Senate

Treasury Laws Amendment (Combating Multinational Tax Avoidance) Bill 2017

Diverted Profits Tax Bill 2017

Diverted Profits Tax Act 2017

Revised Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon Scott Morrison MP)
This explanatory memorandum takes account of amendments made by the House of Representatives to the Bill as introduced.

Chapter 3 - Transfer pricing guidelines

Outline of chapter

3.1 Schedule 3 to this Bill amends the ITAA 1997 to update Australia's transfer pricing rules in Division 815 to include the OECD Base Erosion and Profit Shifting (BEPS) amendments to the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations that were approved by the OECD Council on 23 May 2016.

3.2 The 2016 amendments are set out in the 2015 BEPS Report Aligning Transfer Pricing Outcomes with Value Creation, Actions 8-10 - 2015 Final Reports (2015 OECD Report).

Context of amendments

3.3 Australia's transfer pricing rules are integrity rules designed to ensure that Australia receives an appropriate share of tax from multinational firms.

3.4 Australia's transfer pricing rules require an entity entering into a cross-border transaction to value that transaction according to the arm's length conditions and arm's length profits that might be expected to exist between independent entities that deal wholly independently with one another in comparable circumstances.

3.5 Arm's length conditions and arm's length profits are required to be identified consistently with certain guidance material. Currently this guidance material includes the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations, as approved by the Council of the OECD and last amended on 22 July 2010 (2010 OECD Guidelines).

3.6 In 2013, as part of the G20/OECD BEPS Project, it was acknowledged that the existing international standards for transfer pricing rules could be misapplied so that they resulted in outcomes in which the allocation of profits was not aligned with the economic activity. [2] Consequently, further work was undertaken to strengthen the 2010 OECD Guidelines.

3.7 On the 5 October 2015 the OECD released the 2015 OECD Report which includes additional guidance on intellectual property and hard-to-value intangibles and other high risk areas.

3.8 The Australian Government announced in the 2016-2017 Budget that it will update Australia's transfer pricing legislation to achieve consistency with the 2015 OECD Report Aligning Transfer Pricing Outcomes with Value Creation, updating the previous guidance material.

3.9 Requiring consistent interpretation with the amended OECD Guidelines (where relevant) does not imply that Australia is adopting the OECD functionally separate entity approach to the attribution of profits to permanent establishments. Australia's current approach is retained (the relevant business activity approach).

3.10 This measure forms part of the Government's Tax Integrity Package, which will strengthen the integrity of Australia's tax system.

Summary of new law

3.11 The application of the transfer pricing rules in Division 815 is required to be consistent with the new 2015 OECD Report. The Report is designed to amend and update the 2010 OECD Guidelines to enhance their integrity.

Comparison of key features of new law and current law

New law Current law
Australia's transfer pricing rules require an entity entering into a cross-border transaction to value that transaction according to the arm's length conditions that might be expected to operate between independent entities dealing wholly independently with one another in comparable circumstances. These arms' length conditions are required to be interpreted so as best to achieve consistency with the OECD Guidelines as amended on 23 May 2016 or any other document prescribed by Regulation. Australia's transfer pricing rules require an entity entering into a cross-border transaction to value that transaction according to the arm's length conditions that might be expected to operate between independent entities dealing wholly independently with one another in comparable circumstances. These arms' length conditions are required to be interpreted so as best to achieve consistency with the 2010 OECD Guidelines or any other document prescribed by Regulation.

Detailed explanation of new law

3.12 Applying the arm's length principle is the internationally accepted approach to dealing with transfer pricing issues. The OECD has provided guidance material on the application of transfer pricing and the arm's length principle in the Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations (OECD Guidelines) first published as the Report on Transfer Pricing and Multinational Enterprises in 1979.

3.13 Since that time there has been exponential growth in world-wide intra-group trade and the OECD Guidelines were revised in 1995 and further updated in 2010.

3.14 The OECD Guidelines have been the subject of further review as part of BEPS. The result was the 2015 OECD Report.

3.15 The three key areas the 2015 OECD Report focuses on are:

transfer pricing issues relating to transactions involving intangibles;
contractual arrangements including the contractual allocation of risks and corresponding profits, which are not supported by activities actually carried out and the resulting allocation of profits to those risks; and
the level of returns to funding provided by a multinational enterprise group member, where those returns do not correspond to the level of activity undertaken by the funding company.

3.16 The 2015 OECD Report amendments to the 2010 OECD Guidelines were formally approved by the OECD Council on 23 May 2016.

3.17 It is necessary to read the 2010 OECD Guidelines and the 2015 OECD Report together to ensure that the intended effect of the amendments are referenced - as the OECD has not yet produced a updated consolidated version of the 2010 Guidelines.

3.18 Consequently, when applying the transfer pricing rules in Subdivisions 815-B and 815-C the relevant guidance material now includes the the 2010 OECD Guidelines and amendments outlined in the 2015 OECD report. [Schedule 3, items 1 and 2]

3.19 It is important to note that regulations may be made to add or alter the guidance material relevant to the interpretation of Subdivisions 815-B and 815-C. [Schedule 3, item 3]

Application and transitional provisions

3.20 These amendments will apply to income years commencing on or after 1 July 2016. [Schedule 3, items 4]

STATEMENT OF COMPATIBILITY WITH HUMAN RIGHTS

Prepared in accordance with Part 3 of the Human Rights (Parliamentary Scrutiny) Act 2011

Transfer pricing guidelines

3.21 This Schedule is compatible with the human rights and freedoms recognised or declared in the international instruments listed in section 3 of the Human Rights (Parliamentary Scrutiny) Act 2011.

Overview

3.22 This Schedule updates Australia's transfer pricing rules in Division 815 of the ITAA 1997 so that they include the OECD BEPS amendments to the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations that were approved by the OECD Council on 23 May 2016.

Human rights implications

3.23 This Schedule does not engage any of the applicable rights or freedoms.

Conclusion

3.24 This Schedule is compatible with human rights as it does not raise any human rights issue.


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