The Inland Revenue Authority of Singapore (“IRAS”) has issued transfer pricing guidance for centralized activities of multinational enterprise (“MNE”) groups in Singapore to assist taxpayers in analysing such activities between related parties and identifying factors that may affect transfer prices for these activities and the transfer pricing methods that may be appropriate.
The guidance (in the form of a so called e-Tax Guide, which the IRAS issues from time to time in order to express its views and policies on certain matters to taxpayers) is important considering that Singapore is being adopted as a destination by a significant number of MNEs for housing their global as well as regional headquarters (“HQ”). The e-Tax Guide aims to analyse potential inter-company transactions that may be carried out by MNEs through their Singapore-based HQ and discusses the approach to determine the arm’s length price in respect of such transactions.
It applies to Singapore-based HQs as well as to other entities within Singapore that provide centralised activities. The e-Tax Guide makes a reference to analysing the Group’s profit drivers as well as the overall value chain of the MNE Group vis-à-vis the Singapore HQ’s contribution to such profit drivers and its position within the value chain. This aids in the determination of whether the Singapore HQ would operate as an entrepreneur or as a service provider. The approach and methodology for analysing the HQ as an entrepreneur would differ from analysing the Singapore HQ as a service provider.
The e-tax Guide clarifies that basic principles of transfer pricing need to be adhered to whilst analysing the arm’s length pricing arrangements in respect of the Singapore-based HQ. This includes conducting comparability analysis, analysing functions, risks and assets of the transacting parties and the selection of the most appropriate transfer pricing method in order to determine the arm’s length remuneration of the transactions. It is important to note that the e-Tax Guide indicates the separation of individual transactions from the HQ’s overall centralised activities and to analyse each transaction separately. Aggregation would be permitted only where transactions are so inter-related that they would be different to separate.
The e-tax guide classifies the functions of the headquarters in centralized related party transactions into four broad categories and provides examples of services in each category:
- Principal in distribution, manufacturing, or research and development arrangements, where it carries out risk taking and decision making related to these arrangements;
- Activities relating to core business processes, providing services that tend to correlate to revenues or profits of the MNE group (e.g., procurement, sales, highly technical backend operations for regulatory compliance, etc.);
- Activities relating to administrative, technical, financial, commercial, management, coordination, and control functions that are not part of the supply chain of goods or services but support the smooth operation of the MNE group; and
- Shareholder activities that do not benefit the group entities and for which a service fee cannot be charged.
Where the HQ acts as a principal, the transactions are in practice tested using one sided methods with the related party being the tested party, since the HQ usually would have the more complex functional profile. Transactions of contract manufacturers and providers of research and development services usually would be tested using the cost-plus method or the transactional net margin method (“TNMM”) using costs as an appropriate base. For distributors responsible for driving sales in their markets, the transactions usually would be tested using the resale price method or TNMM using sales as the appropriate base. Where distributors do not drive sales, they may be rewarded using the cost-plus method or TNMM using costs as an appropriate base, including the Berry ratio of gross profit to operating expenses which could be applied provided the conditions for application of the ratio specified in the transfer pricing guidelines are met.
Where the HQ conducts activities relating to core business processes or provides centralized administrative services, these transactions are tested depending on the nature of the activities. If the service provider shares in the risks and rewards, a profit split between the service provider and the other related parties may be appropriate. This would be possible where the services relate to core business processes and typically are part of the supply chain of the MNE group. In other instances, a TNMM approach may be appropriate where the value of the services provided is driven by the costs. The mark-up would be determined based on a comparability analysis of service providers with a similar profile, or where applicable, the practices accepted by IRAS for routine support services.
A detailed case study has been included in the e-Tax Guide to help taxpayers understand how the concepts detailed by the IRAS in this e-Tax Guide, i.e., read in connection with other guidance provided by the IRAS, should be implemented from a transfer pricing perspective. On a final note, the HQ can avoid transfer pricing disputes and obtain tax certainty in advance by applying for an Advance Pricing Arrangement (“APA”) for its related party transactions for future years.