Singapore Budget Seminar 2017

www.pwc.com/sg

February 2017

Break Out: Transfer Pricing / Value Chain Analysis

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Agenda

1. Setting the scene – International developments

2. 4th Edition TP Guidelines and other TP updates

3. What can groups do to prepare for these developments?

4. Closing thoughts

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Setting the scene – International developments

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OECD BEPS ProjectOverview of Action Plan Items and Timeline

4

Feb 2013: BEPS Report

19 Jul 2013:Action Plan for

BEPS

Sep & Dec 2014:BEPS Drafts

5 Oct 2015 : Final reports

issued

ACTION 1:Address the challenges of the digital economy

ACTION 2:Neutralise the effect of hybrid mismatcharrangements

ACTION 3:Design effectivecontrolled foreign corporation (CFC) rules

ACTION 4:Limit base erosion via interest deductions and other financial payments

ACTION 5:Counter harmful tax practices more effectively -transparency and substance

ACTION 6:Prevent treaty abuse

ACTION 7:Prevent the artificial avoidance of permanent establishment (PE) status

ACTION 8:Align transfer pricing (TP) outcomes with value creation -intangibles

ACTION 9:Align TP outcomes with value creation -risks & capital

ACTION 10:Align TP outcomes with value creation -other high-risk transactions

ACTION 11:Measure and monitor BEPS

ACTION 12:Mandatory disclosure of aggressive taxplanning arrangements

ACTION 13:TP documentation and country by-country reporting

ACTION 14:Make dispute resolution mechanisms more effective

ACTION 15:Develop a multilateral instrument to modify bilateral tax treaties

Coherence

Substance

Transparency

Early 2016: Follow-on work on a number of

items

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Singapore’s position towards BEPS implementation

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On Treaty Abuse and Exchange of Information:

• “Our tax treaties incorporate provisions that guard against treaty abuse, and provide for exchange of information upon request in line with the internationally-agreed standard.”

• Focus on economic substance against tax evasion.

• Supportive of the use of multilateral framework for tax matters to ensure consistent implementation of rules of law and level playing field.

On overall BEPS Action Plan:

• Singapore supports the BEPS Action Plan and agrees that profits should be taxed in jurisdictions where real economic activities driving the profits take place and where value is created.

• Singapore does not “condone activities aimed at base erosion and profit shifting ……”

On Transfer Pricing:

• Singapore endorses and adopts the OECD arm’s length principle and “we think that transfer pricing is the most important aspect of the BEPS Action Plan”.

• “As a business hub and gateway to Asia, it is important to have robust transfer pricing guidelines to ensure that profits are allocated to where economic activities take place and where value is created".

Sources of information: Comments from MoF response to the questionnaire of UN Sub-committee of Nov 2014; MoF press release of 6 Oct 2015 following finalisation of BEPS project; and from MOF/IRAS officials at various fora

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Singapore: BEPS positionBEPS aligned actions taken since 2015

• 12 January 2017: IRAS issued the 4th Edition Transfer Pricing Guidelines (“TPG”) which introduces increased requirements on TP documentation and exchange of information

• 10 October 2016: Introduction of CbCR in Singapore (gazetted into law under Income Tax Amendment Act on 30 December 2016)

• 16 June 2016: Singapore becomes BEPS Associate and commits to implementing the four minimum standards under the BEPS project:

1. Transfer pricing - Country by Country Reporting (“CbCR”);2. Enhancing dispute resolution;3. Countering harmful tax practices;4. Preventing treaty abuse.

• 20 January 2016: Singapore deposited its instrument of ratification for the Convention on Mutual Administrative Assistance in Tax Matters (signed 29 May 2013) [As of 31 December 2016, 15 bilateral agreements for exchange of financial account information (CRS) have been signed.]

• 6 Jan 2015 and 4 Jan 2016: IRAS issued 2nd and 3rd Edition TPG respectively (contemporaneous TP documentation and tightened APA process)

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Singapore: BEPS positionBEPS aligned actions taken since 2015

Tax changes with BEPS flavour in Budget 2017

Finance Minister announced:

(1) New IP Development Incentive (IDI)

• IDI will include BEPS-compliant modified nexus approach

• EDB to give more details by May 2017

(2) Enhancements to Global Trader Programme (GTP)

• Substantive requirement to qualify for GTP will be increased

• IE to give more details by May 2017

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4th edition TP Guidelines and other Key TP updates

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E.g. Availability of credit lines from banks

1. Risk characterisationEnsuring appropriate profit allocation in line with substance, value creation and commercial realities

Explicit statement in 4th edition TPG

• Profits should be taxed in jurisdictions where real economic activities driving the profits take place and where value is created

FAR comparison

• Should discuss commercial and economic circumstances (e.g., market size, extent of competition, market segment, government policies and regulations, business strategies)

Robust FAR analysis (risk characterisation)

• Assumption of risk needs to be accompanied / demonstrated by

− Ability to control the risk

− Financial capacity to assume risks

Focus on operational substance and decision

making capacities!

