DFK International - European Members ‘ Meeting Istanbul , 22 January 2009

1. RecentDevelopmentsin EuropeanTransfer PricingRegina Zwahlen-Gyarmathy Dr. jur., LLM, Gyarmathy&Partners, Hungary DFK International - European Members‘ MeetingIstanbul, 22 January 2009

2. DEVELOPMENTS WITHIN THE EU Aim of the of the efforts of the EU in the field of transfer pricing: To reduce tax obstacles to cross-border economic activities in the internal market and to harmonize transfer pricing practices of MS. Three kinds of transfer pricing systems in Member States: Direct implementation of the OECD Transfer Pricing Guidelines, e.g. Holland, Austria, Hungary Comprehensive transfer pricing legislation, deviation from OECD rules, e.g. Germany, the UK, Denmark No transfer pricing legislation, e.g. Ireland, Malta

3. DEVELOPMENTS WITHIN THE EU EU Joint Transfer Pricing Forum - specialized group of experts established in June 2002 Aim to produce pragmatic, non-legislative solutions („Communication of the Commission”) within the framework of the OECD Transfer Pricing Guidelines to the practical problems posed by transfer pricing practices in the EU Members tax administrations of each Member State , experts from business

4. Resultsofthe Joint Transfer Pricing Forum Code of Conduct for the effective implementation of the "Arbitration Convention" the rules of international arbitration in the case of EU transfer pricing disputes (2004) Code of Conduct on transfer pricing documentation for associated enterprises in the EU a proposal for EU transfer pricing documentation (2006) Guidelines for Advance Pricing Agreements a proposal for the proceedings for Advance Pricing Agreements (2007)

5. CurrentIssuebeforethe Joint Transfer Pricing Forum Centralised inter-company services the Forum is now addressing the various transfer pricing issues concerning inter-company services (2008)

6. 1. Code of Conductforthe Arbitration Convention Arbitration Convention Entered into with the aim to eliminate double taxation in cases where the tax authorities adjust the taxable income of associated enterprises. Example: A multinational enterprise has subsidiaries in country A and B. The company in country A sells goods to B for 100€. The tax authorities in A are of theopinionthatthecorrecttransferpricewouldbe 120€. Theythereforeincreasethe tax base of A by 20€. (primaryadjustment) Thetaxpayermustnowconvincethe tax administration of B to reducethe tax base of B by 20€. (correspondingadjustment), otherwise: double taxation. If no agreementisreached, taxpayercaninitiatearbitrationproceedingsundertheArbitration Convention.

7. Code of Conductforthe Arbitration Convention Arbitration Convention The modern form of the arbitration clauses contained in double tax treaties - Art. 25 of the OECD model convention. Only applies to transfer pricing cases. Multilateral treaty, does not constitute EU legislation. Code of Conduct Detailed rules of proceedings to make the arbitration procedure more efficient and transparent.

8. 2. Code of Conductfor EUTransfer PricingDocumentation Problem Different documentation requirements in Member States caused onerous administrative obligations for multinational enterprises. Masterfile concept to be adopted by Member States: Masterfile: common standardized information relevant for all EU group members of a multinational enterprise such as a general description of the business and business strategy, a general description of the transactions involving associated enterprises in the EU and the enterprise's transfer pricing policy. Country-specific documentation: a set standardized documentation for each of the specific Member State involved. Contains information relevant to that country only such as amounts of transaction flows within that country, contractual termsand the particular transfer pricing methods used. 

9. 3. GuidelinesforAdvancePricing Agreements (APAs) withinthe EU Definition APAs are agreements between the tax administrations of EU Member Statesconcerned defining how future transactions between related taxpayers established intwo or more Member States will be taxed. Form unilateral, bilateral, multilateral

10. GuidelinesforAdvancePricing Agreements (APAs) withinthe EU Concept APAs result in more consistency in transfer pricing practices within the EU. Arbitration Convention: should help to eliminate transfer pricing double taxation in the EU within a time frame of not more than three years.The aim of APAs is the avoidance of such disputes between tax administrations in the first place. Prevention of transfer pricing disputes and associated double taxation by laying down how an efficient APA process should work. Based on best practices identified in the EU.

11. GuidelinesforAdvancePricing Agreements (APAs) withinthe EU APA process in four distinct stages: (a) Pre-filing stage/Informal application (b) Formal application (c) Evaluation and negotiation of the APA (d) Formal agreement The APA process should be completed in 18 months. More complex cases may take longer.

12. EU Statistics on APAs of Member States

13. CentralisedIntra-group Services A large number of procedures launched under the European Arbitration Convention are based on transfer pricing disputes concerning intra-group services. Common centralisedservices: Management services Support servicesand administrative functions Research anddevelopment

14. IssueswithIntra-group Services The main issues that generally arise are Classification of re-chargeable costs - differentiation from shareholder expenses, stewardship expenses Sanity check: who has an economic interest in the service? Direct charge vs. indirect charge Transfer pricing method to be used Allocation keys for sharing costs between associated enterprises Supporting evidence and documentation

15. Procedure of AnalyzingIntra-group Services I. Identification of all central costs II. Deduction of shareholder/stewardship expenses III. Determination of allocations key(s) IV. Determination of the mark-up V. Supporting documentation VI. Other

16. Allocation of Intra-group Services Allocation to group members based on “benefit test”: costs need to be real and inherent to the professional activity of the party that incurred the cost. Definition of „benefit” pursuant to OECD Guidelines (§7.6): economic value to enhance the commercial position of the group member. No allocation should occurif the probable benefit to the related member is so indirect or remote that unrelated parties would not have paid for the same services. Open-market concept of the “willingness to pay” lacks pragmatism.

