The Australian Taxation Office (ATO) has released Practical Compliance Guideline (PCG) 2019/1 Transfer pricing issues related to inbound distribution arrangements (Guidelines). The Guidelines are the latest in a string of transfer pricing and other anti-avoidance related guidelines that aim to nudge taxpayers to adopt lower risk transfer pricing positions and encourage greater engagement with the ATO. The Guidelines outline the ATO’s risk framework for assessing the transfer pricing arrangements of inbound distributors. The higher an entity’s risk rating, the more likely the ATO is to review and potentially audit its transfer pricing arrangements. If you are the subject of an ATO risk review or audit we would strongly recommended you to engage an external independent law firm to assist you with the process and preserve your legal rights.
1. Risk framework
The Guidelines, which apply from 13 March 2019, specifically target inbound distributors in the motor vehicle industry and are broadly consistent with the draft PCG 2018/D8. An inbound distributor is broadly defined by the ATO as any business that, relevantly, involves the distribution of goods purchased from related foreign entities for resale.
The ATO assesses the risk of inbound distributors by comparing their five year weighted average EBIT margin (EBIT/Sales) against EBIT margins in their relevant industry sector. In the schedules to the Guidelines, the ATO provides profit markers for the motor vehicle industry sector. Consistent with previous guidelines, the risk zones are low, medium and high.
2. Motor vehicle distributors
The Guidelines do not identify specific activities that are considered to incrementally generate value for motor vehicle distributors. Therefore, a single category with one set of profit markers is used to assess transfer pricing risk. Although this potentially simplifies matters for motor vehicle distributors, it also assumes that motor vehicle distributors undertake mostly the same activities. Realistically, profit outcomes should not be expected to be similar where some distributors may outsource warehousing, or when comparing distributors dealing solely in spare parts as opposed to vehicles.
The ATO’s motor vehicle risk assessment framework from the Guidelines is extracted below:
3. Compliance approach
The ATO’s expected compliance approach to each risk zone is summarised in the following table:
| Low risk | Medium risk | High risk | |
| Level of ATO compliance action | Low risk taxpayers will generally not have ATO compliance resources dedicated to review their transfer pricing outcomes. | Medium risk taxpayers will have their arrangements monitored by the ATO and may be contacted for clarification of their circumstances before compliance resources are allocated. | High risk taxpayers will be recommended to review their transfer pricing policy and the ATO will consider appropriate treatment options. This may involve the ATO writing to express concern, actively monitoring distribution arrangements or commencing a review or audit.
The ATO considers that an entity with inbound distribution arrangements that consistently suffers losses poses a very high transfer pricing risk. The ATO will ordinarily prioritise reviews of such entities that have been in an overall loss position for the aggregate of the current and previous two income years. |
| Will the ATO enter into early engagement APA discussions? | Yes – and the ATO will also be more likely to invite the taxpayer to make a formal APA application. | Yes – and the ATO may invite the taxpayer to make a formal APA application. | Yes, however, the ATO states that there are likely to be factors that would make reaching an agreement on an APA difficult. |
| Are taxpayers eligible to request a pre-qualified unilateral APA process? | Yes | Yes, although prior year outcomes may be reviewed. | No |
4. Practical implications
All inbound distributors to which the Guidelines apply should review the Guidelines and determine which risk zone their arrangements fall within. In the same way as many taxpayers found their cross-border related party financing arrangements falling in the moderate or high risk categories when PCG 2017/4 was first released, we anticipate that many taxpayers will fall within the medium or high risk categories in the Guidelines.
The practical implications for taxpayers are summarised in the following table:
| Low risk taxpayers | Medium risk taxpayers | High risk taxpayers |
| Consider potential transfer pricing risks for foreign counterparts.
Consider applying for a pre-qualified APA for certainty. |
Consider the practicalities of migrating to the low risk zone (including transfer pricing risk for foreign counterparts, application of global policies and supporting documentation). A form of voluntary disclosure to the ATO should be considered if the taxpayer intends to migrate to the low risk zone.
If a taxpayer chooses to not adjust existing transfer pricing arrangements, consider whether additional documentation supporting the existing position should be prepared in anticipation of the ATO initiating compliance procedures. |
Same considerations as medium risk taxpayers. However, given the heightened risk of the ATO commencing compliance action, high risk taxpayers should consider making a form of voluntary disclosure to the ATO. The Guidelines state that for the period of 12 months from the date of publication of the Guidelines, the ATO will consider remitting shortfall penalties to nil and shortfall interest charge to the base rate if an entity makes a voluntary disclosure in relation to all income years where the entity’s arrangements are in place and adjust the entity’s historic and prospective pricing to reflect an appropriate transfer pricing outcome based on the law. |
This article was written by Tax Partners, Shaun Cartoon and Johnny Ho and Law Graduate Philip Huynh.
| Shaun Cartoon
P: +61 3 8644 3615 E: scartoon@hwle.com.au |
Johnny Ho
P: +61 7 3169 4932 E: jcho@hwle.com.au |