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E.g. Capability and authority to decide to take on, lay off or decline the risk (e.g., whether to take on customer, take on the order or provide credit terms) + capability and authority to decide whether and how to respond to the risk

Even in outsourcing need to demonstrate it has capability to make decisions and review the work of the outsourced provider

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2. Disclosure and exchange of rulings

IRAS e-Tax Guide: Transfer Pricing Guidelines (Fourth edition)

Section 6.13: Disclosures of APAs

Section 8.13: Spontaneous exchange of APAs

In line with

• BEPS Action 5 (Harmful Tax Practices)

• International commitments on participating in tax transparency

This will provide further level of detail of the group’s overall tax and TP model

!

Exchange with territories

a) Of all related parties with whom the taxpayer enters into transactions that are covered by the unilateral APAs.

b) Of the taxpayer’s ultimate parent entity and immediate parent entity.

(certain criteria expected)

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3. Determination of threshold of related party transactions for which contemporaneous TP documentation should be maintained

What does this mean for taxpayers?

• Taxpayers to relook at position taken in preparing contemporaneous TP documentation

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IRAS e-Tax Guide: Transfer Pricing Guidelines (Fourth edition)

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4. Country-by-Country Reporting (CbCR)

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• CbCR is of particular interest to many MNC groups (consolidated revenues threshold of Eur 750 mil)

• Disclosure of key information on country-by-country basis

– Financial information (e.g., revenues, profit before tax, income tax paid, capital etc.); against

– Economic indicators (e.g., business activity, asset base and headcount)

• Global requirement - CbCR template submitted to and automatically exchanged between tax authorities (AEoI)

• Timeline - For financial information as from 1 January 2016 (FY 2016)*

Tax jurisdiction Revenues

Profit(loss) before income

tax

Incometax paid (on cash

basis)

Income taxes

accrued –current

year

Stated capital

Accumulatedearnings

Number of employees

Tangible Assets

(other than cash and

cash equivalents)

Unrelated party

Related party

TotalNew global compliance requirement

!

Transparency over global profit allocation

and value chain

* Many countries have announced the introduction of CbCR rules for financial information as from 1 January 2016. However, a number of countries have announced these rules for financial information as from 1 January 2017 or later. Singapore announced introduction of CbCR for financial information as from 1 January 2017 (with voluntary filing option for affected Singapore groups for financial information as from 1 January 2016)

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• Regulatory requirement obligation is with IRAS

• Local filing/ local notification requirements

• Risk assessment

• Technology tools to help with automating data collection and risk analysis

CbCRKey attention points for groups

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1 2 3 4Information collection

1. Identify and map data sources

2. Submission to applicable tax authority

3. Local notification/ additional filing requirements

Risk assessment & diagnostics

1. Analyse data

2. Issues spotting

3. Identify outliers

Identify remediation steps (if any)

1. Pre-emptive Restructuring

2. Consider interactions with other BEPS action plans

3. Strengthen internal governance, controls and documentation

Automation of data collection

1. Periodic monitoring

2. Consider automation solutions

3. Data integrity considerations

• Regulatory requirement to report lies with the HQ/ Parent jurisdiction with tax authorities in their respective countries

• Regional roles: Consider local filing/ local notification requirements in the region

• Risk assessment

Foreign MNCs Singapore-based MNCs

Foreign MNC vs. Local MNC considerations

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5. Update on MAP and APA guidelines

IRAS e-Tax Guide: Transfer Pricing Guidelines (Fourth edition)

…

Unilateral settlement efforts made independently of the IRAS…

• Jeopardises the IRAS’ negotiation efforts with other competent tax authorities.

• May result in double taxation consequences.

Invoking an MAP process…

• Will unlikely be successful in overturning or rectifying an outcome determined through the due domestic legal process.

Therefore…

• Consider dispute resolution strategy and start engaging the IRAS earlier in the dispute resolution process.

What does this mean for taxpayers?

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6. Introduction of indicative margins for intercompany loans

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What does this mean for taxpayers?

• If safe harbour applied: Reduce administrative burden on elaborate TP analysis.

• If safe harbour not applied: Robust defense of the arm’s length nature of the interest charged expected.

The indicative margin published on IRAS website applicable for the period 1 January 2017 to 31 December 2017 is +250 bp (2.5%).

Base reference rate may be floating (e.g. SIBOR, LIBOR) or fixed (e.g. swap rates, SGS yield rates)

=Interest rate

Base Reference rate

+

Indicative margin

* Applies to both Singapore-dollar denominated and foreign currency denominated eligible related party loans

Loan quantum does not exceed equivalent of S$15 million at the time the loan is obtained or provided.

