managing tp risk in thailand in time of change · managing tp risk in thailand in time of change...

15th AnnualConferenceMaximise

Managing TP risk inThailand in time ofchange

www.pwc.com/th

MaximiseShareholder Valuethrough EffectiveTAX Planning 2014 29-30 October 2013

TP legislation – the rat race

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Slide 229-30 October 201315th Annual Conference Maximise Shareholder Value through Effective TAX Planning 2014

Agenda

Section one: Transfer Pricing Policy – Practical Considerations

Section two: Managing ChangesSection two: Managing Changes

PwC Slide 329-30 October 201315th Annual Conference Maximise Shareholder Value through Effective TAX Planning 2014

Transfer Pricing Policy – PracticalConsiderations


Transfer Pricing Policy – Practical ConsiderationsCharacterization of businesses

In transactions between two independent parties, compensation usuallywill reflect the functions that each party performs (taking into accountwill reflect the functions that each party performs (taking into accountrelated assets used and risks assumed).

Thus, characterization of the related parties is an important componentto a transfer pricing analysis. Characterization of businesses meansmaking comparisons of the functions and risks of the related partiesunder review and comparing those to independent parties that exist inthe same or similar industry.

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the same or similar industry.



Characterization of manufacturing entities

Contract Manufacturer

• Takes title

• Does not own technology

• Little risk

• Little discretion inproducing scheduling

• Does not totally controlequipment selection

Fully-fledged Manufacturer

• Takes title

• Owns technology

• Full risk of manufacturing

• Purchasing

• Production scheduling

• Select own equipment

• Direct control over quality

Toll Manufacturer

• Does not take title

• Does not own technology

• No purchasing

• Little risk

• Little discretion inproducing scheduling

• Does not totally control


• Quality control usuallydictated by customer

• Usually manufacturinghigh volume, matureproducts

• Direct control over quality

• Manufacturing products at allstages of product life cycle

equipment selection

• Quality control dictatedby customer

• Usually manufacturinghigh volume, matureproducts


Characterization of distribution/ selling entities

Manufacturer’srepresentative

• Does not take title

• No credit risk

• No inventory risk

• No marketingresponsibilities

• No FX risk

Limited riskDistributor

• Takes title

• Credit risk minimal/parent controlspolicy

• Inventory riskminimal

• Marketing

Distributor

• Takes title

• Credit risk

• Inventory riskminimal

• Marketingresponsibilitieslimited

Marketer/Distributor

• Takes title

• Credit risk

• Inventory risk

• Total marketingresponsibilities

• May or may nothave FX risk


• Marketingresponsibilitieslimited

• No FX risk

limited

• May or may nothave FX risk

have FX risk

Risk Return Trade-off


Inc

re

as

ing

pr

ofi

tp

ote

nti

al

0

15

30

45

60

75


TOLLMANUFACTURER

CONTRACTMANUFACTURER

FULL FLEDGEDMANUFACTURER

MANUFACTURINGREPRESENTATIVE

DISTRIBUTORMARKETER

DISTRIBUTORLIMITED

DISTRIBUTOR

Increasing functions, risks, and assets

0

Transfer Pricing Policy – Practical ConsiderationsBusiness Models and Profit Allocation

“Expected”Residual

Profit/Loss

TotalProfit/Loss

“Expected"RoutineProfits

= +


Transfer Pricing Policy – Practical ConsiderationsBusiness Models and pricing policy

Contractmanufacturer

Principaldistributor

Customer

Principal Distributor:Cost Plus

Suppliermanufacturer distributor

Fully Fledgedmanufacturer

Limited riskdistributor

Customer

Principal Limited risk CustomerContract

Principal Model:

Principal Manufacturer:Resale Price

Cost Plus Resale Price

Supplier

Supplier


Principalentity

Limited riskdistributor

CustomerContractmanufacturer

Risk-takingmanufacturer

Risk-takingdistributor

Customer

Shared-risk Model:Cost Plus or Resale Price with Negotiation

Supplier

Supplier

Transfer Pricing Policy – Practical ConsiderationsHow to identify your business model?

