TRANSFER PRICING: THE NEW RULES OF THE COMPLIANT DOCUMENTATION
The changes introduced by the Provision of the Revenue Agency of 23 November 2020
With the Provision of 29 September 2010, the Italian Government introduced specific documentation requirements for companies belonging to multinational groups, establishing that the provision of “compliant documentation” relieves the taxpayer from the normal regime of tax-geared penalties provided for by Law Decree No. 471/1990 in case of on the transfer prices applied by related companies entered into intercompany transactions.
The regime is optional but grants consistent advantages to the compliant taxpayers (penalties range from 90% to 180% that will be applied in case of transfer pricing assessment).
On 23 November 2020, the Italian Revenue Agency issued the Provision No. 360494, which replaces the 2010 Provision by introducing relevant changes about the documentation requirements aimed at verify the compliance of intercompany transactions with the arm’s length principle as stated in the Article 110, paragraph 7 of the Italian Income Tax Act (i.e, Tuir), as amended by Article 59 of Law Decree No. 50/2017.
Main changes compared to the previous regulation
The new instructions of November 23, 2020 implemented the Decree of the Ministry of Economy and Finance (MEF) of May 14, 2018 which accordingly with OECD standards introduced new guidelines for the transfer pricing providing a technical guidance to the taxpayer about:
- The selection of the transfer pricing method;
- The possibility of aggregation of multiple transactions,
- The correctness of falling within any value of the interquartile range (not necessarily the median value),
- The possibility of adopting the so-called “simplified approach” for the analysis of low value-added services.
On the other hand, the specific provision concerning the exemption from penalties otherwise applied to the extent of 90%-180% (i.e., the penalty protection rule) remain unchanged, as confirmed by the reference to Article 1, paragraph 6 and Article 4 ter of Decree 471/1997 contained in the new Provision.
Extension of the taxpayer’s burden
The most significant changes introduced by the Revenue Agency’s instructions concern both the content and structure of the Master File and the Country File, as well as the extension of the duty to prepare the compliant documentation to all the Group companies, regardless of their positioning within the ownership structure.
The following paragraphs provide a general overview of the main changes introduced by the Provision, which will be applied, for companies with a fiscal year corresponding to the calendar year, from the ongoing fiscal year at the date of November 23, 2020 . Therefore, the transfer pricing documentation for the fiscal year 2020, that must be delivered within the deadline for submitting the tax return (November 30, 2021) will already follow the new rules.
Structure and content of “compliant documentation”
The Italian Revenue Agency introduced the extension of the obligation OF preparing the Masterfile to all Group companies (not limited to holding and sub-holding companies as provided under the previous regulation): therefore, for the years ongoing 2020, the required Documentation is will include both a Masterfile and a Country File, to be drafted in Italian language. The taxpayer is entitled to draft the Master File in English.
The above requirements also apply to permanent establishments, where applicable.
The Master File collects information about the activities of the multinational group and specifies the worldwide distribution of income among the different entities.
The Country File refers to the activities of the Italian entity, providing detailed information on the company’s business strategy, the functional-risk-asset analysis (the so-called “FAR analysis”) and the financial results. A specific section is focused on the analysis of each intercompany transaction with the foreign related parties, applying one of the transfer pricing methods identified by the OECD Transfer pricing Guidelines.
 OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations, July 2017.
Form of the documentation
One of the most significant changes introduced by the new instructions is the provision that both the Master File and the Country File must be signed through electronic signature by the legal representative (or a his/her delegate). The electronic signature gives certainty (using a “timestamp“) to the date of signing, which must be almost the same (or earlier) in respect of the filing date of the tax return for the fiscal year under analysis.
If the taxpayer does not comply with this requirement, the Documentation cannot benefit from the penalty protection regime.
The time stamp consists of a duty stamp to affix on the document. The duty stamp must be dated on the day of deadline for the delivery of the tax return (usually November 30 of each year, unless the Government has provided for extensions). This procedure is aimed at obliging the taxpayer to respect the delivery terms set out in the Provision.
Deadlines for delivery the documentation
In the event of a tax audit, the Documentation must be provided within 20 days (10 days more than under the previous 2010 provision) of the tax auditors’ request. Any additional information that may be requested during a tax audit must be provided within 7 days.
