Canada speeding up completion time for advance pricing agreements, report shows

By Kabir Jamal, Goodmans LLP

The Canada Revenue Agency (CRA) has released its Advance Pricing Arrangement (APA) Program Report for 2017, revealing reduced inventory of in-process cases and improved completion times.

The July 12 document makes it clear that the APA program will continue to be an important tool for Canadian taxpayers looking for ways to manage their transfer pricing risk.

The report provides an overview of the operational status of the Canadian APA program based on statistical and quantitative analyses of cases that were commenced, in progress or completed in the year, and highlights current CRA administrative practices, recent changes to the APA program as well as issues that may affect the future administration of the program.

Production and inventory

In 2017, a total of 36 APAs were completed by the CRA, up significantly from the 26 that were completed in 2016 and the 21 that were completed in 2015. Of the 36 completed APAs, 30 were bilateral agreements with foreign tax administrations and the balance were unilateral agreements with the CRA.  There were no multilateral APAs completed in 2017.

 Of the 67 APAs still in process at the end of 2017, 59 cases (or 88%) were bilateral or multilateral and the remaining 8 cases (or 12%) were unilateral.  Since the program’s inception, the vast majority (85%) of completed cases have been bilateral or multilateral.

In 2017, 16 new cases were accepted into the APA program, in addition to the 90 cases that were already in process when the year began. This represents an increase from the 12 cases accepted in 2016, but falls short of the historic high of 39 cases accepted in 2013–2014 and the average number of cases accepted since 2012.

Taking into account the 36 completed cases and the three withdrawn cases, the closing inventory of APAs at the end of the 2017 calendar year was 67, the lowest since 2012. 

Applications

The CRA conducted 24 pre-file meetings in 2017, in line with the average number of pre-file meetings conducted by the CRA each year over the previous five years.

These meetings are intended to give the taxpayer an opportunity to learn more about the APA program and the CRA an opportunity to learn more about the taxpayer’s business, industry and the transactions in respect of which an APA is sought, and more generally to assess the suitability of the taxpayer and the relevant transactions for the APA program.

At the end of the 2017 calendar year, there were 23 applications still under consideration for acceptance, where a pre-file meeting had occurred but the taxpayer had not yet provided an APA submission. 

There were also five withdrawals in the year, of which two occurred during the application stage and three occurred after the application had been accepted into the program.

Completion times

Following the acceptance of a case into the program, the processing of the case involves three distinct stages.

The first is the due diligence stage, which begins on the acceptance of the case and ends with the CRA’s completion of a position paper outlining its views on the relevant transactions and the proposed transfer pricing methodology. The second is the negotiations stage, in which the CRA engages in negotiations with any applicable foreign tax authorities to establish an agreement on the proper approach and transfer pricing methodology to be used in the APA. The third is the post-negotiations stage, which relates to the documentation and signing of agreements with any applicable foreign tax authorities and with the Canadian taxpayer.

In 2017, the average time to completion of bilateral and multilateral cases, from acceptance of the case to conclusion of the post-negotiations stage, was 48.5 months, slightly lower that the average annual time to completion for the previous five years.

Breaking down this average completion time among the different stages in the process, in 2017, the due diligence stage took on average 25 months to complete, significantly less than the average of 30.2 months in 2016 and the annual average of 29.6 months over the previous five years. The negotiations stage took on average 9.8 months to complete in 2017, compared to the average of 5.9 months in 2016 and the annual average of 7.3 months over the previous five years. Finally, the post-negotiations stage took on average 13.7 months to complete in 2017, up from the average of 11.3 months in 2016 and the annual average of 12.3 over the previous five years. Given the relatively small sample size, these figures may not be representative due to distortions created by extreme outliers.

Transfer pricing methodologies

The transactional net margin method (TNMM) continued to be the preferred transfer pricing methodology in 2017, representing 80% of completed cases and 70% of in-process cases.

With respect to these TNMM cases, operating margin was used as the profit-level indicator (PLI) in 69% of completed cases and 54% of in-process cases, total cost plus was used as the PLI in 8% of completed cases and 10% of in-process cases, and return on assets was used as the PLI in 3% of completed cases and 3% of in-process cases.

The comparable uncontrolled price/transaction and cost plus methodologies were also used in 2017, representing respectively 14% and 6% of completed cases and 7% and 12% of in-process cases. The profit split and resale price methodologies were not used in any completed cases, but were considered in 10% and 1% of in-process cases, respectively.

Participation by Industry and Geography

Participation in the APA program by industry generally mirrors the industry’s participation in Canadian trade as a whole.  More than half of in-process cases in 2017 involved taxpayers with operations in the following sectors: automobile and other transportation equipment (25%), metals and minerals (12%), health (9%), petroleum (9%), and food and beverages (9%).

Participation in the APA program by foreign tax authorities continues to reflect the importance of the United States as Canada’s most significant trading.  Since the program’s inception, 202 (or 72%) of the 279 successfully completed bilateral APAs were with the United States.  At the end of 2017, the United States was involved in 53% of in-process cases.  After the United States, the foreign tax jurisdictions represented in bilateral and multilateral APAs in 2017 were the United Kingdom, Switzerland, Japan, South Korea, Germany, Netherlands, Ireland, India, Sweden, China, Denmark, Chile, France, and Hong Kong.

Participation in the APA program by Canadian province generally reflects the distribution of Canadian corporate headquarters across the country.  Of the 67 in-process cases at the end of 2017, the Canadian taxpayer was headquartered in Ontario in 40 cases (or 60%), Quebec in 7 cases (or 10%), Western Canada (British Columbia, Alberta, Saskatchewan and Manitoba) in 19 cases (or 29%), and the Atlantic Provinces in 1 case (or 1%).

Conclusion

Improvements to the APA program over the past few years have made the program an attractive option for Canadian taxpayers seeking to prevent future transfer pricing disputes and to achieve certainty as to the appropriate transfer pricing methodologies to be applied to prospective transfer pricing transactions.

As the CRA continues to reduce its inventory of in-process cases and improve completion times, and in light of increased attention on combating base erosion and profit shifting, the APA program will remain an important tool for Canadian taxpayers.

–Kabir Jamal is an associate in the Tax Group at Goodmans LLP, Toronto, and can be reached by email or at 416.597.5161. Kabir has experience in a wide variety of domestic and international taxation matters, including mergers & acquisitions, corporate reorganizations, corporate finance, tax litigation and dispute resolution as well as trusts and estates.