FAR spectrum:

Toll manufacturer /Manufacturer

representatives

Fully-fledgedmanufacturer /

MarketerContract manufacturer / Limited distributor

Routine entities? Principals?

Low FAR High FAR



Are you an intangible property (“IP”) owner?

What is an IP?What is an IP?

According to the OECD:

“Something which is not a physical asset or a financial asset, and which iscapable of being owned or controlled for use in commercial activities”

2 general categories of IPs

1. Manufacturing intangibles - patents, formula, manufacturing know-how,etc.

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etc.

2. Marketing intangibles such as trademark, trade names, business rights, etc.

IPs are often owned by the parent company, regional HQs, and/or central IPentity. However, IP owners are not always the sole Principal of the supply chain.



Are you the “strategic decision maker”?

Levels of decision makingLevels of decision making

• Strategic decisions:

These decisions affect and shape the direction of the business. (e.g. identifyingthe target markets, what R&D are to be undertaken, etc.)

• Control decisions:

These involve making decisions to keep the business on track. (e.g. decisionsabout taking actions when there are budget variances, production falling behindschedule, etc.)

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schedule, etc.)

• Operational decisions:

These are frequently made decisions and relate to the management andsupervision of activities. (e.g. ordering new stock, creating a production schedule,etc.)



Are you the “strategic decision maker”?

Under the arm’s length principal, YOU will be responsible for theconsequences of the decisions YOU make.



Example: (OECD Guidelines paragraph 9.26)

Employer (IP owner)

Risks of Loss in failure of the research

• Makes decision to hire the researcher• Makes decision on the type of research

that should be carried out• Assign Objectives to the contract

researcher

Researcher

Operational Risks (possibility of losingits client, suffering penalty in case of

negligence )

• Report regularly to the investor• Makes decision on how to carry on the

research


researcher• Allocate the budget for the search• Able to assess the outcome of the

research conducted by researcher• Own the outcome of the research

research• Makes decision on how to use the

budget• Makes decision on hiring research staffs



Investor

Risks of Loss in value of investment

• Makes decision to hire fund manager• Makes decision of the extent of the

authority it gives to the fund manager• Assigns Objectives to the fund manager

Fund Manager

Operational Risks (possibility oflosing its client)

• Makes decision on investmentalternatives

• Picks stocks• Report regularly to the investor


• Assigns Objectives to the fund manager • Report regularly to the investor



Distributor

Risks of Loss in failure of the product

• Owns the technology and designs• Makes decision on whether to hire the

manufacturer• Makes decisions on the type of

products to be manufactured

Manufacturer

Assume risk from idle capacity andproduction efficiencies

• Make decisions on productionscheduling

• Is guaranteed that productsmanufactured will be sold to distributor


products to be manufactured• Makes decision on the technical

specifications of the products• Makes decision on the volume of

products and time of delivery• Be able to assess the manufacturing

activities of manufacturer, e.g. quality

manufactured will be sold to distributor• Manufacture according to technical

specifications of the distributor.


Control over risk (OECD Guidelines paragraphs 1.49 and 9.22)

In arm’s length transactions, it generally makes sense for parties to beallocated a greater share of the risks, and hence expected returns, overwhich they have relatively more control.

The party with greater control over risk should be allocated for thegreater risks and hence greater share of profits/losses.

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greater risks and hence greater share of profits/losses.


Transfer Pricing Policy – Practical ConsiderationsBusiness Models and Profit Allocation

Low to no control High control over

“Expected”Residual

Profit/Loss

TotalProfit/Loss

“Expected"RoutineProfits

= +

Low to no controlover risk, smallershare of profits or

losses

High control overrisk, greater share of

profits or losses


Managing Changes


Managing changesAltering TP policy

Business models should dictate the transfer pricing policy and hencethe allocation of profits.the allocation of profits.

