Taxing authority and tax law

Tax authority: The Hungarian Tax and Financial Control Office

Tax law:

• Act LXXXI of 1996 on Corporate Income Tax (CIT) and Dividend Tax (Act on CIT)
  • Section 4.23 - definition of related party for CIT purposes
  • Section 18 - correction of prices applied between related parties
  • Section 31(2) - reference to the OECD TP Guidelines
• Act XCII of 2003 on Tax Procedure (Act on Tax Procedure)
  • Section 1.8 - definition of fair market price
  • Section 23(4)(b) - reporting related parties to the tax authority
  • Sections 132/A and 132/B - provisions on the Hungarian APA
  • Section 178.17 - definition of related party
• Section 259.13 within Act CXXVII of 2007 on Value Added Tax (Act on VAT) defines a non-independent party for VAT purposes
• Section 3.69 within Act CXVII of 1995 on Personal Income Tax (PIT) defines independent party for PIT purposes
• Ministry of Finance Decree 38 of 2006 on the administrative procedure for obtaining an APA
• Ministry of Finance Decree 22 of 2009 on the fulfillment of transfer pricing documentation obligations effective from 1 January 2010 and to be first applied to tax liabilities for 2010¹

Relevant regulations and rulings

• 37/2004 Guideline issued by the tax authority on the fulfillment of the transfer pricing documentation requirement
• 55/2006 Guideline issued by the tax authority on the application of the Transactional Net Margin Method
• 77/2007 Guideline issued by the tax authority on the preparation of consolidated transfer pricing documentation
• 139/2007 Guideline issued by the tax authority on the application of transfer pricing methods in practice
• 17/2008 and 48/2007 Guidelines issued by the tax authority on the preparation of simplified transfer pricing documentation and default penalties
• 13/2008 Guideline issued by the tax authority regarding when related party relations should be determined
• 16/2010 Guideline issued by the tax authority on changes to the definition of related parties from 2010
• 21/2010 Guideline issued by the tax authority on the adjustment related party items in connection with the assumption of loan and waiver of receivables
• 41/2010 Guideline issued by the tax authority on the adjustment of the prices for in-kind contributions

OECD guidelines treatment

The Act on CIT contains specific reference to the OECD guidelines. Recent tax authority practice is that if the Hungarian tax laws do not include regulations on specific issues, the OECD guidelines may be used as primary reference.

Priorities/pricing methods

The OECD guidelines changed in July 2010. The Act on CIT has implemented these guidelines effective as of 1 January 2011. Accordingly, the three traditional methods (the CUP method, the resale price method and the cost plus method) and the profit-based methods recommended by the OECD, i.e., the transactional net margin and the profit split method are now practically equivalent. In addition, other methods can also be chosen, but only subsequent to the rejection of the five major methods.

Transfer pricing penalties

A penalty of 50% of the unpaid tax may be imposed, as well as a late payment interest charge at double the prime rate of the National Bank of Hungary, in line with general rules. A default penalty up to HUF2m (approximately EUR 7,300) may be levied for not fulfilling, or not properly fulfilling, the content and formal documentation requirements. The HUF2m default penalty is applicable on each set of documentation and on each year under tax audit.

Penalty relief

No penalty relief is applicable.

Documentation requirements

The Act on CIT states that companies that do not qualify as small companies (small companies are defined as employing fewer than 50 persons and having less than €10m in total turnover on a consolidated basis) must document the methods they used to determine the fair market prices, as well as the facts and circumstances supporting them. The detailed documentation obligation must be applied for all agreements in effect and where there was a supply in the tax year. The details of the documentation obligation are regulated by the Ministry of Finance Decree 22 of 2009. Foreign entities (usually foreign taxpayers engaged in business activities through a Hungarian permanent establishment) are also subject to the documentation obligation. However, according to the relevant transfer pricing regulation, there is an option to prepare simplified documentation if the value of the transactions does not exceed HUF50m.

The Hungarian transfer pricing documentation requirements are consistent with the OECD Transfer Pricing Guidelines. The following list outlines the compulsory elements of the Hungarian transfer pricing documentation:

• Name, registered seat (official location) and tax number (or company registration number and the name and seat of the registering authority) of the related party
• Content of the agreement with the related party, which includes:
  • Subject of the agreement
  • Signing date (amendment date) of the agreement
  • Period during which the agreement is effective
  • Characteristics of the service provided and/or goods sold (functional analysis)
  • Method and terms of the fulfillment of the agreement
• Analysis of the market (industry analysis)
• The method applied for establishing the arm’s length price
• Reasons for selecting the method applied
• Description of comparable services and goods transactions
• Factors affecting the arm’s length price, margin or profit and the extent of any necessary adjustments
• The arm’s length price or margin
• Information on pricing agreements and court procedures
• Preparation date of the documentation

According to the Ministry of Finance Decree 22 of 2009, a taxpayer can choose to prepare a separate or a joint documentation. By introducing the joint transfer pricing documentation option, the Decree essentially adopted the regulations regarding the Masterfile concept as included in the EU’s Code of Conduct on transfer pricing documentation. The joint documentation consists of two parts: common documentation containing standard information on the members of the group within the EU (i.e., Masterfile) and specific documentation describing the agreements concluded between the Hungarian taxpayer and its related parties. Taxpayers must declare to the tax authority (on the CIT return) which type of transfer pricing documentation they would like to prepare (either single or joint documentation).

