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By Sivakumar Saravan and Sowmya Varadharajan
Revised transfer pricing guidelines are providing clarity to the Singapore tax community on the implementation of the amended transfer pricing legislation.
The changes came about as a result of the Income Tax (Amendment) Act 2017 as well as the gazetted Income Tax (Transfer Pricing Documentation) Rules (the “TPD Rules 2018”). The Inland Revenue Authority of Singapore (“IRAS”) released the fifth revision of the Singapore Transfer Pricing Guidelines on February 23, 2018.
With the amendments to the transfer pricing legislation, the preparation of transfer documentation has become mandatory, and the inability to provide transfer pricing documentation on a timely basis can be considered an offense, for which a penalty will be imposed.
The mandatory transfer pricing documentation rules, as provided under section 34F of the Income Tax Act (“ITA”), are effective from the year of assessment 2019. The year of assessment is the year in which income tax is calculated and charged. Since Singapore has a preceding year basis of taxation, the basis period for any year of assessment is the calendar year preceding that year of assessment.
However, companies are allowed to adopt a different financial year other than a calendar year. For example, if a company has a June financial year-end, the income assessable to tax in the year of assessment 2019 will be the company’s income earned during the basis period from July 1, 2017 to June 30, 2018.
It should be noted that the mandatory transfer pricing documentation requirements do not apply across the board to all companies. Under section 34F of the ITA, it is mandatory for a company to prepare transfer pricing documentation in accordance with the TPD Rules 2018 if either of the following conditions are met:
In other words, in the basis period for the year of assessment 2020, if an entity’s annual gross revenue does not exceed S$10 million (i.e. it does not meet the first condition), but it was required to prepare transfer pricing documentation for the immediate preceding year, the entity would be required to prepare transfer pricing documentation for the year of assessment 2020.
Thus, the second condition ensures that taxpayers who were required to prepare transfer pricing documentation for the previous two basis periods will continue to be required to do so for the subsequent basis period. As explained by the IRAS, this will provide certainty on the taxpayers’ compliance effort.
However, in the event that a taxpayer experiences declining revenue, such that their gross revenue is consistently below S$10 million, they will be exempted from preparing transfer pricing documentation for their related party transactions.
Singapore is possibly the only jurisdiction that has instituted a provision covering the continuity of preparation of transfer pricing documentation. Other tax authorities have typically implemented a transfer pricing regime based on either the revenues or related party transaction values for the year in question.
In addition, the IRAS has adopted the Organisation for Economic Co-operation and Development (“OECD”) Base Erosion Profit Shifting (“BEPS”) Action Plan 13 in terms of the three-tier documentation. While elements of the three-tier documentation have been required since the second edition of the Singapore Transfer Pricing Guidelines, there was no explicit requirement to prepare the Master File.
Further, the information that taxpayers needed to include on the group, which was considered to be a proxy for the Master File, was somewhat limited. This position has now been clarified by the TPD Rules 2018 which require a Master File and Local File to be prepared. Details on what each of these documents should contain is outlined in the TPD Rules 2018.
If a taxpayer is required to prepare transfer pricing documentation under section 34F and the exemption from transfer pricing documentation when gross revenue is consistently below S$10 million is not applicable, the taxpayer needs to perform a secondary check to assess if transfer pricing documentation can be exempted for certain qualifying transactions as detailed in the TPD Rules 2018.
The specified transactions qualifying for exemption from transfer pricing documentation are:
(a) the taxpayer transacts with a related party in Singapore and such local transaction (excluding related party loans) is subject to the same Singapore tax rates for both parties or exempt from Singapore tax for both parties;
(b) domestic loans between Singapore entities that are not in the business of borrowing or lending money;
(c) the taxpayer applies the indicative margin for a related party loan not exceeding S$15 million in accordance with the administrative practice;
(d) the taxpayer applies the cost plus 5 percent mark-up for routine support services;
(e) the related party has entered into an Advance Pricing Arrangement Agreement;
(f) the related party transaction comes within a category of transactions and the total value of the aggregated related party transactions in that category in the basis period (excluding the value or amount of (a) to (e) above) does not exceed the threshold for that category. The threshold for each category of transaction is shown in the table.
