Asia-Pacific Transfer Pricing Handbook

Preface xxi

PART ONE: COUNTRY-BY-COUNTRY ANALYSIS 1

Chapter 1 Introduction 3

• Part One: Country-by-Country Analysis 3
• Part Two: Advanced Applications 4

Chapter 2 Australia’s Risk Assessment Transfer Pricing Approach 7

• Introductory Issues 8
• Transfer Pricing Reviews 8
• Documentation Requirements 10
• Preparation of the Documentation File 11
• Applying the Arm’s Length Principle 13
• Simplified Approach to Doing a Benchmarking Study 13
• Four Steps for Testing International Transfer Prices 14
• Decision Tree 16
• How the ATO Scores Risk 16
• Scoring the Three Levels 17
• Score Graph 18
• Outcome of Transfer Pricing Review or Audit 19
• Audits Taking Place in Low-Risk Situations 20
• Transfer Pricing Review Process 20
• Categorizing the Results of the Transfer Pricing Review 21
• How the Australian Transfer Pricing Audit Procedure Works 22
• Australia’s Four-Step Process for Businesses 22

Chapter 3 Profit Attribution for a Dependent

• Agent’s Permanent Establishment in Australia 25
• Permanent Establishment Concepts in Australia 26
• Profit Attribution Concepts in Australia 26
• The ATO’s Operational Approach 26
• Determining Functional Analysis for a Permanent Establishment 27
• Comparative Analysis for the Permanent Establishment 29
• Application of the Resale Price Method 31
• Application of the Cost Plus Method 31
• Using a Transactional Net Margin Method 32
• Using a Profit Split Method 32
• Toll Manufacturers 34
• Four Examples 35
• Notes 47

Chapter 4 Australia’s Advance Pricing Arrangement Program 49

• Pre-Formal APA Discussions 50
• APA Processing Times 51
• Unilateral and Bilateral APAs 52
• The ATO’s APA Work in Process 52
• APA Issues and Methods 52

Chapter 5 China Implements Transfer Pricing Procedures 55

• Overview 55
• Regulations 56
• Chapter 1: General Principles 56
• Chapter 2: Reporting and Filing of Related Party Transactions 59
• Chapter 3: Administration of Contemporaneous Documentation 62
• Chapter 4: Transfer Pricing Methods 66
• Chapter 5: Transfer Pricing Audits and Adjustments 71
• Chapter 6: Administrative Guidance Concerning Advance Pricing Arrangements 78
• Chapter 7: Administrative Guidance Concerning Cost Sharing Agreements 87
• Chapter 8: Administrative Guidelines Concerning Controlled Foreign Corporations 91
• Chapter 9: Administrative Guidance Concerning Thin Capitalization 93
• Chapter 10: Administrative Guidance Concerning General Anti-Avoidance 96
• Chapter 11: Corresponding Adjustments and International Negotiations 98
• Chapter 12: Legal Responsibility 99
• Chapter 13: Supplementary Provisions 101
• Notes 102

Chapter 6 Reporting Related Party Transactions in China 105

• Form 1—Related Party Relationships 106
• Form 2—Summary of Related Party Transactions 109
• Form 3—Purchases and Sales 111
• Form 4—Services Form 112
• Form 5—Intangible Assets 113
• Form 6—Fixed Assets 113
• Form 7—Financing 114
• Form 8—Outbound Investment 115
• Form 9—Outbound Payments 118
• Notes 119

Chapter 7 Hong Kong Advance Ruling Cases: Taxability of Profits 121

• Advance Ruling Process 121
• Advance Ruling Case No. 4 122
• Advance Ruling Case No. 8 123
• Advance Ruling Case No. 9 125
• Advance Ruling Case No. 10 126
• Advance Ruling Case No. 11 127
• Advance Ruling Case No. 12 128
• Advance Ruling Case No. 13 130
• Advance Ruling Case No. 16 132
• Advance Ruling Case No. 19 133
• Advance Ruling Case No. 21 134
• Advance Ruling Case No. 23 135
• Advance Ruling Case No. 26 136
• Advance Ruling Case No. 30 137
• Advance Ruling Case No. 34 138
• Advance Ruling Case No. 35 139
• Advance Ruling Case No. 36 140
• Advance Ruling Case No. 37 141