The common document has to be prepared with respect to the member states of the European Union and should also include the controlled transactions carried out between third-country companies and EU group companies.

The obligatory elements of the common documentation are the following:

• A general description of the business and the business strategy of the enterprise including the changes from the previous year
• A general description of the organization, the legal and operational structure of the group (including an organizational chart, a list of the group members, and a description of the parent company’s participation in the operation of its subsidiaries)
• A list of the related parties carrying out controlled transactions with group members within the EU
• A general description of controlled transactions (list of the significant controlled transactions, e.g., sale of tangible fixed assets, provision of services, development of intangible assets and provision of financial services including the values of these transactions)
• A general description of the functions and risk, and the changes in these compared to the previous year
• Information on the ownership of intangible assets and on royalties paid and received
• A description of the group’s transfer pricing policy or transfer pricing system
• Cost contribution agreements and APAs relating to the determination of the arm’s length price and court decisions on the arm’s length price
• Date of preparation and modification of the documentation

The specific document must include the following information:

• Name, registered seat (official location) and tax number (or company registration number and the name and seat of the registering authority) of the related party
• Description of the business enterprise and the strategy of the business enterprise including the changes compared to the previous year
• Subject of the agreement, description of the transactions, value of the transactions, signing date (amendment date) of the agreement, period during which the agreement is effective
• Comparable search (characteristics of the service provided and/or goods sold, functional analysis, contractual conditions, economic circumstances)
• Description of the comparable data
• Transfer pricing policy of the group
• Preparation date and modification date of the documentation

For 2009 and onwards, the documentation can also be prepared in a foreign language. However, at the tax authority’s request, the taxpayer has to prepare a Hungarian translation.

Documentation deadlines

The transfer pricing documentation for contracts effective in a given tax year has to be prepared by the deadline for filing the annual corporate income tax return (within 150 days of the year-end).

Statute of limitations on transfer pricing assessments

General rules apply. The statute of limitations lapses on the last day of the fifth calendar year calculated from the tax year in which taxes should have been declared, reported or paid in the absence of a tax return or reporting. However, within the frame of the Arbitration Convention, there is a possibility to request a tax base adjustment even after the statute of limitation has expired.

Return disclosures/related-party disclosures

Within 15 days of concluding its first contract with a related party, the taxpayer must report the name, registered seat and tax number of the contracting party to the tax authority.

In the CIT return, the tax base should be adjusted if the price used in the related-party transaction differs from the fair market price. In their year-end corporate tax returns taxpayers must declare which type of transfer pricing documentation they have selected to prepare.

According to Hungarian transfer pricing regulations, the taxpayer is not required to file the transfer pricing documentation with the tax authority; however, the taxpayer needs to present the documentation during a tax audit.

The Financial Statements of companies include certain compulsory disclosures on related-party transactions.

Audit risk/transfer pricing scrutiny

The risk of transfer pricing issues being scrutinized during a tax authority audit is steadily growing. Since the decree on the documentation obligation came into force the tax authority checks the existence of the documentation. Based on our experience, the tax authority usually inspects whether the content and formal requirements are fulfilled in the documentation. Since the beginning of 2007, the tax authority has started to train transfer pricing specialists. The tax authority’s knowledge of the application of transfer pricing methods is expected to increase during the tax audits.

Overall, the risk of a transfer pricing audit can be set at medium. The tax authority focuses on reviewing the transfer pricing documentation in the framework of almost every tax audit. As a result, significant default penalties are levied if the transfer pricing documentation is missing or incomplete. Recently, there has been a tendency that the tax authority challenges not only the formal criteria of the transfer pricing documents but also the transfer prices themselves.

The tax authority focuses on transactions carried out by loss-making and/or large taxpayers especially where the taxpayer came to an unusual conclusion regarding the transfer prices or:

• If the pricing method is unusual
• Where the transactions themselves can be regarded as unusual or unique

Based on our experience, the tax authority makes an effort to challenge transfer prices in almost all of the instances listed above.

APA opportunity

On 1 January 2007, a formal APA regime was introduced in Hungary. Unilateral, bilateral and multilateral APAs are available according to the new provision. APAs requested for future transactions can be used for three to five years and they can be extended for a further three years. The application fees for APAs range from HUF500,000 (approximately €1,825) to HUF10m (approximately €36,500) depending on the type of APA and the transaction value. The tax authority is responsible for the establishment of APAs and dealing with other transfer pricing-related issues.

¹ Containing the new provisions with regard to the EU Masterfile concept.

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