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The laws surrounding transfer pricing are becoming ever more complex, as tax affairs of multinational companies are facing scrutiny from media, regulators and the public
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GLOBAL TRANSFER PRICING GUIDE
Transfer pricing
01 Mar 2021At Kevane Grant Thornton we are fully authorized by Grant Thornton International to provide clients transfer-pricing services independently from other member firms. Transfer pricing refers to the price ascribed to transactions between entities in two different jurisdictions, such as when a parent company in one country sells goods or services to a subsidiary in another country. Understanding that transfer pricing is the No. 1 international tax area of concern to multinationals, tax authorities are reviewing transfer pricing to tackle profit shifts that could be detrimental to the tax revenue of their countries or jurisdictions.
Introduction to transfer pricing in Puerto Rico
Transfer pricing rules
- The Puerto Rico Internal Revenue Code (PR IRC) includes transfer pricing requirements for certain intercompany transactions.
- Puerto Rico law establishes that transfer pricing studies must be performed following the United States transfer pricing rules established in Section 482 of the United States Internal Revenue Code (US IRC) and its related regulations.
- Section 1033.17(a) of the PR IRC establishes a 51% disallowance on the amount of deductions that an entity can claim for income tax purposes of the expenses paid to related entities located outside Puerto Rico or on allocations of expenses made to the Puerto Rico entity. However, such 51% disallowance is not applicable to those entities that perform a transfer pricing study to support the charges from related entities and file such study along with the income tax return.
- This transfer pricing requirement is in effect for taxable years beginning after 31 December 2018.
OECD guidance
- Recent amendments to the PR IRC have disallowed the use of reports prepared under OECD rules. Only reports prepared under United States rules will be acceptable.
Transfer pricing methods
There are three keys types of intercompany transactions: (i) tangible property transfers, (ii) intangible property transfers and (iii) intercompany services. The acceptable methods vary depending on the type of intercompany transaction. Best method rule must be followed under the given circumstances.
The United States regulations offer six methods for establishing an arm’s length standard for transfers of tangible property:
- Comparable Uncontrolled Price Method
- Resale Price Method
- Cost Plus Method
- Comparable Profits Method
- Profit Split Method
- Unspecified Methods
§1.482-4(a) lists the four methods available for the study of the intangible property transfers:
- Comparable Uncontrolled Transaction Method
- Comparable Profits Method
- Profit Split Method
- Unspecified Methods
In the case of controlled services transactions, §1.482-9 lists the seven methods available:
- Services Cost Method
- Comparable Uncontrolled Services Price Method
- Gross Services Margin Method
- Cost of Services Plus Method
- Comparable Profits Method
- Profit Split Method
- Unspecified Methods.
Self-assessment
- Puerto Rico authorities do not require specific transfer pricing documentation other than in the cases stated above. Other entities that engage in transactions with foreign affiliates are expected to follow the arm’s-length principle. Adjustments could be imposed in case of an audit.
Transfer pricing documentation
Preparation of transfer pricing documentation
- The transfer pricing documentation should be prepared/completed contemporaneously and submitted with the company’s Puerto Rico income tax filing for taxpayers who are claiming exemption from the 51% disallowance on intercompany transactions.
- Puerto Rico has not implemented Country by Country Reporting.
Some risk factors for challenge
- Transfer Pricing requirements are very recent and no transfer pricing specific audits have taken place. Regular income tax audits for years have scrutinized intercompany transactions.
Penalties
- No specific penalties have been legislated for failure to comply with the local transfer pricing requirements. However, the consequence would be the disallowance of 51% of intercompany charges if the Puerto Rico Treasury Department challenges the transfer pricing study.
Economic analysis and how to demonstrate an arm’s length result
- Regulations under Section 482 of US IRC stipulate that the best method rule must be used in selecting the appropriate transfer pricing method to perform an economic analysis of intercompany transactions.
- Under the method selected, it will be necessary to perform a search of potential comparable transactions or companies either internally or externally.
- Local, regional and global comparable companies are accepted.
- Once the comparable transactions or companies have been identified, an arm’s length range is determined, normally using an interquartile range of comparable results. If the transactions under study fall within the range they are treated as arm’s length transactions.
Advance Pricing Agreements (APAs), dispute avoidance and resolution
- Puerto Rico law and regulations do not provide for Advance Pricing Agreements.
Exemptions
- An exemption from transfer pricing requirements applies to all entities that enjoy tax exemption under any of the Puerto Rico Tax Incentives Programs.
Related developments
Digital services tax
- Mail order merchants are now considered withholding agents (effective 1 January 2021)
- New concept of Marketplace Facilitator introduced effective 1 January 2021. If Puerto Rico gross sales exceed $100,000 or 200 transactions during the year, merchant must register to collect Puerto Rico sales and use tax.
Also appears under...