Chapter 8 Hong Kong Transfer Pricing Guidelines 143

• Double Tax Agreements 143
• Arm’s Length Principle 143
• Associated Enterprises 145
• Appropriate Adjustments 146
• Inland Revenue Ordinance and Case Law 147
• Permanent Establishment Considerations 150
• Applying the Arm’s Length Principle 151
• Four Steps 153
• Functional Analysis 153
• Comparability Analysis 154
• Determining Comparability 155
• Functions, Assets, and Risks 155
• Contract Terms 157
• Economic and Marketing Circumstances 158
• Business Strategies 158
• Global Price Lists 159
• Establishing the Reliability of the Data 160
• Transfer Pricing Methodologies 160
• Sources of Profi ts and Income 162
• Abusive Tax Schemes 163
• Transfer Pricing Schemes 164
• Transfer Pricing Documentation 166
• Intragroup Services Arrangements 169
• Deduction of Expenditures Paid for Intragroup Service 170
• Determining the Amount of Intragroup Charges 171
• Services Provided by a Permanent Establishment 173
• Notes 174

Chapter 9 Hong Kong Challenges Abusive Tax Schemes 175

• Macroeconomic Issues 176
• Abusive Tax Schemes 177
• Transfer Pricing Schemes 178
• Lack of “Economically Significant Functions” 179
• How the Hong Kong Government Combats Abusive Tax Schemes 179
• Extreme Forms of Tax Abuse 180
• Distinguishing Tax Avoidance from Tax Evasion 180
• How the Reinvoicing Structure Operates 181
• Shifting Intangible Property: The Tax Perspective 182
• Notes 184

Chapter 10 Winning Hong Kong’s Landmark Transfer Pricing Case 185

• Ngai Lik Litigation 185
• Hong Kong’s Advance Ruling Determinations 186
• Hong Kong Issues Transfer Pricing Guidelines 186
• Statutory Provisions 187
• Determination by the Court of Final Appeal 188
• The Commissioner’s Determination 188
• Determination by the Board of Review 189
• Determination by the Court of First Instance 189
• Determination by the Court of Appeal 190
• The Case before the Court of Final Appeal 191
• Deficiencies in the Scheme as to Additional Annual Bulk Discounts Received by Din Wai Electronics Limited 192
• Deficiencies in the Scheme as to Manufacturing Profits 193
• Deficiencies in the Scheme as to the Relevant Years of Assessment 196
• Are the Scheme and the Tax Benefit Still Viable Bases for Section 61A Assessments? 196
• Is There a “Tax Benefi t” within the Meaning of Section 61A? 197
• The Narrower Scheme and the Narrower Tax Benefit 197
• Dominant Purpose of the Narrower Scheme 198
• Board of Review’s Approach 199
• Ribeiro’s Dominant Purpose of the Narrower Scheme 200
• Commissioner’s Assessment Power 202
• Commissioner’s Exercise of the Section 61A(2) Power 202
• Board’s Approach to the Exercise of the Section 61A(2) Power 203
• Disposal of the Appeal 203
• Notes 204

Chapter 11 Transfer Pricing Litigation in India 205

• Background 205
• Transfer Pricing Chronology and Administration 206
• Related Parties 207
• Transfer Pricing Method Selection in India 208
• Contemporaneous Documentation in India 209
• Audit Procedures 210
• Penalties 211
• Appellate Procedures 212
• Transfer Pricing Litigation 213
• Vodafone: Hutchison Essar Acquisition 215
• Notes 215