Threshold is based on loan committed, not loan utilised.

Loan is obtained or provided from 1 January 2017

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2

3

Other points to note:

• Not for eligible related party loans obtained or provided prior to 1 January 2017.

• Not available for guarantees.

• Challenge from counter party’s tax authority.

Safe harbor conditions*

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7. YA 2018 RPT form

• Announcement by IRAS on 24 October 2016

• Implementation with effect from YA 2018 (i.e. FY 2017)

• Materiality threshold for completing RPT Form if value of RPT exceeds S$15 million

• Submission together with Form C

• Purpose to assist the IRAS in administering the arm’s length principle

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YA 2018 RPT forms

Identity of Ultimate Holding

Company

!

Breakdown of transaction

types

!

Identity of related party, relationship

& breakdown on quantum

!

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The transparency agendaCornerstone of the international tax environment moving forward

• Transparency is the cornerstone of the BEPS initiative and has become a global standard.

• New disclosures and exchange requirements provide tax authorities with more information on

– High level information on global profit allocation and operations of an MNE Group (CbCR)

– Details of a group’s TP policies (TP documentation, RPT forms) and specific tax positions (Exchange of information (EoI))

• Serious intent of tax authorities to co-operate more with each other and drive transparency agenda

– OECD BEPS peer review program on EoI and CbCR

– Wide spread adoption of TP documentation requirements and CbCR globally

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The BEPS agendaAn important focus of Singapore and IRAS

• As BEPS Associate, Singapore has committed to complying with these minimum standards:

1. Transfer pricing - Country by Country Reporting (“CbCR”)

2. Enhancing dispute resolution

3. Countering harmful tax practices

4. Preventing treaty abuse

• As BEPS Associate, Singapore participates in and subject to PEER REVIEW

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BEPS Action 13 on Country-by-Country Reporting: Peer Review and Monitoring

• 1 Feb 2017: OECD released the terms of reference and methodology for peer review of Action 13 minimum standard for CbC reporting: BEPS Action 13 on Country-by-Country Reporting, Peer review documents.

• Peer Review to be conducted by an ad hoc group (comprising delegates of both Working Party 6 and Working Party 10) in accordance with these terms of Reference and methodology.

• Terms of reference are broken down into three aspects:1. The domestic legal and administrative framework;2. The exchange of information framework;3. Confidentiality and the appropriate use of CbC Reports.

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BEPS Action 5 on Countering Harmful Tax Practices More Effectively, Taking into Account Transparency and Substance: Peer Review and Monitoring

• 1 Feb 2017: OECD released the Terms of Reference and Methodology for peer reviews on the Action 5 standard for the exchange of information on tax rulings (the "transparency framework").

• Peer review and monitoring process to be conducted by the Forum on Harmful Tax Practices (FHTP) in accordance with the Terms of Reference and Methodology.

• The Terms of Reference are broken down into four aspects, which capture the key elements of the transparency framework:1. The information gathering process;2. The exchange of information;3. Confidentiality of information received;4. Statistics.

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BEPS Action 14 on Making Dispute Resolution Mechanisms More Effective: Peer Review and Monitoring

• Oct 2016: OECD released key documents that will form the basis of the MAP peer review and monitoring process under Action 14 of the BEPS Action Plan.

• Peer review and monitoring process to be conducted by the Forum on Tax Administration MAP Forum in accordance with the Terms of Reference and Assessment Methodology.

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What can companies do to prepare themselves?

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What to do? First things first ….

• Ensure a coherent and consistent tax and TP model in line with operational substance and commercial realities, is deployed and implemented in accordance with the arm's length principle

• Ensure robust tax and TP policies, appropriate TP documentation and relevant supporting documentation are in place

• Pursue tax dispute prevention strategies e.g. bilateral APA

• Assess implications arising from recent transparency developments in Singapore and elsewhere e.g. exchange of unilateral APAs, including those for past years etc. and take steps to address (e.g. value chain analysis)

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Value Chain Analysis vs Traditional TP

VCA does not replace Traditional Transfer Pricing analysis...

1. Peer analysis

3. Industry analysis

2. Functional analysis

4. Economic analysis

1. Business overview

2. Competency analysis

3. Entity mapping

PwC’s Value Chain Analysis (“VCA”) is a unique approach developed to help Multinational Enterprises (“MNEs”) prove: • where profits reside across the value chain; and • justifications for such profit allocation.

4. Bespoke outcomes

VCA supplements and validates profit allocation outcome….

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Managing expected increase in cross-border tax disputes

Meeting increased

compliance requirements

Tackling long-drawn audit process in

aggressive tax jurisdictions

Meeting increased disclosure & transparency requirements

KEY DRIVERS

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Allows the Group / Company to develop a clear objective commercial statement as to how profit attaches to different components of the value chain

Provides a big picture and an objective basis for analysing the profit creation across the Group (or region)

Diagnoses whether profits allocated to Group entities (Globally or regionally) are aligned to value creation

Re-affirms the transfer pricing policy and master file analysis, or identifies potential transfer pricing risk areas and/or mismatches.

