In October 2015, the Organisation for Economic Co-operation and Development (OECD) released its final report on Action 13 of the Action Plan on Base Erosion and Profit Shifting (BEPS Action Plan)–Transfer Pricing Documentation and Country-by-Country Reporting. Specifically, Action 13 of the BEPS Action Plan requires the development of "rules regarding transfer pricing documentation to enhance transparency for tax administration, taking into consideration the compliance costs for business..."
In response to the Action 13 mandate, the OECD created a three-tiered standardized approach to transfer pricing consisting of:
- A Country-by-Country Report;
- A Master File; and
- Local Files.
The final report under Action 13 revises the text of Chapter V of the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations (OECD Guidelines) in its entirety.
Per Chapter V of the OECD Guidelines, the Master File "provides an overview of the Multinational Enterprises (MNE) group business, including the nature of its global business operations, its overall transfer pricing policies, and its global allocation of income and economic activity in order to assist tax administrations in evaluating the presence of significant transfer pricing risk. In general, the master file is intended to provide a high-level overview in order to place the MNE group's transfer pricing practices in their global economic, legal, financial and tax context. It is not intended to require exhaustive listings of minutiae (e.g., a listing of every patent owned by members of the MNE group) as this would be unnecessarily burdensome and inconsistent with the objectives of the master file."
The Master File is to be filed or maintained locally in each MNE group member whose jurisdiction has adopted the Master File requirements.
Adoption of OECD Master File
Several countries have adopted the OECD Master File requirements. However, adoption is not uniform.
- Some countries have not adopted the Master File (e.g., US). However, if a Master File exists, such countries could potentially still ask for it on audit.
- While most countries that have adopted the Master File have retained the OECD template, some have included additional or different provisions (e.g., China).
- While most countries have followed the OECD guidance requiring the Master File to be prepared within 12 months of the MNE parent's fiscal year end, some countries have adopted different schedules (e.g., Indonesia).
- Some countries require submission of the Master File to the tax authority by the due date (e.g., Australia) while others require the Master File to be prepared by the due date and held in the company's files until requested for it (e.g., Austria). In addition some countries require a declaration on specific forms (e.g, in the corporate tax return) indicating the date on which the master file was available (e.g., Indonesia)
- Countries have adopted different thresholds for preparing a Master File, which may be lower than their Country-by-Country Report thresholds (e.g., Netherlands requires a local entity to prepare a Master File if consolidated group revenues equal or exceed EUR 50 million).
- Some countries have instituted penalties for not meeting the Master File requirements (e.g., Belgium).
- While some countries accept Master Files written in English (e.g., Netherlands), others require translation to the local language (e.g., Indonesia).
Thus, it is important for MNEs to continually monitor the evolving Master File landscape and make sure that they comply with local country requirements.
Considerations in Preparing a Master File
Many companies are in the process of preparing their very first Master File. From a taxpayer's perspective, the Master File can be thought of as a strategic document – one that allows it to present the story of its global business supporting its tax structure, but one that can potentially also raise questions from tax authorities.
Consistency is a key theme for the Master File for companies
It is important for the Master File to be consistent with the Local Files and Country-by-Country Report. E.g., if a Local File describes the local entity as a routine distributor, then it is expected that the Master File discussion of that entity will be consistent. It is also important for the discussion in the Master File to be internally consistent. E.g., the discussion of key value-drivers should be consistent with the discussion on intangibles, the discussion of intangible ownership in the intangibles section should be consistent with the functions and risks description, etc.
The level of detail to include in a Master File is a strategic decision
A question that comes up frequently is how detailed the Master File should be. The OECD guidance is that the Master File is intended to "provide a high-level overview in order to place the MNE group's transfer pricing practices in their global economic, legal, financial and tax context" and is not intended to require "exhaustive listings of minutiae." Thus, there is no "requirement" for the Master File to extensively document the MNE's business. However, depending on the MNE's objectives and priorities, it might decide that a detailed Master File is the optimal approach for it.