Chapter 12 PE Issues Impact Indian Transfer Pricing 217

• Background 218
• Nexus, Effectively Connected Status, and Permanent Establishment 218
• Four Fact-Based Permanent Establishment Inquiries 219
• Impact of the Morgan Stanley Case 220
• Permanent Establishment Transfer Pricing Litigation in India 220
• Galileo 221
• Hotel Scopevista 222
• WorleyParsons 223
• KnoWerx Education 223
• ICICI Bank 224
• Zimmer AG 225
• Intergrafica 226
• Ranbaxy Laboratories 226
• Development Consultants 227
• Perfitti 228
• Data Software Research 229
• SNC Lavalin /Acres Inc. 229
• Airport Authority of India 230
• Radha Rani Holdings 231
• Mashreq Bank PSC 232
• Mentor Graphics (Noida) Pvt. Ltd. 232
• Millennium Infocom Technologies Ltd. 233
• Van Oord ACZ India 233
• Tokyo Marine & Fire Insurance Co. Ltd. 234
• Western Union Money Transfer 235
• Cargo Communities Network 235
• Hyundai Heavy Industries 235
• E. Gain Pvt. Ltd. 236
• Infosys International Activities in New York State 236

Chapter 13 Taxation of Travel Services in India 239

• Sabre 240
• Galileo 243
• Installed Hardwire 245
• Notes 245

Chapter 14 Transfer Pricing in Indonesia 247

• Historical Background 247
• Transfer Pricing Considerations 248
• Special Attachment 249

Chapter 15 Japan’s Directive on Transfer Pricing Operations 251

• Background 251
• Regulations and the Examples—How They Differ 252
• Operation of the Japanese Transfer Pricing Administrative Guidelines 253
• Chapter 1: Defi nitions and Basic Policies 253
• Chapter 2: Examination 254
• Chapter 3: Points to Note in Calculating Arm’s Length Prices 269
• Chapter 4: Treatment of Foreign Transferred Income 272
• Chapter 5: Advance Pricing Arrangements 274
• Notes 288

Chapter 16 Selecting the Arm’s Length Price in Japan 289

• Background 290
• Demonstrating the Selection of Arm’s Length Price 290
• Selection of the Method of Calculation of Arm’s Length Price 290
• Case 1: Use of the Comparable Uncontrolled Price Method 291
• Case 2: Use of the Resale Price Method 299
• Case 3: Use of the Cost Plus Method 301
• Case 4: Methods Consistent with the Comparable Uncontrolled Price Method 303
• Case 5: Methods Consistent with the Cost Plus Method 307
• Case 6: Transactional Net Margin Method 311
• Case 7: Contribution Profi t Split Method 316
• Case 8: Residual Profi t Split Method 320
• Case 9: Adjustment for Differences 323
• Notes 325

Chapter 17 Applying Japanese Intangible Transfer Pricing Methods 327

• Case 10: Intangibles Created by R&D and Marketing Activities 328
• Case 11: Distribution Channels and Quality Control Know-How 333
• Case 12: Know-How Accumulation through Human Resource Business Activities 335
• Case 13: Contributions to Create, Maintain, and Develop Intangible Properties 339
• Case 14: A Company Bearing only the Cost of Creation of the Intangible Properties 341
• Case 15: Intangible Properties for Employees on Loan 343

Chapter 18 Japanese Profi t Split Transfer Pricing Methods 345

• Case 16: Applying the Profi t Split Method to a Series of Foreign-Related Transactions 346
• Case 17: Excluding Transactions from the Profit Split Method 349Contents xiii
• Case 18: Calculation of the Profi t to Be Split 352
• Case 19: Differences in Labor Costs Impact the Residual Profit Split Method 358
• Case 20: Treatment of Market Fluctuations 361
• Case 21: Calculation of Basic Profi t 364
• Case 22: Factors for Splitting the Residual Profit 367

Chapter 19 Japanese Guidelines Address Diverse Transfer Pricing Issues 373

• Case 23: Determining Whether Services Provide Commercial Value 373
• Case 24: Multiple-Year Considerations 377
• Case 25: Establishing the Target Profit Margin 380
• Case 26: Critical Assumptions 384

Chapter 20 Malaysia Advance Ruling Guidelines 387

• General Facets of the Advance Ruling Procedure in Malaysia 388
• Binding Nature of an Advance Ruling 388
• Scope of the Advance Ruling Request 389
• Circumstances in Which Malaysia Tax Authorities Will Not Issue an Advance Ruling 390
• Circumstances in Which the DGIR Can Decline to Issue an Advance Ruling 391
• Notice Requirements 392
• Advance Ruling Application Procedure 392
• Advance Ruling Application Form 393
• Information Request Requirement 394
• Issuance of the Advance Ruling 394
• Advance Ruling Finality and Disclosure 395
• The DGIR Can Withdraw the Advance Ruling 396
• Situations in Which the Advance Ruling Ceases to Apply 396
• Fee Structure 397
• Internal Procedure 397
• Notes 397

