MoF’s new TP law to curtail tax loss

The latest version of the draft differed from the initial one published in September. Is it likely to have significant amendments in the final version?

The draft Decree on Transfer Pricing (TP) was initially published in early September, amended for the first time and released again on October 3 to capture the various comments made, including those from the ministries of Finance, and Planning and Investment. Although it is in draft form, the final draft decree will need to be ready to submit to the prime minister by November 30 for review and signature. This suggests that any further amendments are likely to be minimal.

It is expected that both the TP decree and a TP circular guiding the decree will be effective from January 1, 2017, to give more detailed guidance on the benchmarking study process, the calculation of inter-quartile range, the application of TP methods, and the presentation of TP reports.

From a practical point of view, the Vietnamese authorities require enhanced regulations as the existing guidance is outdated and has been creating confusion in compliance and enforcement. In addition, the TP decree is also a response to base erosion and profit shifting developments at the Organisation for Economic Co-operation and Development level, as well as in Asian jurisdictions like India, China, and Singapore.

The new TP decree will provide guidance on tax compliance issues Photo: Le Toan

TP regulations already exist. So what are the changes made in the draft decree?

First, the definition of related parties appears to be more specific and internationally consistent. In terms of ownership threshold, a party that directly or indirectly holds 25 per cent of the capital actually contributed is considered a related party - as opposed to the 20 per cent threshold of charter capital of the tested party.

Besides, the existing test of a controlled relationship based on transaction volume was changed from a 50 per cent threshold to a 60 per cent threshold. Based on the draft decree, two enterprises are considered related parties if one enterprise directly or indirectly controls more than 60 per cent of the total revenue or total product quantity, while in the prevailing regulation, only product quantity is considered.

This provision was initially introduced to identify transactions between taxpayers in Vietnam with a “paper company” set up in a low tax jurisdiction with no direct shareholding relationship, in order to escape the transfer pricing net. However, the existing definition has triggered significant challenges for many foreign direct investment entities that happen to be part of a supply chain with limited customers, like parts suppliers for speciality manufacturers. The increase from 50 to 60 per cent should have an impact on reducing the number of such companies inadvertently caught in the TP net despite not having shareholding or any other arm’s length connection with the customer or supplier.

There are also significant changes in terms of time and set of documents required, as well as in loans and service fee transactions, which implies the crucial need to have on-hand ready-to-submit reports.

Are there any cases in which tax payers would be exempt from TP screening?

Yes. The decree provides a “safe harbour” basis in which taxpayers with annual total revenue of less than VND50 billion ($2.28 million) and total related party transaction values of less than VND30 billion ($1.37 million) are exempt from the annual TP documentation requirement, though the annual TP form is still required.

In addition, taxpayers will be exempt if they only transact with a local related party with the same tax rate that is not on a ‘tax holiday’. This will be helpful in some cases, but these exemptions will not be available in the case of parties deemed to be related through the 60 per cent customer/supplier transaction relationship discussed above.

Regardless of the above safe harbour, the TP decree still provides room for a tax auditor to make TP adjustments if the tax payer is considered to conduct related party transactions not in keeping with the “arm’s length principle” and “substance over form principle”, or in the case of “arranged independent transactions.”

Which government bodies other than tax authorities are involved in the supervising activities?

The TP decree provided a legal base for Ministry of Finance to request information from several government bodies for transfer pricing and tax scrutiny.

State Bank of Vietnam, ministries of Planning and Investment, Science and Technology, and Industry and Trade are among the bodies which tax authorities could approach and exchange information about taxpayers and their transactions, especially cross-border transactions with related parties. Due to this, taxpayers should be consistent in the information submitted to any authorities and must be well aware that any information submitted previously for other purposes could be easily retrieved and used for TP audit purposes.

What should taxpayers pay attention to now?

It is inevitable that TP audits will become more frequent, and auditors - armed with the decree and underlying support from the tax authorities and multiple government departments - more confident and assertive in their negotiations.

To reduce costs that may arise later, groups with subsidiaries in Vietnam and Vietnamese enterprises should closely follow updates on the development of the draft decree and its guiding circular to understand key changes which are applicable to both the local entity and the group.