Conditions for the effectiveness of the documentation
The documentation must be considered compliant […] “regardless of the transfer pricing method chosen by the taxpayer or the comparables selected after the performance of the benchmark analysis”.The Provision provides for the equivalence from a substantial point of view of the methods, by implementing the statements of the Decree of May 14, 2018).
The CUP method is no longer considered a “the most appropriated” method, but the selection of the transfer pricing method must be evaluated case-by-case based on the functional analysis performed.
Burden of proof
In the event of tax audit, any findings raised by the Tax Authoritymust be specifically motivated. The new Provision provides for a “strengthened guarantee” in favor of the taxpayer.
Supplementary declaration and “remission in bonis”
As under the previous rules, to benefit from the penalty protection regime, the taxpayer must notify the Revenue Agency the possession of the Transfer Pricing Documentation wthin the deadline for filing the annual tax return for the tax period to which the Documentation refers to. Moreover, the taxpayer is entitled to modify the Documentation. In this case, it is necessary to submit an appropriate communication using a supplementary tax return. Further clarifications on this point are awaited from the Revenue Agency.
The Provision of November 23, 2020 also states the possibility for the taxpayers who had already prepared the transfer pricing documentation for previous fiscal years to align transfer pricing position of compliance if the assessment period is still open (the five years before the date of the entrance in force of the Provision), stating that “Ifthe supplementary return is filed by 31 December 2020 and it exclusively concerns the fiscal years before the one in progress at the date of publication of this Provision, no penalties and no interests shall be shall be applied where the provisions of the Article 10 (§ 2) of Law No. 212 of 27 July 2000 are applicable”.
This provision allows the taxpayer to correct “errors or omissions deriving from non-compliance with the arm’s length principle of the transfer prices and which have led to the indication within the tax return of a lower taxable amount or, in any case, of a lower tax liability or greater tax credit”
Specific information on low value-added services
To apply the “simplified approach” for the services (application of mark-up 5% is considered compliant without needing to preparethe benchmark analysis), specific documentation must be prepared which consists of 4 sections:
- Description of the services provided by indentifying the beneficiarycompanies and the criteria used for the allocation of the services rendered, also justifying their inclusion within the low added value category.
- Indication of the benefits obtained or expected and confirmation of the profit margin applied.
- Indication of the service agreements entered into with the related companies and description of the main clauses.
- Description, of the calculations made to allocate the costs of low value-added services between the different affiliates based on the criteria indicated in section 1, also by showing the relevant spreadsheets.
“Selection” of intra-group transactions
According to the new rules, the taxpayer is allowed to ‘track’, through detailed description and economic analysis, just some of the intra-group transactions entered into with the related companies during the fiscal year under review. In this case, the penalty protection is granted only with regard the documented transactions.
Conclusions and insights
The Provision of 23 November certainly introduced a discipline much more aligned with the principle of cooperation between the taxpayer and the Tax Administration n, by implementing the best practices coming from the OECD and giving effectiveness to the guidelines included in the Decree of 14 May 2018.
Among the provisions which represent advantages for the taxpayer, we would remark the following topics:
– The provision of a specific guarantee that make mandatory fot the tax auditors to justify any finding against challenging the compliance of the documentation and its contents;
– The possibility for the taxpayer to choose whether to analyse all or just some of the intra-group transactions, without the risk of being denied(partial, where the analysis is limited to some of the transactions) the penalty protection ( 5.3.7).
However, this last provision about the ‘selective documentation’ raises severalissues. Part of thecommunity of transfer pricing experts considers the “option” for transactions as a reference to the so-called “residual” or “non-material” transactions. In particular, the Circular 58/E of 2010, that provided explanations about theapplication of the 2010 Provision, stated that “Omissions or partial inaccuracies relating also to residual transactions, do not affect the correctness of the results of such analysis and the application of paragraph 2-ter of the Article 1 of Law Decree No. 471 of 1997”.
From our perspective, it would seem much more reasonable that the transactions referred to in the aforementioned § 5.3.7 fall within the category of material transactions that for various reasons (without investigating which ones)the taxpayer chooses not to map (e.g. transactions which show a negative marginality due to contingent circumstances, such as the start-up phase of the company, the high costs incurred for the start of new product lines, the purchase of a new production plant, or other exceptional events falling under the force majeure circumstances).
These doubts should be clarified by the Revenue Agency.
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