A common question for transfer pricing advisors from their clients is: “How do I create compliant transfer pricing documentation?”. The answer to this question is dependent on many facts. For example, the jurisdiction that is or jurisdictions that are applicable. Some countries may have more requirements than other countries. Some countries require to have the documentation available and other countries might require to actively submit documentation to the tax authorities. Some countries accept documentation in English and others only in the local language. Even the moments during the year when documentation needs to be available can differ from country to country.
To give a basic overview of the various types of documentation the below provided guidance can serve as a good start to answer the question stated above. The guidance is ordered from documentation required in the most basic circumstances (for example a single intercompany transaction) to documentation required in more complex situations (for example a whole range of different intercompany transactions between many different group companies).
Transfer pricing documentation can be grouped into four basic categories, from simple to more complex:
- Benchmarking documentation
- Local file documentation
- Master file documentation
- Country-by-country reporting documentation
Requirements can differ per jurisdiction but in general (and as guidance provided by the OECD) the breakdown is the following:
1. Benchmarking documentation
Benchmarking documentation is also known as economic analysis and is used to support the at arm’s length nature of the pricing of the intercompany transaction(s).
The benchmarking documentation contains an analysis of the intercompany transaction and the financial results of similar transactions between unrelated parties (in some cases it could also be related parties). This is usually used for transactions of a smaller nature or where the local legal requirements do not require a full local file but do require to support that an intercompany transaction takes place under arm’s length conditions. The documentation usually consists of a write-up combined with an Excel sheet detailing a search strategy to find comparable information, a sheet detailing the accepted and rejected results, and a summary with the accepted results including financial information and a summary of a range (for example an inter-quartile range of comparable results).
2. Local file documentation
Local file documentation contains the details for an entity or entities in one jurisdiction. This type of documentation includes more than just the benchmarking information. The documentation in some cases needs to be filed directly to the competent Tax Authorities. The requirements for the content of this documentation can differ (slightly) per jurisdiction but as per the OECD guidance, the details can include:
- A description of the management structure of the local entity, a local organisation chart, and a description of the individuals to whom local management reports and the country(ies) in which such individuals maintain their principal offices.
- A detailed description of the business and business strategy pursued by the local entity including an indication whether the local entity has been involved in or affected by business restructurings or intangibles transfers in the present or immediately past year and an explanation of those aspects of such transactions affecting the local entity.
- Key competitors.
For each material category of controlled transactions in which the entity is involved, provide the following information:
- A description of the material-controlled transactions (e.g., procurement of manufacturing services, purchase of goods, provision of services, loans, financial and performance guarantees, licenses of intangibles, etc.) and the context in which such transactions take place.
- The amount of intra-group payments and receipts for each category of controlled transactions involving the local entity (i.e., payments and receipts for products, services, royalties, interest, etc.) broken down by tax jurisdiction of the foreign payor or recipient.
- An identification of associated enterprises involved in each category of controlled transactions, and the relationship amongst them.
- Copies of all material intercompany agreements concluded by the local entity (you can read more information on the relevance of intercompany agreements in our blog).
- A detailed comparability and functional analysis of the taxpayer and relevant associated enterprises with respect to each documented category of controlled transactions, including any changes compared to prior years.
- An indication of the most appropriate transfer pricing method regarding the category of transaction and the reasons for selecting that method.
- An indication of which associated enterprise is selected as the tested party, if applicable, and an explanation of the reasons for this selection.
- A summary of the important assumptions made in applying the transfer pricing methodology.
- If relevant, an explanation of the reasons for performing a multi-year analysis.
- A list and description of selected comparable uncontrolled transactions (internal or external), if any, and information on relevant financial indicators for independent enterprises relied on in the transfer pricing analysis, including a description of the comparable search methodology and the source of such information.
- A description of any comparability adjustments performed, and an indication of whether adjustments have been made to the results of the tested party, the comparable uncontrolled transactions, or both.
