Transfer Pricing in Ukraine
On September 1, 2013, a new TP law came into force in Ukraine. Starting in 2013 right up until recently, Ukraine’s Verkhovna Rada (Parliament) has been adopting further
reforms and improvements regarding TP regulations.
The new TP legislation has changed the “rules of the game”, which are still something of a novelty in Ukraine. That is to say, before September 2013 there were no comprehensive TP rules in Ukraine at all. Compliance with the new reporting rules requires a comprehensive effort on the part of taxpayers. The new law was implemented in the Ukrainian Tax Code as a new section (Tax Code of Ukraine, Article 39) and is generally based on the OECD Model Convention.
The principal features of the improved system of TP control will be outlined hereinafter.
The purpose of the implementation of the TP law is:
(a) to have control over the prices in transactions between related parties (i.e. to check whether they are in line with the “arm’s-length principle”), and;
(b) to cease the tax-driven transfer of profit to foreign companies.
Notwithstanding the number of decrees and instructions, further adjustments were necessary as the TP regulations were far from being coherent and properly developed. Aiming at improving the situation, Ukraine’s Parliament adopted several laws amending the TP rules in Ukraine during the years 2014 – 2016. The last amendments to the TP legislation have been adopted by Ukraine’s Parliament on December 21, 2016 and became effective as of the January 1, 2017.
Please note: The TP regulations are challenging for Ukrainian businesses and for the state fiscal (tax) authorities due to their novelty and constant modification.
Currently, the Ukrainian fiscal (tax) authorities still have quite limited practical experience with TP regulations that take into consideration the principles of the OECD
model. Therefore, it should be noted that a developed TP policy as well as TP documentation may need to be adapted to the specific requirements of the regulatory
Even from this short introduction you may see the complexity and dynamics of the development of TP regulations in Ukraine. Many gaps and uncertainties still exist regarding TP procedures, TP reporting and TP audit.
Extension of controlled transactions types New criteria for the intercompany transactions to be recognized as the controlled ones have been added. New threshold for controlled transactions The threshold for recognizing transactions to be “controlled” has been increased. New rules for transactions comparability The provisions of transactions comparability as well as the terms for selection of comparable companies have been specified. Sources of information New sources of information for TP purposes have been added. Grouping of controlled transactions The possibilities of grouping of certain controlled transactions within the TP documentation, as well as the criteria for such transaction which can be grouped have been introduced. TP reporting The deadline for TP report filing has been changed. TP documentation The list of information to be included in the TP documentation has been extended Penalties New types of penalties for the delayed provision of TP report, TP documentation and declaration of controlled transaction in TP report have been introduced. Penalties in the area of TP will be calculated on a different principle.
Main Provisions of and Definitions of the Transfer Pricing Law
Related parties In order to determine how companies might be affected by TP regulations, it is necessary to firstly determine if they are regarded as “related parties” in the context of TP rules. Related parties in the context of the TP rules are both legal entities and individuals who are in specific relationships that may influence the conditions or results of their business activities. Namely, under the following circumstances parties are recognized as related:
- If one of the parties (legal entity or individual) owns (directly or indirectly) 20% or more of the shares in the other party (legal entity);
- If a legal entity (through related parties) owns (directly or indirectly) 20% or more of the shares of other legal entity;
- If a legal entity or individual has the authority to assign the sole executive body of the legal entity; or at least 50% of the executive board of the legal entity; or at least 50% of the legal entity’s supervisory board;
- In legal entities where at least 50% of the executive board and/or supervisory board is represented by the same individuals;
- In legal entities whose sole executive body is assigned by the same legal entity or individual (by the owner or by a supervisory board authorized by the owner);
- If an individual is considered to be closely related to another party, such persons are considered to be related (spouses, parents, children, brothers and sisters, etc.);
- If the overall amount of all loans / non-refundable financial assistance offered by a legal entity / individual to the other legal entity and / or all loans/non-refundable financial assistance offered by third parties exceeds the equity capital of the borrower by more than 3.5 times (10 or more times for financial institutions conducting leasing activities).
Please note: There are certain other criteria which are not directly prescribed by the law, but can be considered by the local tax authorities for TP purposes. Therefore, each specific case requires close analysis from a TP perspective. The definition of related parties also envisages the right of the Ukrainian fiscal authorities to prove in court that an entity implemented practical control over decisions of another entity, though formally independent. Controlled Transactions Since 2015 transactions between Ukrainian related parties are not regarded as controlled for TP purposes, whereas they previously were, in some cases. The new rules apply only to cross-border transactions. Likewise, the new TP rules are not supposed to apply to value-added tax but only to corporate income tax. Controlled transactions with non-residents: The list of controlled transactions subject to the Ukrainian TP regime has grown. Since January 2017, TP rules apply to the following transactions:
- Transactions with foreign companies involving the sale / purchase of goods / services through nonresident commission agents;
- Transactions with non-residents registered in low-tax jurisdictions according to the list adopted by the Cabinet of Ministers of Ukraine. Under the new rules, the list of these jurisdictions will serve as the definitive source of what are deemed to be low-tax jurisdictions. This rule deviates from the previous regulations. џ Transactions with non-residents who do not pay corporate profit tax, including the one levied on the profit received outside of the country of registration, and/or are not the tax residents of the country of their registration. The list of organizational forms of such non-residents is to be approved by the Cabinet of Ministers of Ukraine.