In evaluating these thresholds, it is necessary to consider the nature of the transaction, rather than the transacting parties. The exception to this rule is intercompany loans, whereby the loan provided to each borrower by the Singapore lender is evaluated on a standalone basis.
The main reason for this difference is that in determining the transfer price between a lender and a borrower, most lenders will take into account the specific characteristics of the borrower (e.g., their creditworthiness, the nature of loan, etc.)
On the other hand, with respect to the sale of goods or the provision of a service, the individual characteristics of the payee are generally immaterial to the manner in which the transfer price is determined.
Since the second edition of the Transfer Pricing Guidelines, the IRAS has noted that transfer pricing documentation should be prepared annually, with the transfer prices being tested on an annual basis against the arm’s length result. However, at the same time, the IRAS noted that the frequency of updates could be every three years.
As such wording caused some confusion for taxpayers, the IRAS has clarified in the fifth edition, through examples, that it will adopt the guidance provided in the OECD Transfer Pricing Guidelines (2017), which is as follows:
In other words, taxpayers are required to prepare a transfer pricing documentation report that may leverage significantly on a prior year report, to support the arm’s length nature of their transactions. The financial data of the Singapore taxpayer as well as of the comparable companies needs to be updated to enable the taxpayer to annually test their transactions.
Keeping in mind the compliance burden associated with preparing annual transfer pricing documentation, the IRAS has provided an additional concession through the introduction of the Qualifying Past TP Documentation.
In the event that the type of transaction, the functional analyses, and operating conditions are not likely to change significantly from year to year, it is possible for a taxpayer to declare that its past documentation should be treated as Qualifying Past TP Documentation for the current year, and provide support on the arm’s length nature of the related party transactions.
The key advantage of relying on transfer pricing documentation as Qualifying Past TP Documentation is that the taxpayer is only required to prepare a declaration as to the fact that their transfer pricing documentation meets the conditions stated by the IRAS to be a Qualifying Past TP Documentation. In addition, there is no requirement to update the financial data of the previously selected comparable companies.
Under section 34F(8) of the ITA, failure to prepare the required transfer pricing documentation constitutes an offense and the taxpayer is liable to a penalty of up to S$10,000 per offense.
Specifically, a taxpayer can be liable to the fine for the following non-compliance:
In addition to the penalty for failure to prepare or submit transfer pricing documentation on time, the IRAS has also introduced a transfer pricing surcharge, which will be computed as 5 percent of the adjustment, regardless of whether tax is payable on the adjustments.
Although the requirements of preparing and updating the transfer pricing documentation remain consistent with prior revisions to the Transfer Pricing Guidelines, the introduction of a specific penalty and surcharge raises the cost of non-compliance.
The new transfer pricing documentation rules and exemptions are complex. Taxpayers are required to review the nature of their transactions to determine if they are required to prepare transfer pricing documentation in light of the changes. In addition, taxpayers have to accurately evaluate the conditions for the Qualifying Past TP Documentation, which are stringent. The onus ultimately lies on taxpayers to demonstrate the applicability of the exemption to their circumstances. An incorrect assessment may result in a significant penalty.
In addition, under the TPD Rules 2018, contemporaneous documentation is defined primarily as documentation and information relied on by taxpayers to determine the transfer price at the time of entering into the transactions. The IRAS is, however, willing to accept transfer pricing documentation as contemporaneous when it has been prepared no later than the time of filing the tax return. Given that contemporaneous transfer pricing documentation is not based on hindsight, it is necessary that taxpayers review their transfer prices to ensure compliance with the arm’s length standard before their 2018 financial year end.
Despite the fact that a taxpayer may be exempted from preparing transfer pricing documentation, it should be noted that the IRAS may still ask for support on the arm’s length nature of related party transactions. Therefore, these taxpayers must continually assess the adequacy of their documentation to support that all related party transactions are at arm’s length.
Additional transfer pricing analyses (e.g., intercompany agreement, third party references, internal memos on how transfer prices were determined) may be required to demonstrate the arm’s length nature of these transactions.
Sivakumar Saravan is a senior partner and head of tax and Sowmya Varadharajan is a director for transfer pricing services, at Crowe Singapore.
The authors may be contacted at: firstname.lastname@example.org; email@example.com
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