On 12th July 2013, the Ministry of Finance issued the Rulebook on transfer pricing and arm’s length methods applicable to determination of prices in related-party transactions (“Rulebook”). The Rulebook implements the provisions of the Corporate Income Tax Law (“Law”) on transfer pricing, introduced in December 2012. According to those provisions, mandatory transfer pricing documentation has to be filed along with the tax balance sheet. Deadline for filing of the tax balance sheet has been extended to 180 days from the end of the relevant tax period. For FY 2013, tax balance sheet should be filed until 30th June 2014. The Law also introduced the possibility of applying transactional transfer pricing methods (TNMM and PS) in addition to the already existing traditional transfer pricing methods (CUP, C+ and R-).
The Rulebook regulates form and content of the transfer pricing documentation, selection and application of arm’s length methods for the purpose of comparing of transfer price with arm’s length price, as well as rules for determination of depreciation base for assets acquired in related party transactions. It is expected that the Rulebook will bring more legal certainty regarding disclosure and recognition of transfer prices. Before the Rulebook, the requirements regarding documenting transfer prices were not clear. Many a taxpayer was disclosing the calculation of transfer prices in their tax balance sheet without any supporting documentation and the tax authority applied different transfer pricing methods inconsistently and arbitrarily.
The Rulebook prescribes that the documentation drafted in the form of a report should contain: 1) analysis of the taxpayer’s group; 2) business activity analysis; 3) functional analysis; 4) determination of the method for examining whether transfer prices are compliant with the arm’s length principle; 5) conclusion; and 6) appendices.
- Group analysis should, in particular, contain a description of the group’s business activities, organizational, legal and shareholders’ structure of the group, history and general financial data. Furthermore, it should include general description of operations and business policy of the group, with an emphasis on changes, if any, in the business policy since the previous tax period. This general overview should also include basic information on related parties – group members with which the taxpayer has transactions subject to transfer prices that need to comply with the arm’s length principle.
- Within the industry overview, the taxpayer is obliged to prepare a description of all business activities (industries) it is engaged in, including those which do not constitute its prevailing activity. In this part of the transfer pricing report, the taxpayer should offer a general overview of market conditions in those industries, an overview of specific legislation applicable to the relevant industry which can be of importance for the transfer pricing analysis (e.g. the rules on medical licenses in pharmaceutical industry), an overview of market shares and main competitors, suppliers and customers. Also, the factors that have influence on the determination of prices within the industry, as well as on the profitability of companies in the industry should be described. Finally, the risks that arise in the industry need to be defined.
Exceptionally, the taxpayer is not obliged to prepare the analysis of the industry that is not its registered prevailing activity, if the tax payer generates in that area less than 10% of its total revenues.
- Functional analysis is the corner stone of the transfer pricing report and it should contain:
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- Information on and description of all types of transactions with related entities. Furthermore, one should state whether there are existing contracts regarding those transactions in written form, and if yes, outline main contractual terms. It should be also explained whether it is possible to analyze each transaction separately. If not, the reasons for the grouping or division of transactions should be provided.
- Description of the functions performed, risks assumed and assets used in the relevant transactions.
- Description of the factors with decisive influence on prices in related party transactions;
- Determination of economic status of the taxpayer in transactions;
- Description of planned development of business relations and transfer pricing policy with related parties;
- Method selection
For the purpose of auditing transfer prices compliance with the arm’s length prices, the taxpayer is obliged to choose one of the following methods:
- Comparable uncontrolled price („CUP“)
- Resale price method („R-“)
- Cost plus method („C+“)
- Transactional net margin method („TNMM“)
- Profit split method („PS“).
The Rulebook gives detailed instructions on application of each of the aforementioned methods, in accordance with prevailing international practice and the OECD Transfer Pricing Guidelines.
Selection of method depends on:
- The nature of transactions that are subject to analysis;
- Availability and reliability of analyzed data;
- Degree of comparability of related party transactions with unrelated party transactions;
- Adequacy of unrelated party data usage for the analyses of compatibility with related party transactions;
- Nature and reliability of assumptions.
Taxpayer is obliged to state the decisive reasons for the choice of one method over another.
In accordance with the selection method, the taxpayer is obliged to define comparable transactions or comparable non-related companies which served as the basis for determination of arm’s length price or price range, in case internal comparable data cannot be used. In selecting comparable unrelated entities and comparable uncontrolled transactions, the data from Serbian market should be primarily used. The data from other markets can be used only if there are no sufficient comparables on the Serbian market and the conditions on the other chosen market is comparable to the conditions on the Serbian market.
- Conclusion
In the conclusion, the taxpayer establishes whether the prices in transactions with its related parties conform to arm’s length prices or need to be adjusted in accordance with the selected arm’s length method.
- Appendices
The taxpayer is obliged to provide an overview of the data used for the determination of arm’s length price or price range in accordance with the selected method and information on comparable domestic or foreign transactions or companies (benchmarking).
- Audit
If it considers provided documentation insufficient for the audit of transfer prices, the tax authority can request additional documentation from the taxpayer. However, the tax authority is obliged to take into account the cost that such requirement may impose on the taxpayer, as well as the ability of the taxpayer to obtain additional documentation.
The tax authority is authorized to draft documentation and/or additional documentation on its own, without first requiring the tax payer to provide one, if it establishes that the documentation filed by the taxpayer does not constitute adequate basis for analysis of the compliance of transfer prices with arm’s length market prices.
The Serbian version is available for download in the pdf format.