For the purposes of TP, transactions can be defined as follows:
- Operations with goods, such as raw materials, finished products, etc.;
- Operations on sale (purchase) of services;
- Operations with intangible assets, including royalties, licenses, payments for patents, trademarks, knowhow, other intellectual properties;
- Financial operations, including leasing, investments, loans, commissions, guarantees, etc.
- Operations with capital, including sale / purchase of shares or other investments, sale / purchase of longterm tangible and intangible assets.
- Transactions between related parties with the involvement (as intermediaries) of the independent persons provided that such a person:
(1) does not perform any significant functions and
(2) does not use significant assets and/or does not bear significant risks in transactions between related parties. This provision is aimed at preventing evasion of the transfer pricing rules by involving third parties in controlled transactions.
New threshold for controlled transactions: Starting from January 1, 2017 business transactions with the same counterparty will be treated as controlled transactions, provided the following two conditions are met:
- The annual income from all sources of a taxpayer, determined based on the applicable accounting rules, that is reported for corporate profit tax purposes exceeds UAH 150 million (excluding indirect taxes) for the corresponding fiscal calendar year, and;
- The volume of such transactions of a taxpayer with the one counterparty, determined based on the applicable accounting rules, exceeds UAH 10 million (excluding indirect taxes).
Please note: There are many other specific cases which are not directly outlined either by the basic law or by the relevant clarifications. Given this, a rather “broad” and “inconsistent” approach is taken by the local tax authorities, so it can be in the interest of a tax payer to obtain consultation from tax consultants and / or clarification from the tax authorities prior to making a decision on whether or not to file TP reports.
Transfer Pricing Methods and Information Sources
The general rule (subparagraph 126.96.36.199. of Article 39 of the Tax Code of Ukraine) provides that a taxpayer may choose any TP method which he deems appropriate for the pertinent transaction. However, the comparable uncontrolled price method (CUP method) should be used if it can be applied with at least the same degree of certainty as any other method. The resale price and cost plus methods should be given preference over the transactional net margin method (TNMM) and the profit split method. The Tax Code of Ukraine prescribes the following methods for determining the conformity of prices in controlled transactions to the arm’s length principle:
- Comparable uncontrolled price method (CUP method)
- Resale price method
- Cost plus method
- Profit split method
- Transactional net margin method (TNMM)
Please refer for the more detailed description of the methods here. Please note: In Ukraine, the method chosen by the taxpayer is obligatory for the fiscal authority during the audit, unless the authority proves that the method used by the taxpayer does not allow determining the conformity of prices correctly. According to Article 39, paragraph 39.5.3 of the Tax Code of Ukraine, a taxpayer may use the following information for establishing whether or not prices are in line with the arm’s length principle:
- Information on uncontrolled comparable transactions of a taxpayer and of the entity which is the other party to the controlled transaction;
- Any information sources, which contain open information and provide information on comparable transactions and entities;
- Other information sources from which the taxpayer obtained information in a way compliant with the legislative requirements, and which provide information on comparable transactions and entities, provided that the taxpayer has provided the controlling authority with such information;
- Information has been received by controlling authorities in accordance with international treaties concluded by Ukraine.
In case a taxpayer proves the correspondence of the price to the arm’s length principle using data from the above mentioned sources, the fiscal authority is required to use the same sources of information in their analysis. The only exception is for cases when it is proved that other information sources ensure a higher level of comparability. This abovementioned rule is one of the most significant improvements of the TP legislation, since the previous system implied that the state-controlled “official” sources of information had priority over any other sources. The following sources of information may be used to perform a TP analysis:
- Information on the prices and quotations of Ukrainian and foreign commodity exchanges;
- Information on prices (or the range of price fluctuations) and exchange quotations contained in official information sources;
- Information from pricing agencies;
- Information on transactions performed by the taxpayer.
Please note: The abovementioned list of information which may be used to determine market prices is not exhaustive.
