Taxing authority and tax law
Tax authority: Ministry of Finance
Tax law: Transfer pricing is regulated in Article 13 of Corporate Tax Code numbered 5520, published 21 June 2006
Article 13 of Corporate Tax Code states: “Income shall be considered to have been wholly or partially distributed in a disguised manner through transfer pricing, if the company engages in purchase of goods and services with related parties at prices or at amounts which they determine are not complying with the arm’s length principle.”
Transfer pricing provisions have been effective since January 2007.
Relevant regulations and rulings
There is a cabinet decree published in December 2007, and two communiqués have been issued by the Ministry of Finance, namely “General Communiqué on Disguised Profit Distribution By Means of Transfer Pricing Serial No. 1 and 2.” There is no ruling yet, however there is a recent court case which reveals for the first time the Tax Court’s approach to the use of databases for transfer pricing documentation purposes. The Tax Court rejected the use of the Amadeus database for benchmark studies on the grounds the database does not contain any Turkish companies and provides information on the companies located throughout Europe. The court decision is specific to this particular event. However, it has raised questions about the use of the Amadeus database in transfer pricing documentation studies.
A large number of court cases exist on the subject of disguised profit distribution (legislation before transfer pricing). They are mostly conflicting and fail to establish a case law which would bind all the parties. Additionally, tax auditors recently started with their TP inspections for 2007 and following years, especially in the pharmaceutical sector. Since the inspections are at starting phase, the approach of the tax auditors and the courts are still uncertain.
OECD guidelines treatment
In the preamble of the law, it is stated that the provisions of international regulations, especially the OECD Transfer Pricing Guidelines, are taken as a reference. However there is no particular reference to the OECD guidelines in the actual content of the regulations, including Article 13 of the Corporate Tax Code, the related decree and communiqués. In addition, there are two major differences from the OECD approach: the term “related party” is defined in a very broad manner, for example it includes all shareholders regardless of the level of interest and domestic related-party transactions are also covered by the new rules.
In general, the new transfer pricing rules place significant documentation and disclosure requirements on Turkish taxpayers, but it is difficult to estimate the level of assurance provided by fulfilling these requirements at the moment, as the intention of the new transfer pricing rules from the tax authority’s point of view is to protect Turkey’s tax base.
One of the obstacles in the way of a smooth transition in the application of the new transfer pricing rules is the lack of a reference for comparable searches and the difficulty in finding comparables, particularly in the Turkish domestic market. There is no database available for local benchmarking studies.
Priorities/pricing methods
Taxpayers can use the following methods in order to prove that the prices applied in their transactions with related parties are arm’s length: CUP, Resale Price and Cost Plus. If it is not possible to reach the arm’s length price through one of these traditional methods, profit methods such as Profit Split, TNMM/CPM and other methods to be determined by the taxpayers can be selected. Taxpayers should select the most appropriate method according to the nature of their business, comparability factors and availability of relevant information. There is no priority among the traditional methods.
Transfer pricing penalties
There are no specific transfer pricing penalties, but a disguised income distribution is assumed to exist if the transfer prices applied in related-party transactions do not meet the arm’s length principle. If such a disguised distribution is assessed during a tax audit:
- For corporate income tax purposes, 20% corporate income tax is calculated again as if no disguised distribution were applied
- Dividend withholding tax of 15% is calculated over the net amount of the disguised distribution
Additionally, late payment interest and a tax loss penalty (which is the same as tax loss amount) is charged to the tax payer.
Penalty relief
There are no special provisions for penalty relief. However, it is possible to come to a reconciliation regarding tax loss and tax penalty assessed. In such reconciliation the taxpayers may claim good faith.
Documentation requirements
Taxpayers are required to submit a transfer pricing form related to transactions with related parties. This form should be submitted as a supplement attachment to the corporate tax return, which must be filed by the deadline of the 25th day of the fourth month following the fiscal year.
In addition to the transfer pricing form, certain taxpayers are required to file an “Annual Transfer Pricing Report.” This requirement applies to:
- Corporate taxpayers who are registered with the “Grand Taxpayers Tax Office” prepare the report covering all domestic and foreign related-party transactions
- Corporate taxpayers having activities in Turkish Free Trade Zones prepare the report covering domestic transactions conducted with related parties
- Other taxpayers prepare the report for the purpose of disclosing transactions conducted with foreign related parties
This documentation report should include, company analysis, industry analysis, related parties, each transaction conducted with related parties with their values, functional analysis and economic analysis (selection of transfer pricing method, benchmarking studies and financial analysis).
The Report is required to be prepared by the 25th day of the fourth month following the fiscal year, which is the due date of the corporate income tax return. After this date taxpayers should present their documentation reports to the tax authority within 15 days of a request by the tax authority.
Documentation deadlines
Stated in “Documentation requirements” section above
Statute of limitations on transfer pricing assessments
There is no specific statute of limitations on transfer pricing assessments, but general rules for the statute of limitations are applicable, which is five years from accrual of the tax payment.
Return disclosures/related-party disclosures
Taxpayers are required to disclose information on all related-party transactions in their transfer pricing forms. In addition, taxpayers are required to prepare an Annual Transfer Pricing Report which should include this information in detail.
The information will include the name or title of the local related party, taxpayer identification number, name of the foreign related-party and the country in which it resides. Other required disclosures include the sale and purchase of commodities both in the form of raw material and finished goods, the lease of any property, construction services, research and development, commission-based services, all related-party financial transactions, including lending and borrowing funds, marketable securities, insurance and other transactions and intra group services. Taxpayers also must disclose the transfer pricing methods applied in the related-party transactions.
Audit risk/transfer pricing scrutiny
The risk of transfer pricing scrutiny during a tax audit is high. Tax inspectors generally focus on related-party transactions. With the abundance of related-party transactions, it is likely that tax inspectors will extend their tax audits. New transfer pricing rules have increased the awareness of transfer pricing applications in general. As a result of this in 2010 tax audits are mainly focused on intra-group charges such as management fees and cost allocations. Tax inspectors developed a different point of view and they look for whether specific services or projects are provided under the name of management fee or not (e.g., preparation of a procurement agreement, redesign of compensation policy or legal advisory for a court case). If the service charges are not documented with such specific services or projects provided particularly to the Turkish entity, then these charges are categorized as royalty, based on the claim that industrial or commercial experience is used, and subject to withholding tax.
Additionally tax auditors continue with their TP audits in pharmaceutical sector, for the active material prices imported from the group companies.
APA opportunity
An APA is possible upon the demand of the taxpayer. In principle, the agreed-upon method would be binding through the period determined; however, it cannot exceed three years. APA applications will be allowed for Grand Taxpayers Tax Office corporate taxpayers as of 1 January 2008 for their foreign transactions. Other taxpayers will be able to apply for APAs as of 1 January 2009. To our knowledge, none of the companies operating in Turkey applied for an APA yet.
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