Some factors a company may consider in deciding on the best approach for it are as follows:
- Are there special features of the MNE that are best described in detail in the Master File and which will help provide important perspective for the Local Files and Country-by-Country Report?
- Does the MNE have distinct operating units which might be best discussed separately?
- Are resources available to prepare a more extensive Master File?
- Although no country has as yet said the Master File will be made public, the Master File could potentially become public; how does that affect the MNE's decision on amount of information to put in the Master File?
- There are likely to be stakeholders other than Tax in the Master File preparation (e.g., Investor Relations, General Counsel, Public Relations, CFO, etc.); what are their thoughts on a skinny versus detailed Master File?
- What sort of precedent will the current Master File set for the future? It might be easier to switch from a skinny to detailed Master File in the future as opposed to the converse.
- There might be greater scope for inconsistencies or errors the more information there is in the Master File.
- Updating the Master File might be greater work in the future the longer it is.
There may be multiple reasonable approaches to complying with a Master File requirement
Annex I of the revised Chapter V of the OECD Guidelines contains a list of required items for the OECD Master File. The OECD, however, does not provide guidance on each of these items. The list includes terms such as "principal" and "important" which different companies may interpret in different ways. In keeping with the overall objective of the Master File, which is to provide a high-level overview of the MNE's global business, there may be different reasonable approaches to complying with the Master File requirements. The following are some examples:
- The Master File requires a "chart" illustrating the MNE's legal and ownership structure and geographical location of operating entities, but provides no other guidance as to what constitutes a "chart." Some MNEs may interpret "chart" as a graphical representation of their MNE structure, while others may use different formats, such as a table.
- The word "product" will have different meaning for different companies. Not only could a "product" be something other than a physical good, e.g., a service, a financial instrument or intellectual property, it could also be interpreted at different levels of granularity. For example, one company might consider a "product" to represent relatively homogenous units of sale, whereas another might consider a "product" to be a broader category of sale where each unit might not be homogenous but have some significant characteristic in common with other products in its product category.
- The Master File requires a description of the "supply chain" for the MNE's top products, but does not define supply chain. Some companies may reasonably interpret a supply chain to be a description of the steps by which a "product" defined in the Master File travels through the MNE group. This view of the supply chain is "product"-focused and keeps the supply chain simple; it does not include transactions or flows that were not directly touched by the "product." Other companies might take a more expansive view, including all transaction flows between their members.
- The Master File requires a "list and brief description of important service arrangements between members of the MNE group, other than research and development (R&D) services, including a description of the capabilities of the principal locations providing important services and transfer pricing policies for allocating services costs and determining prices to be paid for intra-group services." Companies may differ in the level of detail they report in their Master File. For instance some companies may present the information in the form of a table, with one row for each service arrangement and columns for providing (a) description of the services provided, (b) locations of service providers and (c) transfer pricing policies. Others may include more detailed descriptions. Further, companies may have different reasonable definitions of "important" service arrangements; some may include all while others may impose thresholds, such as materiality thresholds on service arrangements that they include.
The list above is just a sampling of areas where companies may reasonably interpret the OECD Master File requirements in different ways. The important point to keep in mind is that the interpretation of the requirement should reasonably address the Master File requirement in line with the overall objective of the Master File to provide tax authorities a high-level overview of the MNE's business. It is also important to internally document the company's interpretation of the Master file requirements (e.g., if a materiality threshold for important service arrangements to include in the Master File is used, the MNE will want to document what the threshold is and how was it determined). It may be several years from when the Master File is written to when it is reviewed by a tax authority and the company may be asked how it interpreted certain requirements.
Along with the Country-by-Country Report, the Master File is a new document resulting from the BEPS project that many companies are preparing for the first time for their 2016 fiscal years. This article discussed some of the considerations companies are factoring into their preparation of their very first Master Files. Once the initial Master Files reach the hands of tax authorities and they start reviewing them, it will be interesting to see how the tax authorities use them.