After all the merriment and celebrations from Christmas and early-year holidays such as the feast of the Black Nazarene, the Sinulog Festival, and Chinese New Year, it is finally the last day of January. Accountants and auditors alike are surely thankful that January, which seemed like an eternity, is over. Finally, a fraction of the tax season is over, and we survived. But it doesn’t stop there. Before we get tied up with finalizing audited financial statements and income tax returns for the year just ended, it is equally important to focus on the reporting requirements for transfer pricing (TP).
We ended 2022 with a series of TP articles dedicated to aiding taxpayers and businesses in assessing, preparing, benchmarking and reporting TP results. Though TP was introduced fairly recently in the Philippines, several guidelines have since been released by the Bureau of Internal Revenue (BIR) for minimum compliance. In time for the tax season, let us revisit the minimum TP requirements in the Philippines.
WHO ARE REQUIRED TO FILE BIR FORM 1709?A taxpayer is required to file BIR Form 1709 (Related Party Transactions Form) or RPT Form when the following conditions are present:
• The taxpayer is required to file an annual income tax return; and
• The taxpayer has transactions with domestic and foreign related parties in the covered taxable year; and,
• The taxpayer is either (1) a large taxpayer, (2) enjoying tax incentives, (3) reporting net operating losses for the current and two immediately preceding taxable years, or (4) a related party that has transactions with a taxpayer classified in the aforementioned three sub-criteria.
Taxpayers are advised to monitor the above conditions on a regular basis because they may not be required to file the RPT Form during the previous year but may be required to file one during the current year or the next. For example, a taxpayer who is not required to file the RPT Form in the previous year is now required to file because it is transferred to the Large Taxpayers Service during the current taxable year. Likewise, a taxpayer who recently registered with Philippine Economic Zone Authority is now required to file the RPT Form.
On the other hand, tax-exempt persons under the Tax Code or under special laws are not required to file due to their tax-exempt status.
The RPT Form may be submitted in accordance with the submission and as an attachment to the annual income tax returns, either manually through the Revenue District Offices or through the BIR’s eAFS system.
WHO ARE REQUIRED TO PREPARE TP DOCUMENTATION?In mid-2020, when the first TP compliance regulations were issued, taxpayers rushed to prepare TP documentation (TPD) to comply with the old requirement of attaching TPD to the RPT Form. Since then, the regulation has been amended such that the submission of the TPD is mandatory within 30 days upon the request of the BIR under a valid Letter of Authority.
Certain thresholds have also been observed in TPD preparation. TPD is required if the taxpayer is required to file the RPT Form, as discussed above, and meets any of the following thresholds:
• Annual gross sales/revenue for the taxable period exceeds P150 million, with total related party transactions exceeding P90 million but excluding key management personnel compensation, dividends, and branch profit remittances; or,
• Sales of goods to related parties exceed P60 million or sales of services, interest payments or utilization of intangible goods exceed P15 million; or,
• TPD was required within the immediately preceding taxable period.
Take note, however, that the RPT Form requires disclosure of whether or not the taxpayer has already prepared TPD. While some taxpayers prefer to prepare the TPD once they breach the above thresholds, other taxpayers, though not exceeding the statutory thresholds, prefer to prepare ahead.
Tax authorities may be keen to adjust transfer prices to arm’s length pricing. As such, TPD should demonstrate that transfer prices are consistent with the arm’s length principle. The benchmarking of transfer prices should be properly presented and defended in the TPD to prevent, if not avoid, possible tax deficiency arising from audit adjustments.
As yet, BIR TP audits greatly depend on the initial TP risk assessment based on submitted RPT Forms, analysis of financial statements and tax returns, among others. However, we have recently noticed that BIR examiners started requesting a copy of the taxpayers’ TPD during tax audit. Without their TPD, taxpayers may be exposed to the BIR’s adjustments to transfer prices and assess possible deficiency taxes. Ultimately, while taxpayers may not be required to file the RPT Form or to prepare a TPD, they may still be required to present sufficient proof that their related party transactions are at arm’s length, especially during a BIR audit.
Beyond being a compliance item, TPD is helpful in planning the reasonable transfer price. It also provides an opportunity to explore the industry in which the taxpayer operates and the economic factors affecting the taxpayer’s operations. In the words of the BIR, nothing prevents any taxpayer from preparing TPD.
Better to have one than none.
HOW OFTEN SHOULD TPD BE UPDATED?There is a tendency to misconstrue that the TPD, once drafted and prepared, is a static document.
The BIR does not require annual TPD updates. However, contemporaneous circumstances must be considered by the taxpayer to update the TPD, such as, but not limited to, significant changes in the business model, the factors or conditions considered in drafting the TPD, the nature of the related party transactions, or when the taxpayer’s transactions exceed the thresholds required to prepare TPD as enumerated above.
On the other hand, the Organisation for Economic Co-operation and Development (OECD) recommends that the TPD be reviewed and updated on an annual basis in order to determine whether an organization’s functional and economic analyses are still accurate and to confirm the validity of the TP methodology previously applied.
The OECD also recommends that the search for comparable companies be updated every three years rather than annually, as long as the operating conditions of the organization remain unchanged. Financial data for the comparable companies, however, should be updated annually.
For instance, TPD that was prepared as of year-end 2020, at the height of the COVID-19 pandemic with unique economic conditions, may not apply to the company at the end of 2022 following shifts made to prepare for the post-pandemic years; hence, the need to revisit and update TPD. In the same manner, if nothing significant has changed in the business model, factors or conditions considered in drafting the TPD, it may just update the financial data of the comparable companies in its TPD and verify whether the result or conclusion remains the same.
The OECD further acknowledges that there may not be significant changes in the economic and functional factors affecting an organization’s business, or that a comparable company in TPD has not changed since the last update, and as such, an annual updating may not be applicable to all organizations. In fact, the OECD defers to tax authorities the frequency of updating the TPD.
TAKEAWAYWhile we collectively move forward from the woes and successes of 2022, taxpayers and business organizations can also move forward by looking back. With January 2023 over and as the remaining months of the tax season loom, it is best to be TP-prepared. What better way to defend the transfer price than by having robust TPD?
Let’s Talk TP is an offshoot of Let’s Talk Tax, a weekly newspaper column of P&A Grant Thornton that aims to keep the public informed of various developments in taxation. This article is not intended to be a substitute for competent professional advice.
Joen Jacob G. Ramas is a senior in charge of Tax Advisory & Compliance division at the Cebu office of P&A Grant Thornton, the Philippine member firm of Grant Thornton International Ltd.