Grant Thornton Netherlands: Navigate the new landscape of transfer pricing - Charles Marais
As the conclusions of the OECD's BEPS Action Plan begin to be implemented by world governments, multinationals are increasingly searching for transfer pricing solutions that transparently portray the full value chain of their operations across multiple countries. Head of transfer pricing at Grant Thornton Netherlands Charles Marais talks about how his company's practical and methodical approach to compliance can help firms not only tackle individual cases but also stabilise their tax documentation procedures in the long run.
"We are not accusing you of being illegal; we are accusing you of being immoral," said the UK Public Accounts Committee chairman Margaret Hodge on 12 November 2012, during a public hearing of multinationals (Amazon, Google and Starbucks) about their avoidance of paying taxes on UK profits. After the explosive media attention around the public hearing, tax avoidance of multinationals became an even more hot topic for governments around the world. With the support of the G20, the Organisation for Economic Co-operation and Development (OECD) launched the Base Erosion Profit Shifting Project (BEPS) in mid-2013 with the goal to design a policy framework to eliminate tax evasion schemes of multinationals around the globe. The OECD welcomed all governments and jurisdictions, including developing countries, to participate in the BEPS project.
In October 2015, the OECD published 15 deliverables to help governments address tax avoidance. The 15 deliverables emphasise coherence, transparency and addresses that business profits should be taxed where economic-activities-generated profits are performed and where value is created.
Transfer pricing deals with the intercompany transactions of multinational enterprises (MNE) and understanding transfer pricing is very important for doing business, especially if you take into account that more than 60% of the world trade takes place within MNEs. Transfer pricing regulations were first applied in 1872 by the first MNEs in the US. Today, most countries in the world have signed bilateral tax treaties agreeing that profits generated by intercompany transactions within MNEs must be determined in accordance with transfer pricing regulations, which are based on the arm's length principle (ALP). The at-arm's-length price is the price of a transaction that would have taken place between two independent companies under comparable economic circumstances. The OECD and the United Nations have published guidelines on the application and interpretation of the ALP. The main reason for the worldwide acceptance of the ALP is that it puts related and independent enterprises on an equal footing for tax purposes and to prevent double (non)taxation of cross-border intercompany transactions within MNEs.
However, due to the different approaches of transfer pricing in different countries, the lack of coherence and transparency, mismatches occurred within MNEs. These issues prompted the BEPS project and the media attention.
Call to action
From a transfer pricing perspective, the most important elements of the action plan were the focus on the alignment of transfer pricing outcomes with value creation, including the possibility for tax authorities to address (recharacterise) profit allocations from transactions within MNEs that are not viewed as being 'commercially rational'.
Furthermore, in order to enhance the global interpretation of transfer pricing and improve transparency, the action plan recommended that OECD member states pass rules that would compel companies to prepare a three-tiered transfer pricing documentation. This approach consists of a master file containing "standardised information relevant for all MNE group members... a local file referring specifically to material transactions of the local taxpayer and... a country-by-country report containing an overview of the transfer pricing policy of the entire MNE." Thus, the need for businesses to control their own tax position has never been greater.
"The most important consequence is that companies need to have a very good understanding of their business and what creates value within it," says Charles Marais, head of transfer pricing at assurance, taks and advisory firm Grant Thornton in the Netherlands. "In the past, transfer price documentation was prepared in a much more coordinated manner. It was done as needed in different jurisdictions but usually from a one-sided approach, looking only at what profits should be earned in one country and not the overall business. There wasn't always a match between information that was shared with one jurisdiction over another. Now, the real challenge lies in seeing the bigger picture and being able to describe it in a consistent manner to all concerned parties."
Marais began his career in transfer pricing in Dallas, Texas. Having obtained his degree in finance at Texas Christian University and subsequently becoming a CFA charterholder, he was approached by a friend who worked in the sector. Once they got to talking about the international aspect of the discipline, Marais was hooked. After joining one of the big four in 2004, he was transferred to the firm's office in Mexico City. "I worked in Mexico for five years as a manager in the transfer pricing practice," he recalls. "That gave me another viewpoint on the subject, because now I understood the US and the Mexican views on transfer pricing, and saw how it all flowed together. Obviously, different countries have different interpretations on the issue and it's only when you start to learn the nuances that brings that you can begin to learn how to move within the global system."
