When defending our clients during tax audits we are often told by authorities that transfer prices are based on financial metrics and financial statements prepared under the Accounting Act, while tax income is irrelevant for assessing if prices are at arm’s length.
In one case the tax authority (Tax and Customs Office) took a different approach, trying to include tax depreciation as part of cost base in its transfer pricing analysis.
The authority held that the taxpayer understated his taxable income by more than PLN 16 million as he failed to include part of its depreciation allowance in calculating the price of its product supplies to a related party. According to the authority, the cost base should take into account depreciation as determined for tax, not accounting, purposes because comparable entities report accounting depreciation that is the same or higher than tax depreciation.
The taxpayer disagreed, arguing that its profit level was within the arm’s length range, as confirmed in benchmarking studies. After the taxpayer unsuccessfully appealed to the Revenue Administration Chamber, he decided to file for judicial review with the Provincial Administrative Court in Wrocław (case number I SA/Wr 866/24).
The court reversed the decisions of both authorities on the basis that tax depreciation is an abstract concept that does not reflect actual economic consumption of assets and depends on jurisdiction-specific regulatory framework.
The court also noted that, pursuant to Finance Minister regulation of 21 December 2018 on transfer prices, financial ratios are relationships between selected items of financial statements or, if more appropriate, of other records maintained for financial purposes.
As such, financial ratios should be based on reporting data, such as accounting depreciation which reflects actual consumption of tangible assets.
According to the court, the authorities violated transfer pricing regulations when they assessed income using a method that is not defined in the regulations. That is because all elements of the cost base should be determined on the basis of reporting data, not items used in the calculation of income chargeable to tax.
The judgment is open to appeal. The case is an example of the profiscal bias of tax authorities which are trying to change the rules of the game by challenging arm’s length transfer prices.
If this issue pertains to your business and you are interested in our assistance, please contact us.
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