- The arm’s length nature of cross-border related-party transactions, that exceed certain materiality thresholds, should be documented in a transfer pricing file
The arm’s length nature of cross-border related-party transactions, that exceed certain materiality thresholds, should be documented in a transfer pricing file. The obligation is being introduced along with the latest changes to the Tax and Social Insurance Procedure Code (TSIPC), promulgated in the State Gazette on 13 August 2019, and will be a new element of the “annual closure” of the financial year for large enterprises. It will apply to transactions taking place after 1 January 2020.
Which entities and transactions are covered by the new requirement?
According to the final version of the law, which was adopted at second reading by the National Assembly in the end of July 2019, the preparation of transfer pricing documentation with specific content within a fixed time limit is mandatory only for local taxpayers, who are subject to a corporate tax levy and meet the accounting criteria for a large enterprise. To avoid falling within the scope of the new obligation, as according to the TSIPC, the specific conditions that a local taxpayer should meet are as follows:
- Assets with a balance sheet value not exceeding BGN 38m as of 31 December of the previous year, and
- Net sale revenues less than BGN 76m as of 31 December of the previous year, or
- Average number of employees over the reporting period is below 250 people.
If the entity has related-party dealings only within the territory of the country, it has no obligation to prepare transfer pricing documentation, regardless of its size.
Even though there are certain local specifics, for the most part, the content of the mandatory transfer pricing documentation is in accordance with the European and international standards, established by the European Commission and the Organisation for Economic Co-operation and Development. The two main elements of the documentation are:
- Local file, which should be prepared by 31 March of the year following the reporting year. This deadline could be extended through 30 September, if a submission of an amended return under the Corporate Income Tax Act takes place. Only transactions, which value during the year exceeded certain thresholds, should be analyzed in the local file. For controlled transactions in goods, the threshold is BGN 400k, and for all other intragroup transactions, the threshold is BGN 200k. When it comes to documenting loans, an exception applies, as the obligation for documenting will arise when the loan principal granted or received exceeds BGN 1m or a total financial and interest income/expense above BGN 50k has been accrued.
- Master file, which the local taxpayers must have, in case they are part of an international group of companies. The master file must be available no later than 12 months after the deadline for the local file.
The full documentation should be presented to the tax authorities upon request – for instance, during tax checks and audits, or in procedures regarding the application of double tax treaty relief. In the event of non-compliance with the mandatory requirement and/or lack of documentation, a penalty of up to 0.5% of the total deal value that should have been documented, might be imposed. In addition, if the taxpayer does not have a master file, the associated fine might range from BGN 5,000 to BGN 10,000.
What changes for the other taxpayers?
As discussed above, the requirement to prepare mandatory transfer pricing documentation is only introduced to some of the related party transactions of a category of enterprises. However, this does not eliminate the obligation of all taxpayers – regardless of their size, neither of the value and the territorial scope of their controlled transactions – to ensure that their financial, economic and commercial relations with the other members of their group are in compliance with the arm’s length principle. All transactions between related parties may be subject to tax control and, therefore, taxpayers have the responsibility for proving to the tax authorities that the conditions, under which they are carried out, do not differ from those between independent parties.
In other words, the relief for companies that remain below the thresholds set in the TSIPC, is reduced to:
- Eliminating the risk of sanctions, in case they do not possess transfer pricing documentation, which corresponds to all requirements as set by the TSIPC
- Possibility for a more flexible approach in the analysis of the arm’s length nature of transactions and the selected format (e.g., they may not comply with the requirement of an annual documentation update or meet the deadline set for large companies).
It is important to note that during the last few years, transfer pricing has become one of the priority topics of the Bulgarian tax administration. Essentially, this legislative change is a natural extension of the mandatory country-by-country reporting of large groups, which was introduced two years ago. The focus now, however, is entirely local. Instead of providing information on how the group distributes its profits and resources worldwide, the local file must prove specifically that the profits in Bulgaria are correctly determined, to the extent related party transactions are concerned.
Regarding the Bulgarian National Revenue Agency strategy, a consistent policy for the development of administrative capacity in the transfer pricing field can be noticed, as well as a focus on the transfer pricing practices and profitability of local taxpayers during tax reviews and audits.
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