Since 2012, Marais has been a transfer pricing specialist in the Netherlands, and at the beginning of this year joined Grant Thornton Netherlands. Between Mexico City and Amsterdam, the national debates that have raged over the amount of tax multinationals should rightfully pay has shifted the focus of transfer pricing regulation away from straightforward legal compliance with the rules towards new standards that take into account a company's value-creating activities (substance) in the country in which it operates. Maintaining a sound reputation as a business that meaningfully contributes to the public good has become an integral part of international tax policy. That means a careful balance of priorities has to be reached by Grant Thornton's clients. "Companies focus on generating long-term value for their shareholders and maximising cash flow plays an important role within that," says Marais.
"Tax constitutes an important cash outflow for any business and, therefore, a company has to manage its tax positions carefully. You don't want to incur too high a tax burden but a fair share, where profits are aligned with value-creating activities, nonetheless has to be paid in the jurisdictions the company is operating within."
Finding an appropriate balance between the two can be difficult. "I think a lot of the concern felt by companies is the necessity of avoiding double taxation," says Marais. "That becomes a permanent cost of doing business; ultimately, you want to operate freely within one country or another, but not get taxed out."
Yet, this can be achieved, he believes, if companies maintain consistent transfer pricing positions over the multiple jurisdictions in which they operate based on sound economic principles. "If you don't do that, it becomes very difficult to defend the transfer pricing position you are taking and to control the narrative," says Marais. "If you are inconsistent in your approach, the toolkit now available for tax authorities to attack that position has been significantly expanded."
In that respect, Grant Thornton in the Netherlands understands that there cannot be a one-size-fits-all approach to each company that seeks assistance over their transfer pricing documentation. "We try to take a very practical approach," says Marais. "Our idea in compiling the necessary transfer pricing documentation is not simply to give our clients a piece of advice and leave them to it, but rather to aim for working together. We believe that's what most companies are looking for, especially since many do not have the necessary resources or expertise to comply with the new rules yet."
This involves a systematic analysis of all the areas and regions in which the company is exposed, and begins with an inventory of all relevant data within the client's files, including documentation on tax rulings, inter-company arrangements and information that is shared with investors. From there, Marais and his team endeavour to assess the greatest levels of exposure that take into account areas that are not supported by existing transfer pricing documentation and the company's overall attitude towards risk. New transfer pricing documentation is then formulated for the most important tax positions. Such an approach grants the client the ability to adapt quickly to changing circumstances, as well as a more efficient deployment of resources according to international tax regulations.
"It's a continuous cycle of improvement," says Marais. "Every time you go through a company's transactions in this respect, you always find new things. The analysis we provide sometimes even allows the client to see their business in a new light."
One such example was a hospitality firm based in the Netherlands. Grant Thornton Netherlands conducted functional interviews with senior management across the company to ascertain where its most significant value-creating and risk management activities were concentrated across the world and how efficient that deployment was. "We discovered that the company had an issue with the substance of their presence in one country in particular," recalls Marais. "A lot of their profits were being allocated to this jurisdiction due to its ownership of intangible property but there were not enough employees with sufficiently important functions working there to ultimately justify and support this position. We believed that there was a significant level of transfer pricing risk exposure and advised our client to implement certain changes if they wished to continue allocating residual profits to that country."
Grant Thornton Netherlands assessed the value chain that linked the firm to its operations in the country and recommended that certain functions of particular importance to the intangible property needed to be performed there. In the end, the client agreed to transfer these functions accordingly. "Obviously, we will be closely monitoring the situation and assist our client where needed on the implementation of these steps," adds Marais. "That'll be the next step but, as I said, it's a process that requires continuous evaluation and improvement."
Marais and his colleagues are hopeful that new rules will not place new impediments on the way companies of all sizes form their transfer pricing arrangements. "Ultimately, I think that one of the most important things for them to remember is that, if you want to have a sustainable transfer pricing position, it needs to be based on sound economic principles," he concludes.