A New Arena for Transfer Pricing Disputes

You may have seen last week’s news that the tax treatment of Amazon by the country of Luxembourg is being examined by the European Commission as a possible violation of EU competition rules.This follows the opening of similar investigations by the EU into the tax arrangements of Apple, Starbucks, and Fiat.

This is interesting for a variety of reasons.  First of all, this marks one of the first times that transfer pricing arrangements are being actively and specifically scrutinized not by any national tax authority, but by a multinational body with no direct financial stake in the outcome.  Secondly, the tax authorities of Ireland and Luxembourg — i.e., the tax authorities that stand to gain tax revenue if the EU rules against the companies in each case — are actually in the position of defending those companies, even though if they lose the legal battle with the EU, they stand to gain billions of dollars in tax revenue.

But perhaps the most fascinating aspect of this development is that transfer pricing is now being explicitly and directly addressed as an aspect of competition policy, rather than simply as a tax matter. The Economist put it thus (subscription required):

[T]he European Commission has been exploring those dark recesses to establish whether multinationals’ arrangements with tax-friendly Ireland, Luxembourg and the Netherlands amount to illegal subsidies. For the three companies targeted so far (Apple, Fiat and Starbucks), and for the many others that routinely engage in complex tax-planning, the probes have taken the crackdown on cheeky tax avoidance into uncomfortable new territory…

Citing minutes of meetings between Apple’s tax advisers and officials, the commission suggests they reached a quid pro quo in which the company was allowed to shelter profits from tax in return for maintaining jobs. The suspected mechanism was “transfer pricing” agreements that deviated from international accounting guidelines, which require transactions between group subsidiaries to be priced at market rates. The costs attributable to one Irish subsidiary appear to have been “reverse-engineered” to arrive at a certain level of taxable income with “no economic basis”, says the commission.

These investigations and the resulting legal fallout could have substantial implications well beyond the companies and countries in question. If transfer pricing arrangements become subject to anti-competition investigations in addition to scrutiny from tax authorities, the regulatory landscape suddenly has the potential to look very different from what we’re used to.  Stay tuned.

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