Transfer Pricing Implications Of COVID-19
Posted by Clark Chandler on April 27, 2020
The COVID-19 virus has transformed the world economy. Just pick a statistic, any statistic—unemployment, GDP, volume of international trade, government spending, etc.—and this becomes glaringly obvious. There’s no doubt the pandemic will have a large impact upon tax and transfer pricing.
Multinational businesses must consider the business impact of COVID-19. What effect will the current circumstances have on the transfer pricing landscape and your business? And what transfer pricing-related issues should your company be thinking about now that will put it in the best position moving forward?
First and foremost, consider the steps your company is taking from a business perspective to react to the crisis and what you can do to support that effort. Does it need to preserve cash and/or get cash to specific legal entities? (If, for example, sales are plummeting, customers cannot pay outstanding ARs, or there isn’t enough cash to pay intercompany AR in a timely fashion.) Are there disruptions to the supply chain that have to be addressed, or large one-off transactions that need to be priced? This is clearly the most immediate need, and the specific issues will be highly dependent upon your specific company.
Next on the priority list is to determine whether your existing intercompany business arrangements can tolerate the known short-term effects of the economic shutdown. What are likely losses over the March to May/June period, and what will this do to your various intercompany arrangements? I suspect the answer for most companies is that yes, existing intercompany arrangements can tolerate this pain, but possibly with adjustments. The bad debt that results from the sudden failure of large customers to pay may have to be treated as an extraordinary expense; some intercompany ARs may have to be converted to loans; and some affiliates may need substantial cash infusions that run afoul of local debt equity rules. How will any government assistance received by your company (support for employee wages, other direct support, loans) be addressed? While the exact details may not be known until the end of the year, the direction and overall magnitude of these issues can and probably should be modeled over the summer.
Next come the longer-term issues which will, as a practical matter, almost certainly involve looking into a very cloudy crystal ball. Will the recession/depression last six months, a year, or two years or more? Will international trade flows and supply chains change significantly? What will happen to interest rates specifically and financial markets generally? These long-term trends may dictate larger shifts in business arrangements, tax, and transfer pricing. In some cases, there may be specific opportunities—to state the obvious, it is likely to be much less expensive to transfer IP from one legal entity to another in the near to mid-term future; there are also likely to be opportunities to utilize losses to lower past and/or future taxes.
But there may also be the need to fundamentally rethink existing business arrangements because they no longer work as expected. If your company faces several years of losses in a downturn, business arrangements that commit you to providing positive income to “routine” entities may also commit you to paying positive taxes. Changes in supply chains may not only require changes in transfer pricing flows but may trigger exit charges. Government attitudes towards transfer pricing may harden. Not only will they need cash, but the large flow of government assistance to businesses may lead to fundamental changes in the attitudes of tax authorities; a government that has provided substantial subsidies to a local taxpayer (e.g., by subsidizing employee expenses by providing subsidized credit and/or forgiving loads) may very well want the financial benefits of its actions to stay within the local tax jurisdiction.
COVID-19 will have an effect on businesses for the foreseeable future; transfer pricing professionals should expect to have to make decisions about how to operate in the new economy.
Any opinions expressed in this article are those of the author, and not necessarily those of Valentiam Group.
There are no guarantees for avoiding transfer pricing audits, but taking these steps will reduce your risk—and ensure you’re prepared if you are audited.