The final OECD transfer pricing guidelines for financial transactions: what has changed?

By Casimir Leuridan & Melanie Beirens, Zanders, Belgium

On 11 February, the OECD released its long-awaited transfer pricing guidance on financial transactions.

The guidance represents the first consensus-based document that provides more details on the specific transfer pricing characteristics of financial instrument

The document contains some differences compared to the discussion draft, published in July 2018.

Key differences

The guidance details the accurate delineation of financial transactions and the interaction with Section D.I of Chapter I of the OECD Transfer Pricing Guidelines and Article 9 of the OECD Model Tax Convention.

Concerning the accurate delineation of the transaction, the guidance places increased importance on the MNE’s transfer pricing policy as well as on historical group support. These aspects should be in line with the terms and conditions of the tested transaction. (cfr. 10.37)

The OECD also recognizes industry-specific characteristics for the financial industry. The guidance acknowledges that this impacts the transfer pricing aspects of financial transactions within this industry. (cfr. 10.15)

Credit rating

More guidance has been provided on the determination of a credit rating. The guidance elaborates upon the importance of the quality of publicly available credit rating tools and is more concrete on how this quality can be achieved.

The guidance also stresses the importance of documentation on the methodology used when determining a credit rating. (cfr. 10.74)

Issue ratings gain in importance compared to the discussion draft. The final guidance states that if both the issuer and issue rating are available and comparable to the controlled transaction, the latter should have preference. (cfr. 10.70)

Implicit support

The guidance allows for different ways to reflect implicit support in the rating without referring to notching up or down.

 The discussion draft refers explicitly to a notching up principle. Additionally, the cap to be applied at the rating of the group has also been left out in the final guidance.

 Lastly, the guidance adds that when determining the level of implicit group support, not only the current environment but also the future strategy should be taken into account.  (cfr. 10.78)

Term loans

The pricing of term loans remains primarily the same compared to the discussion draft. However, some minor differences stand out. The scope of the types of comparable transactions that can be used in an external CUP analysis is widened from bonds to commercial paper, convertible debentures, deposits, etc., where comparable. (cfr. 10.93) The OECD also echos the importance of documentation in an additional paragraph. (cfr. 10.68)

Two additional approaches in the form of the use of credit default swaps and economic modelling are mentioned.

Similar to the Ddscussion draft, the guidance excludes the use of the cost of funding approach in almost all situations. The approach should only be used in the absence of comparables. (cfr. C.1.2.4-5)

Cash pools

For cash pools, the most explicit difference lies in the absence of the three remuneration methods for the participants.

In its place, the guidance states that the remuneration of a cash pool should explicitly also take into account liquidity and credit risk.

Terms like ‘netting benefit’ & ‘volume benefit’ have been left out from the remuneration section. The final text adds that entities (as cash pool members) can also have non-financial benefits from being part of a cash pool.

 No one size fits all transfer pricing assessment prevails itself to analyse the remuneration for cash pools. (cfr. C.2)

Guarantees

To determine the remuneration due for explicit guarantees, the guidance states that market risk should be taken into account when the guarantor and the borrower operate in the same market. (cfr. 10.168)

Lastly, an additional chapter is dedicated to the determination of a risk-free and risk-adjusted rate of return.

How can MNEs prepare for compliance?

To comply with this guidance, the essential starting point for MNEs is to get an accurate and clear understanding of each intercompany financial transaction.

Once the current situation is fully clear, a scan can be performed to identify the attention points as outlined in this article and determine their relative risk.

A transfer pricing policy can be drafted or revised to reflect the current status and adjust areas where attention points are not yet accommodated.

It is advised that an MNE keeps a clear balance between the level of defensibility and time and monetary investment.

Leveraging efficient operational transfer pricing processes should ease the production of transfer pricing studies on a transaction-by-transaction basis.

 Automation of some transfer pricing aspects, such as credit ratings, comparability analyses, and documentation, could also enable more transparency and compliance for MNEs.

—–Casimir Leuridan is a Manager at Zanders, Belgium.

—Melanie Beirens is a Senior Consultant at Zanders, Belgium.