Chapter 21 Malaysia Transfer Pricing Guidelines 401

• Introductory Provisions 401
• Malaysian Transfer Pricing Procedure 402
• Application of the Arm’s Length Principle 403
• Malaysia’s Transfer Pricing Regime 403
• Comparability and Transfer Pricing 404
• Transfer Pricing Alternatives 407
• Comparable Uncontrolled Price Transfer Pricing Method 407
• Resale Price Transfer Pricing Method 409
• Cost Plus Transfer Pricing Method 411
• Additional Transfer Pricing Methods 413
• Profit Split Transfer Pricing Method 414
• Residual Analysis Example 415
• Transactional Net Margin Method 418
• Intangible Property 419
• Transfer Pricing Services Regulations 420
• Documentation 421
• Malaysia Issues Advance Rulings Guidelines 423
• General Facts about of the Advance Ruling Procedure in Malaysia 423
• Binding Nature of an Advance Ruling 424
• Scope of the Advance Ruling Request 425
• Advance Ruling Application Procedure 427
• Advance Ruling Application Form 428
• Information Request Requirement 429
• Issuance of the Advance Ruling 429
• Advance Ruling Finality and Disclosure 431
• The DGIR Can Withdraw the Advance Ruling 431
• Situations in Which the Advance Ruling Ceases to Apply 432
• Fee Structure 432
• Internal Procedure 433
• Notes 433

Chapter 22 New Zealand Transfer Pricing Developments 439

• New Zealand Transfer Pricing Guidelines 440
• Initial Developments 440
• Arm’s Length Principle and the Pricing Methods 441
• Basics of the Transfer of Intangible Property 442
• Profit Split Method and the Joint Ownership of Intangible Property 443
• Profit Split Method 444
• Residual Profit Split Analysis 444
• Transactional Net Margin Method 445
• Market Penetration Techniques 445
• Australia’s Four-Step Process to Ascertain the Arm’s Length Approach 446
• Documentation 446
• Documentation and the Burden of Proof Rule 447
• Inland Revenue Seeks to Ascertain the Risks to the Revenue 447
• Retention of Records 448
• Transfer Pricing in Countries without a Double Tax Agreement 449
• Intangible Property Audits 450
• Trade Intangibles and Marketing Intangibles 450
• Ascertaining the Arm’s Length Amount for Intangible Property 451
• Ascertaining the Ownership of Intangible Property 451
• Factors in Ascertaining the Nature of Intangible Property 452
• Terms and Conditions of the Intangible Property Transfer 453
• Valuing Intangible Property 454
• Non-Owner’s Marketing Activities 454
• Applying the Profi t Split Method to Intangible Property 455
• Intangible Property Planning 456

Chapter 23 Philippine Transfer Pricing Regulations 457

• Scope of the Philippine Provisions 458
• Philippine-Specific Provisions 458

Chapter 24 Singapore Implements Advance

• Pricing Arrangement Procedure 461
• Objectives of the Supplementary Circular 462
• What the Supplementary Circular Provides 462
• Minimum Information Requirements 462
• Considerations for Accepting the APA 463
• Pre-Filing APA Process 464
• Formal APA Submission Procedures 466
• APA Review and Negotiations: Considerations and Requirements 467
• APA Roll-Back 468
• Discontinuation of the APA Process 469
• Nonsubmission of the APA Application 469
• Insuffi cient Level of Support during the APA Process 470
• Absence of Communication 470
• Effective Date 471
• Notes 471

Chapter 25 Singapore Transfer Pricing Consultation Process 475

• Background 475
• Objectives of the Transfer Pricing Consultation 476
• Issuance of the Transfer Pricing Questionnaire 476
• Transfer Pricing Consultation 477
• Transfer Pricing Questionnaire 478
• Notes 480

