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There are very few aspects of our lives that have not been affected by the COVID-19 pandemic (“the Pandemic”). While the Pandemic is primarily a public health issue, governments’ response to contain the spread of the virus has caused major disruptions to economic activities across the globe. In particular, the restriction around the movement of people has disrupted economic and financial systems causing significant cash flow constraints. 
To address the extraordinary challenge that has come with the Pandemic, businesses have adopted various strategies. From the prism of transfer pricing, the question is what these strategies would – indeed more broadly, the COVID-19 pandemic – mean to arm’s length price setting.
In recognition of the potential conflict that the Pandemic might create between taxpayers and tax administrators, the Organisation for Economic Co-operation and Development (OECD) published guidance on the cusp of the 2020 holiday season (the 18th of December 2020).
In this tax insight, we provide a high-level summary and commentary of the key areas covered by the OECD’s paper followed by a comparison of the Australian Taxation Office (ATO’s) public statement on the matter issued back in July 2020.
The key messages from both the ATO and the OECD are that businesses need to assess how, and if, the Pandemic has any bearing on their transfer pricing policy for the relevant financial year (FY2020).
For some fortunate groups where life has been “business as usual”, there may well be very little if anything that they need to do.
However, for other groups, particularly where the Pandemic has had an adverse effect, there will be a need for some further work to support the assertion that they are acting at arm’s length and any reduction in profitability can be properly attributed to the Pandemic.
The OECD paper
The OECD paper has identified four areas relevant in this regard: comparability analysis; losses and allocation of COVID-19 specific costs; government assistance; and advanced pricing agreements (APA). We discuss these in turn below.
Comparability analysis
At the heart of the application of the arm’s length principle lies comparability analysis. The robustness of a comparability analysis however depends on the contemporaneous nature and the degree of reliability of the data – which is invariably historical to a degree. Given the impact of the Pandemic is yet to be fully or partially reflected on comparable data by the time the next tax returns are lodged, there is no doubt that comparability analysis that would have been rolled forward from prior years would need to be revisited. 
Whether there is a need for revision depends on the effect of the COVID-19 pandemic on the facts and circumstances of the relevant international related party dealings (IRPDs) under review. One such factor is whether the IRPD is bound by a pre-existing intercompany agreement that sets a fixed return ex-ante (e.g., intercompany financing with a specific interest rate) or IRPD arrangement where the arm’s length price is determined on an annual basis.
In the former case, depending on the severity of the impact from the Pandemic the previous comparability analysis may not need to be revisited other than ensuring the prevailing market conditions are reflected in the updated analysis. In the event the impact from the Pandemic is considered significant, then the first question is the ability to renegotiate the key terms and conditions of the agreements including the transfer pricing.
In the latter case, where the arm’s length prices are set on an annual basis, a contemporaneous comparability analysis is warranted to determine the arm’s length outcome for FY2020.
Estimate the effect of the Pandemic on the economically significant characteristics of the IRPD 
Prior to embarking on a new comparability analysis, the OECD recommends assessing the suitability of existing sets of comparables for FY2020 and beyond. The assessment of the suitability of the comparables can be done along with assessing the materiality of the Pandemic effect on arm’s length prices having regard to several factors such as impacts on sales volume, change in utilisation capacity, and the effect of government interventions and assistances on the pricing of the IRPDs.
More importantly, the OECD appreciates the insights and values to be gained from using forecast data to approximate the specific effect of COVID-19 on aspects of key financials matrices i.e., revenue, costs, and margins. Complementing this with a scenario analysis is considered to assist in isolating the impact of COVID-19 to evaluate the factors that may impact the arm’s length nature of the transfer prices. It does however caution from using other crises such as the recent global financial crisis as a reference given the facts and circumstances between the two crises are not considered comparable.
Having established the materiality of the Pandemic on the pricing of IRPDs, the OECD provides several suggestions to address the challenges associated with a lack of reliable information. Reliability can become an issue if the comparable data spans across different industry sectors and some of those industry sectors are affected differently by the pandemic or the government response to it. The contemporaneous aspect arises since data on comparable circumstances, save for comparable uncontrolled prices (CUP), are not typically available when transfer pricing documentation is contemporaneously being prepared. To address these challenges, the OECD’s recommendations are:
- Supplement contemporaneous information with reasonable commercial judgment – while recommending tax authorities to adopt a pragmatic approach to ease the burden on their resources, the OECD encourages taxpayers to undertake appropriate due diligence to evaluate the impact of COVID-19 on their economic and financial outcomes; and where possible provide the best available market evidence to substantiate their economic performance during FY2020.
- Compensating adjustment – while most tax authorities do not formally recognise transfer pricing “compensating adjustments” (i.e. adjustments made for tax purposes to ensure an arm’s length outcome), the OECD encourages their use – at least on a temporary basis during the pandemic – to allow for any available information to establish a more reliable arm’s length price.
- Access to MAP – in the event the above pragmatic approaches fail to resolve the contentious transfer pricing issues, the OECD cautiously reminds the role negotiated settlements such as mutual agreement procedures (MAP) could play to avoid double taxation. However, given the costs associated with MAP, this should be considered as a last resort by the relevant parties.
