily focused on transfer pricing.
The ATO Focus
Transfer pricing has the ATO’s attention. When it comes to transfer pricing, the ATO is one of the most advanced and assertive tax authorities in the world.
Australia’s corporate tax rates of 25% or 30% are likely to motivate multinational enterprises (MNEs) to transfer profits out of Australia. And gets the ATO hunting, waving Part IVA as a very effective weapon
Part IVA
What happens if you do nothing? If you ignore all this?
In short – you can face Part IVA – or in more detail: The transfer pricing legislation – Subdiv. 815 (130) ITAA 1997 to be exact – links into Part IVA and s177 CD of the ITAA 1936, which gives the commissioner powers to ‘hypothesise’ a new taxable income if the ATO disagrees with the current situation. For instance, if the ATO believes that the arm’s length price or situation is different from the actual transfer price or the actual conditions, then the ATO will assess that you have obtained a tax benefit – then they can adjust your tax position for the shortage. And add penalties and interests on top, Check the latest ATO guidance update on transfer pricing.
How does the ATO know where to look? They screen for risks.
Risk Screening
The ATO screens your International Dealings Schedule (‘IDS’) and your tax return for certain risk factors. For SGE’s the ATO will include the CbC-reports.
Typical screening risk factors are continuous losses or low performing, charges for intangible property, finance arrangements, and restructuring.
If you hit one of these risk factors, make sure you got a strong RAP.
If your International Related Party Dealings (‘IRPD’) are below the threshold of AUD 2m, you don’t have to prepare an International Dealings Schedule. However, this doesn’t mean you will be risk free as if challenged without a reasonably arguable position you will be exposed in the same manner as every other MNE.
So do you have to prepare an IDS.
International Dealings Schedule
How do you tell the ATO that you have a transfer pricing scenario? You do this through an international dealing schedule (‘IDS’) – For SGEs (Global turnover of AUD 1.2b) this will include the preparation of a Country-by-Country Reports.
Whether you need to prepare an IDS or not, depends on your International Related Party Dealings (‘IRPD’). If those IRPD exceed AUD 2m, you need to prepare an IDS.
Please note that IRPDs include loan balances. If in example your company receives a AUD 2m loan from your parent overseas but otherwise have no dealings with them, you still need to prepare an IDS.
Let’s assume you have to prepare an IDS meaning the ATO can see the type and amounts of your international related-party dealings. This increases your risk of being screened for a further review. Hence you want to get a RAP to be prepared and mitigate penalties and interest.
How to Get a Reasonably Arguable Position
You get a reasonably arguable position in three steps:
- Self-assess your transfer pricing position.
- Check eligibility for Simplified transfer pricing Record Keeping.
- Prepare contemporaneous compliant TP documentation accordingly.
Step # 1 – Self-assess your transfer pricing position.
To self-assess your transfer pricing position – you will need to assess whether your international related party dealings (IRPDs) are following the arm’s length principle. If you are not, it will mean that you will need to adjust the IRPDs accordingly.
We covered how you achieve this in ep 384 of Tax Talks episode or here in our first episode on Tax Talks on Transfer Pricing from 13 April 2023. Details can be found in Subdiv 815-B to 815-E of the Income Tax Assessment Act 1997 and Subdiv 284-E of the Tax Administration Act 1953.
You can either do this alone or with your advisers – please note this step is highly recommended whether you qualify for simplified TP record keeping or not (below).
Step # 2 – Check eligibility for Simplified transfer pricing Record Keeping.
The simplified transfer pricing record keeping can save you a lot of time and money. If you qualify, then you only have to document how you qualify. Sounds like a small variation in semantics but can make a big difference.
To lower the compliance costs and burden for certain low risk areas, the ATO issued simplified transfer price record-keeping guidelines in PCG 2017/2 in 2017. The full title is Practical Compliance Guideline PCG 2017/2 ‘Simplified transfer pricing record-keeping options’.
The aim of this PCG is in the words of the ATO is to “minimise record-keeping and compliance costs”. Accordingly, always worthwhile to check whether any of your IRPDs is eligible for any of the 7 options.
More detail can be found in our Podcast from 24 May 2023 on the topic.
Step # 3 – Prepare contemporaneous compliant TP documentation accordingly.
As said earlier it is highly recommended to prepare documentation. The question is what exactly do you have to document? The answer depends on whether you qualify for simplified record-keeping or not.
If you qualify, you document how you qualify.
If you don’t qualify, then prepare transfer pricing documentation that details the IRPDs (the actual conditions), select an appropriate transfer pricing methodology to be used to find comparable arm’s length conditions that will verify whether the IRPDs are following the arm’s length principle and hence whether a transfer pricing benefit exists, check this podcast on transfer pricing methodology.
This documentation must be “contemporaneous” meaning prepared in a timely manner and documented by being completed annually before the income tax return is lodged with the ATO.
Being contemporaneous is crucial as if done after the income tax return is lodged it will not provide a reasonably arguable position.