Chapter 26 Singapore Transfer Pricing Guidelines 481

• Key Concepts and Arm’s Length Principles 482
• Three-Step Approach 483
• Comparison of Economically Signifi cant Functions 483
• Comparable Uncontrolled Price Method 484
• Transfer Pricing Method Selection 484
• Transfer Pricing Documentation 488
• Mutual Agreement Procedures 490
• Advance Pricing Agreements 491
• Comments 491
• Notes 491

Chapter 27 Singapore Transfer Pricing Guidelines for Related Party Loans and Services 493

• Transfer Pricing Guidelines for Related Party Loans 494
• Two Loan Categories 494
• Facts and Circumstances to Determine Comparability Analysis 496
• Transfer Pricing Guidelines for Related Party Services 497
• Direct Charging versus Indirect Charging of Services 499
• Ascertaining the Arm’s Length Fee 500
• Routine Services and the 5% Markup 500
• Cost Pooling Contracts 503
• Strict Cost Pass-through 504
• Documentation 505
• Notes 506

Chapter 28 South Korea Transfer Pricing 507

• Background 507
• Related Party Transfer Pricing Relationships in Korea 508
• Computation of Indirect Ownership 509
• Economic Interest and Control 509
• Transfer Pricing Method Alternatives 510
• Information Requests and Documents 512
• Transfer Pricing Audits 514
• Permanent Establishment, Competent Authority, and Advance Pricing Agreements 515
• Thin Capitalization and Tax Havens 515
• Applying the “Most Reasonable Method” Standard to Determine Arm’s Length Price 516
• Underpayments and Overpayments 517
• Selecting Transfer Pricing Methods 517
• Reporting Methods for Determining Arm’s Length Price 518
• Advance Pricing Arrangements 518
• Sanctions Imposed on Failure to Comply with the Data Request 520
• Penalties 520
• Thin Capitalization Rules 521
• Debt under an Arm’s Length Situation 522
• Anti–Tax Haven Rules 522
• Scope of the “Tax Haven” Jurisdiction 523
• Computation of the Reserved Income Distributed Amount 524
• Gift Tax on Property Located Outside Korea 524
• Mutual Agreement Procedure 525
• International Tax Cooperation 525
• Note 526

Chapter 29 Sri Lanka Transfer Pricing 527

• Associated Undertakings 528
• Arm’s Length Price 528
• Documentation 529
• Threshold for Applying Sri Lanka Transfer Pricing 529
• Advance Pricing Agreements 530
• Burden of Proof 530
• Implementation 530
• Annex 1: Test of Control—Associated Undertaking 530
• Annex 2: Arm’s Length Pricing Methodologies 531
• Annex 3: Appropriate Pricing Methodology—Factors to Consider 536
• Annex 4: Comparability of an Uncontrolled Transaction—Factors to Consider 536
• Annex 5: Prescribed Documentation 537
• Suggested Supporting Documents 538

Chapter 30 Taiwan Transfer Pricing 539

• Enactment of the Transfer Pricing Statute 539
• Transfer Pricing Regulations 540

Chapter 31 Thailand Transfer Pricing 547

• Transfer Pricing Booklet 548
• Part 1: Tax Legislation Impacting Transfer Pricing 548
• • Revenue Department of Thailand Departmental Instruction Paw 113/2545 549
• Part 2: Methodologies in Calculating Market Price 554
• Part 3: Process in Establishing the Market Price 554
• • Process of Establishing the Market Price 556
  • Guidelines on the Determination of Market Price 557

Chapter 32 Vietnam Transfer Pricing 559

• Expansive View of Related Party Ownership 560
• Transfer Pricing Methods 560
• Documentation Requirements 561
• Compliance Considerations 561