- A description of the reasons for concluding that relevant transactions were priced on an arm’s length basis based on the application of the selected transfer pricing method.
- A summary of financial information used in applying the transfer pricing methodology.
- A copy of existing unilateral and bilateral/multilateral APAs and other tax rulings to which the local tax jurisdiction is not a party, and which are related to controlled transactions described above.
- Annual local entity financial accounts for the fiscal year concerned. If audited statements exist, they should be supplied and if not, existing unaudited statements should be supplied.
- Information and allocation schedules showing how the financial data used in applying the transfer pricing method may be tied to the annual financial statements.
- Summary schedules of relevant financial data for comparables used in the analysis and the sources from which that data was obtained.
3. Master file documentation
A master file contains information on the group as a whole as opposed to where a local file provide information about one or more local entities for a specific jurisdiction. The Master file has a more generic and high level nature of the information whereas a local file is a lot more detailed, for example in the specific details of an intercompany transaction. Below is an overview of topics that in general are to be covered in a master file.
Master file documentation in general contains:
- Chart illustrating the MNE’s legal and ownership structure and geographical location of operating entities.
- Description of MNE’s business(es).
- General written description of the MNE’s business including:
- Important drivers of business profit;
- A description of the supply chain for the group’s five largest products and/or service offerings by turnover plus any other products and/or services amounting to more than 5 percent of group turnover. The required description could take the form of a chart or a diagram;
- A list and a brief description of important service arrangements between members of the MNE group, other than research and development (R&D) services, including a description of the capabilities of the principal locations providing important services and transfer pricing policies for allocating services costs and determining prices to be paid for intra-group services;
- A description of the main geographic markets for the group’s products and services that are referred to in the second bullet point above;
- A brief written functional analysis describing the principal contributions to value creation by individual entities within the group, i.e., key functions performed, important risks assumed, and important assets used;
- A description of important business restructuring transactions, acquisitions and divestitures occurring during the fiscal year.
- A general description of the MNE’s overall strategy for the development, ownership, and exploitation of intangibles, including the location of principal R&D facilities and location of R&D management.
- A list of intangibles or groups of intangibles of the MNE group that are important for transfer pricing purposes and which entities legally own them.
- A list of important agreements among identified associated enterprises related to intangibles, including cost contribution arrangements, principal research service agreements and license agreements.
- A general description of the group’s transfer pricing policies related to R&D and intangibles.
- A general description of any important transfers of interests in intangibles among associated enterprises during the fiscal year concerned, including the entities, countries, and compensation involved.
MNE’s intercompany financial activities
- A general description of how the group is financed, including important financing arrangements with unrelated lenders.
- The identification of any members of the MNE group that provide a central financing function for the group, including the country under whose laws the entity is organised and the place of effective management of such entities.
- A general description of the MNE’s general transfer pricing policies related to financing arrangements between associated enterprises.
MNE’s financial and tax positions
- The MNE’s annual consolidated financial statement for the fiscal year concerned if otherwise prepared for financial reporting, regulatory, internal management, tax, or other purposes.
- A list and a brief description of the MNE group’s existing unilateral advance pricing agreements (APAs) and other tax rulings relating to the allocation of income among countries.
4. Country-by-Country Reporting
The Country-by-Country Report documentation is also known as CbCR. This documentation is usually reserved for multinationals with a significant annual turnover (for example EUR 750 million). The taxpayer can choose in which country where it has activity to file the documentation. This documentation is than shared with other tax authorities insofar there is an agreement to exchange this information. It could be that there is the requirement to file this information to multiple countries in case there is no treaty to exchange the CbCR.
This type of documentation (in most cases) needs to be submitted through electronic portals that can require the use of specific login tools, encryption of content, and submission in a specific XML format. The requirements can significantly differ per country.
In a separate blog CbCR is discussed in more detail to do justice to the complexity.
Sounds complicated? TPGenie software has features to assist you in creating all the above materials in a few easy steps. For local entities, tax advisors and for MNEs we have tools and products to help you to create transfer pricing documentation!