17. Deduction of Shareholder Expenses OECD Guidelines (§7.10): three examples of shareholder activities: Activities relating to the juridical structure of the parent company, such as shareholder meetings, issuing shares of parent company stock, and activities of the supervisory board. Activities relating to fulfilling reporting requirements of the parent. Raising funds for the acquisition of the parent’s participations. The OECD Guidelinesoffer little guidance in defining“stewardship activity.” This may be distinguishable as a broader term than “shareholder activity”.

18. Determination of Allocation Keys Sales are easy to manage as allocation keys, yet there are deeply refined approaches with a multiple of allocation keys. Other keys: headcount, assets, number of transactions, invoices processed, regulatory filings handled, number of user IDs. These would cover many service centre type functions in HR, accounting, legal and suchlike departments. A question may be raised on the level of sophistication of allocation keys used.

19. Determination of the Mark-up Concerning the mark-up there are no specific rules in any EU countries. As a matter of principle, the “added value” needs to be assessed so as to determine a fair mark-up. “Safeharbours” are rejected. In practice though, some 3-10% appears to be an acceptable margin for typical HQ services;  OECD Guidelines allow for charge at cost. Non-OECD countries outside the EU do not necessarily agree with a range of 3-10%. Rule of thumb : some countries tend to put forward a lower mark-up on inbound charges versus outbound charges.

20. DEVELOPMENTS WITHIN THE OECD Aim: To update the OECD Transfer Pricing Guidelines (dated: 1979, revised: 1995) and their official interpretation to reflect the current trends of world economy such as globalization and the standardization of the operational forms of businesses. Main issues: The frequent practical use of profit based transfer pricing methods such as the TNM and the Profit Split Method along with commercial databases. Concept of old OECD Guidelines: „methods of last resort.” Issue notes on comparability and transactional profit methods (2006-2008) – proposes amendments to the OECD Guidelines!

21. DEVELOPMENTS WITHIN THE OECD Profits attributed to permanent establishments Hypothesis of PE in transfer pricing: „distinct and separate enterprise”. Focus on: banks, global trading, insurances. Report on the attribution of profits to permanent establishments (2008)

22. DEVELOPMENTS WITHIN THE OECD The global mobility of businesses involving international restructurings Issue notes on transfer pricing aspects of business restructurings (2008-2009)

23. Proposed Amendments to the OECD Guidelines OECD Guidelines give preference to „traditional transaction methods”: Comparable Uncontrolled Price Method (CUP) Cost Plus Method (CPM) Resale Price Method (RPM)

24. Proposed Amendments to the OECD Guidelines Transactional profit methods are Profit Split Method (PSM) Transactional Net Margin Method (TNMM) Transactional profit methods examine the profits that arise from transactions, to be used only exceptionally as methods of last resort.

25. Proposed Amendments to the OECD Guidelines Notion of the “most appropriate method” in proposed amendments to the OECD Guidelines: „...the selection of a transfer pricing method always aims at finding the most appropriate method for a particular case...” (new § 3.49) If two methods „can be applied in an equally reliable manner” the traditional transaction method is preferable to the transactional profit method , the comparable uncontrolled price method (CUP) is preferred to another transfer pricing method.(new § 3.49)

26. OECD Issue Notes on Comparability Identifying comparable transactions in 10 steps Step 1: Broad based analysis (e.g. industry analysis, etc). Step 2 : Determination of years to be covered. Step 3 : Review of the controlled transaction(s) (e.g. functional analysis, etc.). Step 4 : Review of existing internal comparables if any. Step 5: Determination if external comparables are available. Step 6: Choice of the relevant transfer pricing method(s). Step 7: Identification and analysis of comparables. Step 8: Making comparability adjustments if necessary. Step 9: Interpretation of data collected, determination of the arm’s length remuneration. Step 10: Review processes for material changes and documentation.

27. CASE STUDY GREAT TRUCK PARTS Ltd. A transferpricingcasestudy based on a real case

28. CASE STUDY Solution: Paragraph 1.12 of the Guidelines “…transfer pricing is not an exact science but does require the exercise of judgement on the part of both the tax administration and taxpayer.” Severalpossiblesolutionsarethinkable!

29. Any Questions? Regina Zwahlen-Gyarmathy Dr. jur., LLM Tel: (36-1) 349-2954 regina.gyarmathy@gyarmathy.hu Gyarmathy&Partners , Hungary H-1136 Budapest, Tátra u. 12./B. www.gyarmathy.hu