Transfer Pricing Reporting
Taxpayers that have conducted controlled transactions during a reporting year are required to submit information on such transactions as an annex to the corporate profit tax return. Reporting specifications 2017 The new reporting requirements, introduced on January 1, 2017, can be summarized as follows:
- If the volume of the controlled transactions of a taxpayer with one counter-agent exceeds UAH 10 million (net VAT) during a calendar year, such a taxpayer shall report electronically to the fiscal (tax) authorities before October 1 of the following calendar year (para.39.4.2. of Article 39);
- Tax payers which use any method other than the “CUP method” to confirm that the price of the controlled transactions with non-residents from special jurisdictions are in line with the arm’s length principle shall inform the fiscal (tax) authorities about such transactions before May 1 of the following year. The information has to include details of all related parties involved in the sale/purchase chain up to the first unrelated counter-agent. The information about the indexes of the profitability of the related parties involved is mandatory.
- For the determination of a comparable price for the arm’s length principle, the taxpayer should use the average price on the commodity exchange for the 10 days prior to the day on which the controlled transaction occurred;
- A list of the relevant commodity exchanges will be adopted by the Cabinet of Ministers of Ukraine;
- If a taxpayer does not provide the required information, or provides information which is not sufficient to confirm compliance with the arm’s length principle, the fiscal (tax) authorities are entitled to determine the price for the controlled transactions themselves, applying the “CUP method”.
The new TP law introduces the following three types of TP reports:
- TP documentation. The term for submission has been reduced to one month from the date of receiving the relevant request from the state authorities (the previous rules allowed up to two months for the provision of transfer pricing documentation by large taxpayers);
- Report on controlled transactions if the volume of controlled transactions with the same counterparty exceeds UAH 5 million in one tax period (the previous version required submission of the report on all controlled transactions).
In Decree № 8, dated January 18, 2016, the Ministry of Finance of Ukraine outlined the format of the TP report as well as detailed instructions on the data requirements, as well as on how to file the report.
Transfer Pricing Documentation
The new rules of the Tax Code of Ukraine (para.39.4.3. of Article 39) stipulate the obligation of taxpayers who are engaged in controlled transactions to prepare and make available TP documentation. Upon the request of the Ukrainian tax authorities the taxpayer is obliged to provide the supporting documentation regarding the transactions directly indicated in the request. Taxpayers are required to submit TP documentation within the 30 calendar days from the day of receipt of the request (para.39.4.4. of Article 39). The tax authorities may request such information from the taxpayer at any given time, but not earlier than May 1 of the year following the year when the respective controlled transactions were carried out. The list of information that has to be provided is directly stipulated by the Tax Code of Ukraine (paragraph 39.4.6). There is no pre-defined format for the preparation of TP documentation, however the set of documents or a single document shall contain the following information:
- Details on the related parties;
- General description of the group (including parent company and its subsidiaries), as well as the organizational structure of the group, description of business activities of the group, transfer pricing policies, information on persons to whom the taxpayers provides local management reports;
- Description of the taxpayer’s management structure, its organizational structure;
- Description of the taxpayer’s activities and business strategy, in particular economic business conditions, analysis of respective markets of goods (services, works), on which the taxpayer conducts its business activity, list of the main competitors;
- Information on taxpayer’s participation in the restructuring of business or transfer of intangible assets in the reporting or previous year including clarification on aspects of these operations which influence or have influenced the taxpayer’s activity;
- Description of the controlled transactions, copies of respective agreements (contracts);
- Description of the goods / works / services of the controlled transaction including their technical characteristics, quality and reputation in the market, the country of origin and the manufacturer, trademark and other information related to the quality of the goods / works / services;
- Information on settlements actually conducted within the controlled transaction (amount and currency of payments, date payment documents);
- Factors influenced on forming and setting up the price, amely business-strategies of the parties to the controlled transactions (if any) which significantly influence the on the price of the goods (services, works); functional analysis of the controlled transaction;
- Economic and comparable analysis;
- Information on self-correction and proportional correction made by the taxpayer (if any).
A separate set of TP documentation shall be prepared for each related entity that has concluded transactions with the tax payer. In cases where the provided information is not sufficient, the fiscal (tax) authorities may require additional information which must be submitted to the fiscal (tax) authorities within 10 days following the date of receipt of the additional request. According to the Tax Code of Ukraine, the profitability ratio for the purposes of TP shall be defined based on the accounting data and financial statements displayed in accordance with the national or international accounting standards, in accordance with the accounting standards and financial reporting used in Ukraine, with a corresponding adjustment to enable comparability. Please note: A “Big taxpayer” (defined as a taxpayer with income of over UAH 1 billion, or more than UAH 20 million of paid taxes during four consecutive reporting quarters) is allowed to negotiate the TP arrangement with the tax authorities and sign an advanced pricing agreement (for a certain period of time) confirming that the tax authorities approve the taxpayer’s approach to estimating the “fair market price” for the transactions of such a “Big tax payer” (paragraph 188.8.131.52 of the Tax Code of Ukraine).
