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Funds transfer pricing
The proposed introduction of minimum liquidity standards, plus an increased focus on liquidity by virtually all international banking organisations, makes funds transfer pricing one of the most discussed and important areas of transfer pricing at the moment.
Many groups are currently evaluating their funding frameworks to ensure that the funding costs/interest rates charged to related party borrowers are consistent with the arm’s length standard and are considered reasonable versus local entities’ onshore funding profiles.
Our panel discussed the key questions currently being asked including the determination of credit ratings for borrowing entities when operating in a subsidiary structure, ensuring funding matches the underlying business needs and treatment of the costs of liquidity pools being retained at head office level.
The panel provided insights from a range of projects performed in Europe, the United States and Asia with a focus on how this will impact transfer pricing in the region, going forward.
Compensation of capital and risk transfer arrangements
The compensation of capital has long been an interesting topic of transfer pricing conversation in the Asia Pacific region. Historic challenges by the National Tax Authority in Japan, the expansion of Asia-based traders booking onto centralised trading books and increasing incorporation of banking branches in Asia mean that the issue is likely to continue for a while.
As was discussed on our panel, recent APA applications in Japan plus the impact of regulatory change defining more specifically the role of capital and the levels that must be maintained, provide an opportunity for groups to review their capital charging mechanisms to ensure consistency with the arm’s length standard.
Based on our experiences, interesting questions still remain around loss-protection arrangements and the potential movement of risk management from a compliance reporting role to a higher value function. However, regulatory developments and data may provide groups with a robust starting point for the development of suitable transfer pricing policies for compensating the cross-border provision of capital.
Recovery and resolution plans
As a key component of both the UK Independent Commissioners report on Banking, plus Dodd Frank in the United States, significant financial services institutions will be required to prepare a recovery and resolution plan.
Commonly known as a “Living Will,” the agreement will explain how the group will arrange itself so it can be allowed to fail safely, quickly and without destablising the financial system and exposing taxpayers to risk of loss.
Given the ever increasing level of related party transactions within banking groups, transfer pricing, particularly in the event of losses, plays a key role in the development of a Living Will. This development has a strong link to centralised booking structures, as closer scrutiny will be applied by regulators to test the capacity of booking locations to bear risk.
Transfer pricing for loss-making affiliates
Banking groups in Asia are increasingly facing pressure from tax authorities and regulators regarding the level of profit generated by onshore banking businesses. Despite losses often being driven by external factors, transfer pricing comes under scrutiny as tax authorities seek to deny cost allocations or increase revenue shares to the local country in an attempt to maintain profitability.
Our panel explored the concept of being able to use transfer pricing in an arm’s length manner to help manage this issue proactively.
Discussion focused on the use, application and risks of “contingent services arrangements” as outlined in the US, regulations or the more broadly defined “network support payments” where it may be possible to structure transfer pricing to support loss-making affiliates because the local operation is considered beneficial to the group as a whole.
Cost allocations
The transfer pricing of cost allocations remains a hotly debated topic in the region with many tax authorities challenging allocations.
Our panel discussed our extensive experience in this area including the need to focus on examples of service from both the service provider and the service recipients’ perspectives, the application of mark-ups on support services and practical ways to help defend cost allocations in an audit in the region.
The panel also discussed operational structures to help rationalise cost charging structures, the level of documentation that is recommended and audit defence strategies.
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