Beware of the COVID-19 Pandemic Impact on Transfer Pricing

M. Nur Kusumo Ferby Prihartoro, , Thursday, 14 May 2020

Beware of the COVID-19 Pandemic Impact on Transfer Pricing

The Corona Virus Disease 2019 (COVID-19) pandemic spread rapidly throughout the world since it was first discovered in Wuhan, China, at the end of last year. The pandemic of this deadly virus not only threatens health and isolates a large portion of the world's population, but also forces economic activities to stop in almost all countries. This non-natural disaster also thwarts the recovery of the global economy from the effects of the trade war, the impact of which is further compounded by falling oil prices due to the conflict of black gold producers.

Although invisible, this world's enemy has created a multidimensional crisis and its impact on trade and manufacturing activities that have fallen sharply, and millions of workers have been forced to be laid off. As a result, unemployment surges in various regions, and the threat of the worst economic recession since the 1930 Great Depression is now in our face. The International Monetary Fund (IMF) estimates that the global economy will experience contractions by around 3% this year.

The Organisation for Economic Co-operation and Development (OECD) has warned that COVID-19 is the biggest danger to the world economy since the 2008 financial crisis and on business scale is predicted to have a negative influence on multinational companies' (MNEs) operating income. Such economic conditions will clearly have an impact on the transfer pricing analysis of related-party transactions.

In Indonesian practice, based on the mandate of Indonesian Income Tax Law, the Tax Authority has rights to make a transfer pricing correction to related-party transactions conducted by Taxpayers, especially to the transactions that are not made in compliance with the arm’s length principle. The correction is made by considering the prices or profits made by independent parties. Technically, the correction will use median values of independent comparables’ interquartile range. Then, what is the correlation with current global economy crisis due to COVID-19 pandemic?

In 2015, OECD through Base Erosion and Profit Shifting (BEPS) Action 13 encourages Taxpayers to prepare transfer pricing documentation by using an ex-ante approach, in which the analysis is conducted before or at the time the related-party transactions are made (contemporaneous transfer pricing documentation). Indonesia is one of nations that adopt such suggestion by issuing Ministry of Finance Regulation Number 213/PMK.03/2016. Taxpayers who perform a transfer pricing analysis by using Comparable Uncontrolled Price (CUP) method must pay further attention to the commodities market price fluctuation, especially in the middle of the COVID-19 pandemic. For example, the world crude oil price, as mentioned above, has significantly dropped to the minus value. In this case, the Taxpayers must present an accurate analysis based on five comparability factors in order to generate a precise conclusion.

The application of the Transactional Net Margin Method (TNMM) becomes more challenging in justifying the implementation of arm’s length principle on related-party transactions made by Taxpayers during fiscal years that are affected by COVID-19. The TNMM analysis is performed by comparing tested party’s operating profit level to comparable companies, which is commonly obtained from commercial database. The ex-ante approach in the TNMM analysis observes how a Taxpayer set the operating profit in the beginning of fiscal year and identify the factors that make a gap between the projected and actual operating profits earned by the Taxpayer. 

Technically, a benchmarking analysis in the application of the TNMM is done before a fiscal year begins, or at least at the beginning of the fiscal year. During that period, not all companies’ financial information in the database has been updated by the financial report of the latest fiscal year that is just completed. In practice, there is an alternative to perform the analysis by using comparable companies’ financial information two years before the analysis is performed. For instance, Singapore provides a clear guideline for Taxpayers who want to perform a bencmarking analysis on the operating profit of fiscal year 2020. Based on the guideline, the Taxpayers, when determine prices or profits in preparing updated financial report, use comparable data for 2018. Therefore, there is a possibility of different global economy condition between 2018 and 2020 that may affect profitability of comparable companies and the Taxpayer itself.

The COVID-19 has disrupted the global supply chain. This condition has serious impacts on the decline of overall business operation, which in turn will reflect on the significant decrease in companies’ revenue and profitability. In this situation, related to transfer pricing, the companies incurring loss are highly potential to be exposed. Therefore, the companies with any low profitability or even suffering loss should perform a comprehensive transfer pricing analysis by using an appropriate economic indicator in order to present a hypothetical operating profit when there is no COVID-19 outbreak.

The next challenge of a transfer pricing analysis is after COVID-19, especially for the Taxpayers applying the TNMM. It is predicted that there will be obstacles to find reliable comparable data to conduct an appropriate transfer pricing analysis, considering the diverse impact of the economic crisis faced by companies, industries, or market players as an impact of this COVID-19. Upon these significant differences, companies could make adjustments to the transfer pricing analysis as long as it is reliable and increases the comparability between the tested party and the comparable companies.

Practically, there are several adjustment approaches to the transfer pricing analysis that are potential and reliable, depending on the condition experienced by the Taxpayers. For example, by taking account of the differences in idle capacity or extraordinary expenses. In addition, the exchange rate fluctuations or the exchange rate risk could also be used as an analysis factor. However, it is important to ensure that the adjustments to the transfer pricing analysis are made transparently by preparing detailed information about how the adjustments are made, how the adjusted results are, and how the adjustments to the transfer pricing analysis could improve the comparability between the tested party and the comparable companies.The Taxpayers are also responsible for providing documents to support those adjustments to the transfer pricing analysis.

By considering the dynamics of the crisis that occurs, in the end the Taxpayers really need to prepare the contemporaneous transfer pricing documentation so that the transfer pricing analysis is more comprehensive, accurate, and it does not trigger a correction that could lead to transfer pricing disputes in the future.

*)This article has been published on JawaPos.com, May 13, 2020

**) Reference: 

  • Szu Ping Chan, "Coronavirus: World faces worst recession since Great Depression", BBC, April 14, 2020.
  • Article 18 paragraph (3) of the Indonesian Income Tax Law No. 36 Year 2008.
  • Director General of Taxes Regulation No. 22 Year 2013.
  • Guideline on applying the TNMM benchmarking analysis in more detail is explained in paragraph 6.8 IRAS E-Tax Guide: Transfer Pricing Guidelines (Fifth Edition), February 23, 2018.
  • OECD, Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations, Paris: OECD Publishing, 2017


For in-depth discussions on how to resolve your company's transfer pricing issue after the COVID-19 pandemic, please contact us.  

M. Nur Kusumo Ferby Prihartoro

Assistant Manager, Transfer Pricing


+62 857 1575 1775

Mutiara Mayang Oktavia

Supervisor, Transfer Pricing


+62 821 1066 2323

Disclaimer! This article is a personal opinion and does not reflect the policies of the institution where the author works.


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