In February 2020, the Organization for Economic Cooperation and Development (“OECD”) released Transfer Pricing Guidance on Financial Transactions (“Guidance”). The Guidance is significant because it is the first time that the OECD’s Transfer Pricing Guidelines have been updated to include guidance on the transfer pricing aspects of financial transactions.
According to the OECD, before attempting to apply the pricing guidelines that are the primary topic of the Guidance, it may be necessary to determine whether a purported loan should be regarded as a loan, since the balance of debt and equity funding of a borrowing entity that is part of an Multinational Enterprise (“MNE”) group may differ from that which would exist if it were an independent entity operating under similar circumstances. In accurately delineating an advance of funds, the following economically relevant characteristics may be useful indicators, depending on the facts and circumstances: the presence or absence of a fixed maturity date; the obligation to pay interest; the right to enforce payment of principal and interest; the status of the funder in comparison to regular corporate creditors; the existence of financial covenants and security; the source of interest payments; the ability of the recipient of the funds to obtain loans from unrelated lending institutions; the extent to which the loan is used to acquire capital assets; and the failure of the purported debtor to repay on the due date or to seek a postponement. The accurate delineation of financial transactions may require an analysis of the factors affecting the performance of businesses in the industry sector in which the MNE group operates. The contractual arrangements between independent enterprises may not always provide information in sufficient detail, and it may therefore be necessary to look to other documents and the actual conduct of the parties to define the relationship. Accurate delineation of the transaction may include an identification of the economically relevant characteristics of the transaction, including the functions performed; assets used and risks assumed; the characteristics of the financial instruments; the economic circumstances of the parties and of the market; and the business strategies pursued by the parties.