EU tax developments: Proposed EU Transfer Pricing Directive

On 12 September 2023, the European Commission (the ‘Commission’) published a proposal for a Directive on Transfer Pricing (the ‘Proposed TPD’) as part of its Business in Europe: Framework for Income Taxation (‘BEFIT’) package. The Proposed TPD is aimed at:

• Introducing the arm’s length principle (the ‘ALP’) into EU law;
• Clarifying the role of the OECD Transfer Pricing Guidelines (the ‘OECD TPGs’) in the EU;
• Ensuring coherent application of the ALP across the EU by enabling common binding rules on specific aspects of transfer pricing; and
• Reducing double taxation, double non-taxation and disputes.
  

Scope

The Proposed TPD applies to taxpayers that are registered or subject to tax in a Member State, and to permanent establishments in the EU; with no immediate exclusions. As such, its scope extends that of Malta’s Transfer Pricing Rules (Subsidiary Legislation 123.207 of the Laws of Malta) (‘TP Rules’) which do not apply to SMEs and provide for de minimis and securitisation transactions exclusions.

The arm’s length principle

The Proposed TP Directive describes the ALP as an international standard that requires transactional outcomes between related parties to reflect outcomes determined by the open market. Apart from introducing a ‘definition’ of the ALP into Malta’s domestic legislation, the Proposed TPD also overrules the local ‘associated enterprises’ definition.

Member States are obliged by the Proposed TPD to ensure that where an enterprise engages in commercial or financial cross-border transactions with an associated enterprise, the former’s taxable profits should be determined in a manner that is consistent with the ALP.

Further to this, Member States should ensure inclusion in the tax base and taxation of any profits that would have accrued had it not been for the non-arm’s length conditions imposed in commercial or financial cross-border transactions between associated enterprises.

The Proposed TDP goes on to mandate the process for Member States to apply the ALP. It identifies as the arm’s length range, in the context of a range of values produced by the appropriate transfer pricing method, the interquartile range of the results of the uncontrolled comparables. Unless a different positioning is justified, Member States should not require an adjustment if the taxpayer positioned itself within this range. Where the controlled transaction results fall outside this range, the adjustment should be based on the 50th percentile of the range.

To prevent double taxation, the Proposed TPD generally requires Member States to guarantee corresponding adjustments. In the absence of a primary adjustment, Member States may enable downward adjustments consistent with the ALP.

The proposed TPD also provides for a limited right for taxpayers to make year-end compensating adjustments.

Transposition into domestic legislation

In the event that this proposal is adopted as an EU Directive, the current timeline is for Member States to transpose the Directive by 31 December 2025 and apply it from 1 January 2026.

Malta introduced formal transfer pricing rules on 18 November 2022. The TP Rules apply to arrangements entered into or materially altered from 1 January 2024. The Proposed TPD requires express alignment of its transposition and implementation with the OECD TPGs, enshrining the international standard into domestic legislation further to contentious debate in EU Courts.

If the Proposed TPD is adopted, the TP Rules are expected to require adjustment to align not only with the overarching provisions of the Proposed TPD, but also with ensuing Council implementing acts on the application of the OECD TPGs in respect of specific transactions such as the transfer of intangibles, intra-group services, business re-organisations, financial transactions and attributions to PEs.

On the threshold of the effective date of the TP Rules, Maltese tax practitioners and taxpayers should monitor the Proposed TPD to determine its impact on the current exclusions, the definition of associated enterprise, and the rights and obligations of taxpayers under the TP Rules, particularly in the absence in the Proposed TPD of a grandfathering provision.