2 | TRANSFER PRICING RULES AND ALTERNATIVE PATHS FOR THE TAX
5. Conclusion
This chapter has argued that developing countries are disadvantaged in their ability to perform transfer pricing audits to make sure they are receiving the right amount of tax due to them. This chapter has pro-posed several short-term strategies that developing countries can use
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to make the arm’s length approach more workable: Argentina’s Sixth Method, Brazil’s fixed-margins method, India’s safe harbor rules, and Mexico’s Dictamen Fiscal Rules. These are all attractive alternatives for developing country tax administrations, which are constrained in terms of resources and capacity.
For all methods, it is advised that their interpretation and application be clearly specified in domestic tax legislation to ease implementation and ensure legal certainty. It is also important to remember that for the tax administration, the objective should be to strike the right balance between maintaining the attractiveness of investments and protecting the tax base against transfer pricing abuse. These are opposing objec-tives that can best be reconciled through a process that is deemed fair and equitable by both sides.
Beyond the general recommendations made in this chapter, it is also necessary to underline that more in-depth analysis might be required to take into account the specific economic context of each country. For example, for the fixed-margin or safe har-bor approaches, the margins threshold must be designed with the interests of both the taxpayers and the tax administration in mind.
Finally, it should also be noted that taking any of the approaches outlined above must be considered as a short-term strategy. The benefits of these simplified approaches are clear and evident:
they are easier and less expensive for the tax authorities to imple-ment, while at the same time increase certainty for the taxpayer.
However, these measures have their own limitations too. First, while they result in a guaranteed minimum of tax revenue, they may also result in forgone tax revenue. Second, they cannot cap-ture all potential instances of transfer pricing abuses. Further, in many of the cases discussed, they are often imposed unilaterally, without coordination between countries, and without satisfactory exchange of information. In such cases, these measures cannot overcome the asymmetry of information between MNCs and tax administrations for which we need a longer-term solution.
For these reasons, it is important that developed and developing countries work within the OECD and the United Nations to seek a fairer mechanism for the longer term. In this respect, unitary taxation with formulary apportionment persists as the best way forward as a long-term solution. Both developed and developing countries should be treated equitably, and profits should be properly taxed where
transfer pricing rules | 57 economic activity occurs. This is the fundamental basis of taxation and an objective that should be pursued.
Notes
1 PhD Candidate at the University of Paris-Dauphine, Centre de Recherche Droit Dauphine (CR2D). Tax Auditor, Malagasy Revenue Authority.
2 For fuller discussions of transfer pricing challenges faced by tax administrations in developing countries and the imbalance of forces and capacities, see Lennard (2014) and Hofmann and Riedel (2018).
3 For a comprehensive history on the origins of transfer pricing rules, see Picciotto (2016).
4 Very recent studies proposing some ways to simplify transfer pricing methodolo-gies for tax administrations in developing countries are Picciotto (2018) and Faccio et al. (2018).
5 At the time of writing (August 2019), Brazil is not yet a member of the OECD and is not bound by the OECD’s transfer pricing guidelines until its accession to the OECD (see Schoueri, 2019).
6 It may seem as if using different margins across industries is unfair. However, the different profit margins reflect the ability of different activities to generate vary-ing levels of profit. For example, the profit margins for services are higher than the profit margins for the distribution of goods. In line with this, the UN Manual on Transfer Pricing asserts that, ‘countries may establish different profit margins per economic sector, line of business or even more specifically according to the kind of goods or services’ (see UN 2017, D.1.9).
7 Argentinian law provides an exhaustive list of the international public databases that taxpayers and tax authorities should refer to in order to determine the arm’s length price. The World Economic Outlook (WEO) database reported by the International Monetary Fund is a well-known and online public database, which contains average monthly/annual data on commodity prices around the world.
See: www.imf.org/.
8 In 2012, India had the third largest stock of transfer pricing disputes (E&Y, 2014). A digest of tax court decisions published by an Indian advocate contained 2,000 cases for the year 2017 alone, 1,200 of which concerned transfer pricing (Lala, 2018).
9 Finance Bill, 2001 introduced TP regulations to the income Tax Act, 1961, in section 92A to 92F. The law was operationalized using Rules 10A to 10E of the income tax rules, 1962. Section 92CB of the Income Tax Act as introduced with effect from April 1, 2009, has introduced the provisions of safe harbor rules. No rules have been notified as yet until 2012 (S92CB of Income Tax Act, 1961 and Rules 10TA to Rules 10TG).
10 Income Tax Rules, Rule 10TB, 10TC provide details on these criteria.
11 For details, see OECD (2013b), OECD’s Revised Section E on Safe Harbours in Chapter IV of the Transfer Pricing Guidelines. This is a newer position for the OECD, who in their 1979 Report made no recommendations for safe harbors and claimed that they may be arbitrary.
12 ECOWAS countries: Benin, Burkina Faso, Cape Verde, Côte d’Ivoire, Gambia, Ghana, Guinea, Guinea-Bissau, Liberia, Mali, Niger, Nigeria, Senegal, Sierra Leone, and Togo.
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3 | I N T E R N A T I O N A L T A X C O M P E T I T I O N, H A R M F U L T A X P R A C T I C E S A N D T H E ‘R A C E T O T H E B O T T O M’: A S P E C I A L F O C U S O N U N S T R A T E G I C T A X I N C E N T I V E S I N A F R I C A
Annet Wanyana Oguttu
Executive Summary
Countries often adopt competitive tax policies to encourage for-eign investment or discourage the exodus of investments. However, the tax policies that countries adopt may result in harmful tax competition if they affect another country’s tax polices, by forcing them to adopt lower tax rates to remain competitive. This ‘race to the bottom’ can ultimately drive applicable tax rates to zero for all countries. In addressing this problem, the OECD BEPS Project con-centrated on harmful tax practices by preferential tax regimes. In Africa, the harmful tax practice that leads to the race to the bot-tom is the granting of unstrategic tax incentives to foreign investors in the hopes of encouraging foreign direct investment. This chapter discusses the fiscal challenges of granting unstrategic tax incentives at the domestic level and their harmful internal and external impli-cations. Recommendations are offered to ensure the efficiency and effectiveness of domestic tax incentives by improving their design, transparency, and administration. Recommendations are also offered to prevent the race to the bottom at international level by encourag-ing tax coordination at the regional level.