Transfer Pricing Audit
The reasons for a TP audit are:
- Obtaining of the TP documentation from a taxpayer;
- Failure by a taxpayer to file the TP report (or filed without compliance with the requirements of the law);
- Failure by a taxpayer to submit (or submitted without compliance with the requirements of the law) the TP documentation.
- Obtaining of the documentary confirmed information regarding the violation of the arm’s length regulations by a tax payer.
Since 2015, the duration of the TP audit shall not exceed 18 months (compared to 6 months before January 1, 2015). The TP audit may be extended for an additional 12 months if the information from foreign tax authorities, experts, translation of documents, etc. is required. If deviations of the price applied to the transactions from the fair market price have led to an underestimation of tax liabilities were identified, State tax authorities have 2 working days following the last day of the TP audit to prepare an act containing the audit results. The taxpayer has a right to pass to the fiscal (tax) authorities its objections within 30 calendar days after receipt of the act. The fiscal (tax) authorities then have 30 working days to review the objections and issue a relevant decision.
In case the tax authorities assess an additional tax liability in connection with the taxpayer’s understatement, the taxpayer will be fined as follows:
- 25% of the understated tax liability for the first violation;
- 50% of the understated tax liability for the second violation.
In case the taxpayer by himself detects an underpayment of his tax liability, makes a selfadjustment and discloses and resolves understatement on a voluntary basis, the fines will be as follows:
- 3% of such understated liability, provided that it is identified through the adjusted tax return and paid prior to its filing;
- 5% of such understated liability, provided that it is identified through the consecutive tax return and paid thereafter.
The new TP rules envisage penalties for non-submission of TP report and/or mandatory TP documentation as well as for non-reporting of the controlled transactions. These penalties are as follows:
- 300 times the minimum living wage for the persons capable of work as of January 1 of the reporting year (min. living wage since 1 Jan. 2017: UAH 1 600; thus UAH 480 000 ) for non-submission of the controlled transactions report;
- 1% of the amount of transactions not included in the controlled transactions report, but no more than 300 times the minimum living wage;
- 3% of the amount of the controlled transactions, for which no documentation was submitted, but no more than 200 minimum living wages (UAH 320 000) for all undeclared transactions, for failure to submit transfer pricing documentation;
- 5 living wages for each calendar day of nonsubmission after expiration of 30 calendar days – for failure to submit the report on controlled transactions or transfer pricing documentation after the 30 days following the deadline for payment penalties has expired;
- 1 living wage for each calendar day of the delay, but no more than 300 living wages – for delayed submission of report on controlled transactions;
- 1 living wage for each calendar day of the delay, but no more than 300 living wages – for delayed reflection of the controlled transaction in the respective report;
- 2 living wages for each calendar day of the delay, but no more than 200 living wages – for delayed submission of transfer pricing documentation.
There is a risk that the new fines will apply to TP violations regarding transactions performed before the law took effect, that is, in 2013 and 2014.
What does this mean for you?
We consider that with the enforcement of the (new) TP regulations in Russia, Ukraine, Poland, Kazakhstan and Belarus, the matter of TP in the different countries will attract the increased attention of the relevant tax authorities. Therefore, the management of the company’s pricing policy and documentation of transactions will require additional consideration by taxpayers. The following steps should be undertaken in order to be prepared for a TP audit:
1. Examine intercompany transactions in order to prepare a list of transactions which are subject to TP control and verify whether or not you are above the relevant thresholds and need to prepare TP notifications and TP documentation.
2. Select the appropriate TP method under the local law.
3. Analyze the performed functions, involved risks and used assets in order to prepare a functional analysis.
4. Carry-out a benchmark analysis.
5. Prepare the TP notification / report and TP documentation.
It should be taken into consideration that the preparation of the TP documentation is a time-consuming procedure. Therefore, it is important to calculate what additional personnel should be hired or to outsource the process to external consultants. However, preparation for the TP policies implementation should start as soon as possible in order to meet legislative requirements. Please note: Due to country-specific differences in TP law, the TP methods used in the above mentioned countries might differ significantly.
How we can help you
SCHNEIDER GROUP has a team of accountants and tax experts with extensive experience in accounting and taxation in our offices in Russia, Ukraine, Poland, Kazakhstan and Belarus, who will be pleased to provide you with:
- An analysis of your transactions which may be subject to TP control;
- A benchmark study to check if your intercompany prices comply with the “arm’s length” principle
- Preparation of the TP documentation for your controlled transactions;
- Preparation of the notifications/reports to the tax authorities about controlled transactions;
- Support to your in-house team in preparing TP documentation and notifications.