From a practical perspective…

Local compliance and APA application – will help demonstrate the

end to end value chain and respective profit

allocation

Provide a big picture perspective to ensure efficient management of optimal effective tax

rate

Corroborative analysis that can be used in TP

audits and disputes

1

2

3

4

An explanation of CbC data – the basis of the Masterfile module (as narrowly defined by

the OECD) and broader group TP documentation!

Value Chain Analysis – Benefits to Company from a Global & Regional perspective

Enables Global HQ / Regional HQ to examine operational effectiveness!

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VCA – Broad illustration of steps and output

BESPOKE

1. Acts as a defence in the event of tax audits/ disputes

2. Formation of Group TP policies

3. Inputs to Global TP Masterfile

4. Business and tax rationalisation exercises

5. Businessrestructuring (“VCT”)

Bespoke outcomeAnalysis of the competencies,

profits and legal entity mapping3

a) Analysis of margins with reference industry and substance

b) Mapping of competencies to legal entities

Deliverables

A report detailing how much profit should be reported by the

legal entities within a group.

Breakdown of routine and non-routine profits earned by peers to competencies

2

x%

Excess profits earned x% Routine profitsx%

Non-routine profits

Legend:

40%

30%

20%

10%

R&D Manufacturing assets

Manufacturing Marketing & Sales

Logistic

x%

x%

x%

x%

Average return of peers

x%

Your return

x%x%

x%x%x%

x%

Deliverables

A report identifying how profit attaches to different

competencies.

1Identify value attributable to each competency across value chain

Total system profits across value chain (typical of industry)Deliverables

A report identifying competencies which create

competitive advantage.

xx%

Research and Development

(%)

Manufacturing

(%)

Marketing and Sales

(%)

Logistics

(%)

Manufacturing assets

(%)

What drives profits?

How profits are made? Where profits are made?

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Case StudyTelecommunications mobile operator – A value chain analysis to develop a clear commercial statement as to how profits attach to different components within the business value chain

SummaryA leading emerging markets mobile operator which has presence in more than 20 countries in Developing Markets wanted to undertake a value chain analysis to support TP controversy defense and position TP policies for new business lines

Client’sChallenge

PwC Solution

Impact on Client’s Business

• PwC worked with the client to undertake a value chain analysis.

• High margins in local markets, the relative contribution of brand intangibles and residual profit drivers were identified using sector wide comparables.

• Function and risk were mapped onto key value driving competencies and host entities to arrive at a view of as-is system profit allocation and profit portability.

• Client’s legacy Telco business was decentralised but supported with a single, global brand strategy. High in-country margins led to Tax Audit and controversy in the brand owner territory. Traditional TP comparables were limited and of questionable quality.

• Opportunities to plan for centralised Procurement and Digital Enterprise solutions created a further need to understand the value contribution across the value chain.

• Empirical evidence to support “relative contribution” analysis in on-going TP litigation.

• Clear and consistent value map built from which future TP policy options could be determined.

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Closing thoughts

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Closing thoughts

• IRAS is taking steps to fulfil Singapore’s global commitments as well as to protect its tax base.

– Increased disclosures

– Spontaneous exchange of information

• Increasingly stringent enforcement of TP aspects by tax authorities around the world

• Continuing risk assessment would be essential as each jurisdiction might adopt unilateral measures to counter BEPS

• Pressure will be on taxpayers to have robust tax and TP policies, appropriate TP documentation and relevant supporting documentation in place as part of its dispute prevention strategy.

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The Future of Taxation

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SUBSTANCEDISPUTE

RESOLUTIONTRANSPARENCY

Thank you.

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Lets discuss.

Nicole FungPartner, Transfer Pricing LeaderEmail: nicole.fung@sg.pwc.com

Chai Sui FunPartner, Transfer Pricing, Tax Controversy & Dispute Resolution LeaderEmail: sui.fun.chai@sg.pwc.com

Falgun ThakkarPartner, Transfer PricingEmail: falgun.d.thakkar@sg.pwc.com

Tan Hui ChengPartner, Corporate Tax Advisory Services Email: hui.cheng.tan@sg.pwc.com

Lynn TayDirector, Transfer Pricing (Financial Services)Email: lynn.tay@sg.pwc.com

Vivienne Junzhao OngDirector, Transfer PricingEmail: vivienne.junzhao.ong@sg.pwc.com

Cassandra SoonDirector, Transfer PricingEmail: cassandra.s.soon@sg.pwc.com

Igarashi JunDirector, Transfer PricingEmail: jun.igarashi@sg.pwc.com