PART TWO: ADVANCED APPLICATIONS 565

Chapter 33 Services Transfer Pricing in Hong Kong and in Singapore 567

• Services Transfer Pricing in Hong Kong and in Singapore: Basic Comparison 567
• Hong Kong Services Transfer Pricing Methods 568
• Shareholder Activity and Stewardship Functions 569
• Financial Services Audit Example 570
• Deduction of Expenditures Paid for Intragroup Services 570
• “Objective Commercial Explanation” Standard 571
• Determining the Amount of Intragroup Charges 572
• Services Provided by a Permanent Establishment 573
• Scope of Activities for Related Party Services in Singapore 574
• Singapore Transfer Pricing Services Guidelines 575
• Direct Charging versus Indirect Charging of Services 576
• Ascertaining the Arm’s Length Fee 577
• Routine Services and the 5% Markup in Singapore 577
• Cost Pooling Contracts 580
• Cost Pooling versus Pass-Through Allocation Alternatives 582
• Documentation 583
• Notes 583

Chapter 34 Permanent Establishment Parameters: Hong Kong versus India 585

• General Permanent Establishment Considerations 586
• Permanent Establishment Considerations in India 586
• Permanent Establishment Considerations in Hong Kong 588

Chapter 35 Pacific Tax Administrators Coordinate Transfer Pricing Documentation 591

• Background 591
• PATA Provisions 593
• Three Operative Principles 594
• Specifi c Mandatory Documentation 596
• Notes 603

Chapter 36 Shared Services and Cost Pooling Arrangements in the United States and Singapore 605

• Historical Background 606
• Explanation of the Shared Services Arrangement Provisions 606
• Shared Services Arrangements 608
• Services Cost Method Examples 611
• Singapore Shared Services Arrangements 620
• Notes 622

Chapter 37 South Korea–Japan Bilateral Investment Treaty 623

• Background 623
• U.S. Involvement in BITS 624
• Arbitration 624
• ICSID Arbitration 624
• Treaty Shopping within the Bilateral Investment Treaty Context 625
• Tax Provisions within the Korea–Japan Bilateral Investment Treaty 626

Chapter 38 China–Taiwan Trade 629

• Taiwan and China: A History Lesson 629
• Economic Considerations 630
• One-China Policy 630
• Economic Cooperation Framework Agreement 631
• Tax Considerations 632
• Choice of Transfer Pricing Method 633
• Functional Analysis 634
• Analysis of the Production Activities 634
• Fact Pattern 635
• Accounting and Tax Operations 635
• Permanent Establishment 636
• Taiwanese–Chinese Electronics Company 636
• Transactional Profi t Split Method Criteria 637
• Most Appropriate Transfer Pricing Method 637
• Allocation Key System 637
• Strong Correlation Standard 638
• Selecting among Allocation Keys 638
• APA Process 640
• Notes 640

Chapter 39 Malaysia–Singapore Allocation Keys 643

• Importance of Allocation Keys 643
• Selection of the Real Estate Leasing Example 644
• When the Transactional Profit Split Method Is the “Most Applicable” Transfer Pricing Method 644
• Specialized Services 645
• Applying the Transactional Profit Split Method 646
• Four Allocation Keys Categories 647
• Key Functions 647
• Selecting Potential Allocation Keys 648
• Residential Condominium Leasing Example 648
• Residential Condominium Database 650
• Selecting among Allocation Keys 650
• “Strong Correlation” Standard 651
• Allocation Keys 652
• Transfer Pricing Strategies 656
• Corporate Tax Strategy 657
• Malaysia’s Tax Strategy 657
• Notes 658

Chapter 40 Permanent Establishment Parameters 659

• OECD’s Permanent Establishment Provisions 660
• Consequences of Permanent Establishment Status 660
• Consequences of a Permanent Establishment to Business 661
• Transfer Pricing and Permanent Establishment 661
• Overall Tax Considerations 662
• Potential for the Imposition of Two Levels of Taxation 662
• OECD Approach to Determine Permanent Establishment 663
• Hong Kong Applies the OECD Permanent Establishment Provisions 663
• How Hong Kong Applies the Permanent Establishment Provisions 664
• Common Law Permanent Establishment Criteria 665
• Direct Activities 665
• Agency Relationships 666
• Shareholder Activities in Subsidiaries’ Locations 667
• Presence of Personnel Shifts among Entities 668
• Entirety of the Operations 668
• Declining Businesses 668
• “Preparatory to” and “Auxiliary from” Exemptions 669
• Time Spent 669
• Will the OECD Approach Prevail? 669
• Notes 670

About the Authors 671

Index 673