If the current risk, hence profit, allocation between related parties is notin line with its respective business model, the related parties shall alterthe transfer pricing policy to appropriately reallocate the profits amongrelated parties participating in the same supply chain.


Managing changesManaging risks in Thailand – Altering TP policy

• Transfer pricing review of the entities functional profiles and the• Transfer pricing review of the entities functional profiles and theappropriate benchmarking study;

• ‘Big bang’ or gradual;

• Manage transfer price within a range;

• Policy should be monitored regularly so that changes can be madeprospectively.


Managing changesManaging risks in Thailand – Altering TP policy

Nevertheless, if the current allocation of profit is already in line with thebusiness model of the entities under the supply chain, altering thebusiness model of the entities under the supply chain, altering thetransfer pricing policy could only be achieved by altering the currentallocation of functions, risks, and assets between the entities under thesupply chain (i.e. business restructuring).


Managing changesManaging risks in Thailand – examples

1. Business restructuring1. Business restructuring

2. Inter-company charges


Managing changesManaging risks in Thailand – Business restructuring

Customers

IP owner FFM

CustomersIP owner

PrincipalCM

LRD

Customers

ManufacturingLicense

ManufacturingLicense

Sale F/GManufacturing

License

Sale F/G Sale F/G

Sale F/G

Sale F/G

Sale F/G

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distribution


FFM Customers

CM LRD CustomersSale F/G

Sale F/G Sale F/G

Sale F/G

Managing changesManaging risks in Thailand – Business restructuring

• Business driven• Business driven

• Economic substance


Managing changesManaging risks in Thailand – Inter-company charges

Inter-company charges are being introduced or increased as the taxInter-company charges are being introduced or increased as the taxauthorities of the home countries of the parent companies are no longerprepared to allow the costs incurred as tax deductible expenses.



Issues in relation to inter-company charges

Step 1:Are there substance and benefitfrom the charges?

Step 2:If yes, are the transfer pricesappropriate?



Substance and benefit

With inter-company charges, there must be economic or commercialWith inter-company charges, there must be economic or commercialbenefit provided to group members.

An economic or commercial benefit is provided when the recipientwould have been willing to pay for if performed for it by anindependent party or perform it in-house.

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Increase in inter-company charges must come with increase in theeconomic or commercial benefit.



Non tax deductible charges

Shareholder costs (OECD Guidelines paragraph 7.10)Shareholder costs (OECD Guidelines paragraph 7.10)

Activity that group member (usually the parent company or a regionalHQ) performs solely because of its ownership interest in one or moreother group companies, i.e. as a shareholder.




Duplicative services (OECD Guidelines paragraph 7.11)Duplicative services (OECD Guidelines paragraph 7.11)

Activities undertaken by one group member that merely duplicate aservice that another group member is performing for itself, or that isbeing performed for such other group member by a third party.




Incidental benefits (OECD Guidelines paragraph 7.12)Incidental benefits (OECD Guidelines paragraph 7.12)

Activities performed by group members that may produce economicbenefits for other members not involved in the object of the decision.Economic benefit could consist of e.g. increased efficiencies oreconomies of sale.

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The activities producing the benefits would not be ones for which anindependent enterprise ordinarily would be willing to pay.



Appropriateness of the transfer prices

Transfer pricing benchmarking study to prove that the transfer pricesadhered to arm’s length standard



• Documents supporting the substance and benefit• Documents supporting the substance and benefit

• Arm’s length pricing


TP to Go


Contact

Peerapat PoshyanondaPartnerPartnerTel: +66 (0) 2344 [email protected]

Janaiporn KhantasomboonPartnerTel: +66 (0) 2344 1437

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Tel: +66 (0) 2344 [email protected]


Thank you

© 2013 PricewaterhouseCoopers Legal & Tax Consultants Ltd. All rights reserved.'PricewaterhouseCoopers' and/or 'PwC' refers to the individual members of thePricewaterhouseCoopers organisation in Thailand, each of which is a separate andindependent legal entity. Please see www.pwc.com/structure for further details.