Troublesome identification of controlled transactions

While the concept of uniformity of a transaction as interpreted in the Polish tax regulations seems not to raise significant doubts and should be viewed in compliance with the literal wording of the provisions of the CIT Act, the taxpayer – given the broad definition of a controlled transaction – may have reservations relating to the scope of the necessity of drawing up the transfer pricing documentation for individual categories of transactions concluded with related entities.

According to the statutory definition, a controlled transaction means business activities identified based on the actual behaviour of the parties, also including the allocation of the income of a foreign establishment, terms and conditions of which are agreed or imposed on the grounds of the existence of relations.

Thus, the concept of a controlled transaction includes any and all activities undertaken by taxpayers with related entities of a diverse nature and objectives. In the justification to the amended regulations, the legislator stated that the introduction of such a broad definition is aimed at applying the documentation obligation not only to routine basic transactions concluded by and between the related entities (such as service, commodity or financial transactions) but also other events which may not constitute a transaction in the common meaning of the word, but which terms and conditions are agreed by and between the related entities. Among other things, it is about any restructuring processes, partnership deeds, cooperation agreements, or cost sharing agreements.

When analysing the documentation obligations, a taxpayer should view the business activities undertaken with the related entities and analyse them in the context of the documentation obligations in the broadest possible scope.

In order to identify and confirm the list of identified transactions covered by the documentation obligation, it is advisable to refer to a TPR-C form which is used by a taxpayer to provide the tax authorities with detailed information about the controlled transactions concluded in a given fiscal year. Generally, each documented transaction should be subject to reporting under TPR-C form, and therefore the list of controlled transactions available in the form may be a kind of a crib for taxpayers.

In spite of the foregoing, the effective tax regulations as well as the TPR-C form itself are the source of differences and doubts as to the documentation obligation in relation to selected events. One of such examples is a transaction concerning the increase of the capital by a shareholder in a company.

In compliance with the judgement issued by the Supreme Administrative Court in the preceding legal state, records No. II FSK 2597/18 dated 20 February 2019, the event consisting in the increase of the capital in exchange for cash contribution was not subject – pursuant to the former regulations – to documentation obligation. Furthermore, as stated in the draft explanations to TPR-C form dated May 2020 (which, however, should not be treated as an interpretation of the law), the obligation to document the increase of the capital does not exist, while a broader restructuring event may be covered by it with the increase of the capital being only one of the elements. Also, the purpose of the prepared documentation, that is the justification of the arm’s length nature of a price applied in the transaction, may indicate that the documentation of such an event – which is by definition applicable to related entities, and thus causing the practical problem of specifying the arm’s length nature of the agreed price – may not be justified. Whereas, any doubts in the aforementioned scope are multiplied by the interpretations that have been issued recently, in particular the one with records No. 0111-KDIB1-2.4010.166.2020.2.AK dated 17 August 2020 stating that additional payments to the capital of a company by its shareholders should be documented. What’s important, the materiality threshold in the aforementioned case was determined at the level of PLN 10,000,000, that is similarly to a financial transaction to which such a type of event was compared. However, it is possible that the line in this scope may be changed and, therefore, it is advisable to monitor the interpretations and judgements issued under the regulations effective since 2019.

At the same time, in compliance with the response to the parliamentary question with records No. DCT2.054.1.2020 dated 22 August 2020, the payment of dividends does not meet the definition of a controlled transaction which would be subject to the documentation obligation.

When specifying the documentation obligations, a taxpayer should pay special attention to financial transactions concluded with related entities. This is because the determination of the value of a transaction, and – in consequence – the determination whether a given transaction is subject to the documentation obligation – is not always simple and transparent.

One of such examples may be the situation of granting the financing between the related entities for which the value of the principal amount – pursuant to the agreement concluded in the previous years – exceeds the statutory threshold of PLN 10,000,000, while the amount which is actually made available in the period is lower than that. In such a situation, it should be stated that in compliance with Article 11l (2) (2) of the CIT Act, the value of a controlled transaction in the case of financial transactions is defined based on agreements or other documents. In consequence, regardless of the actual degree of disbursement of – for instance - a loan, if the amount arising from the concluded agreement exceeds the threshold, the party to the agreement will be obliged to draw up the transfer pricing documentation for such a transaction in each year of the term of the agreement.

Another doubt may be raised in the scope of the correct determination of the value of cash pooling transactions which should be related to the threshold. The explanations to TPR-C may be useful. In compliance with their draft version dated May 2020, when determining the amount of a controlled transaction for cash pooling agreements, a principle adopted for the determination of the transaction value should be similar to the one applicable to a loan. Nevertheless, given the specific nature of cash pooling transactions, the value of the principal amount does not always arise from the concluded agreement. In such a case, the transaction value should be determined based on other documents (including summaries of balances), taking into account the balance of the principal amount that the entity received or made available under the controlled transaction in a given financial year.

Regardless of the aforementioned, both the provisions of the CIT Act and the explanations do not clearly specify which balance – the average, the highest or one defined using other means – should be taken into account when determining the transaction value.

It should also be remembered that in line with the literal wording of the regulations as well as the current case law, the receipt by a taxpayer of a gratuitous financial contribution (e.g. in the form of guarantee or surety) from the related entity constitutes a transaction as interpreted in the CIT Act which – provided that materiality criteria are met – will be subject to the obligation to draw up the tax documentation in spite of the absence of the agreed remuneration.

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In addition to the events which directly arise from the provisions of the CIT Act and are the continuation of the practice in the scope of identifying documentation obligations from the previous years, the amended regulations also provide for other new events which may be troublesome for taxpayers in the scope of their assessment in terms of the obligation to draw up the transfer pricing documentation. Therefore, it should be stated that in the context of amended transfer pricing regulations, the taxpayers should pay special attention to the correct and detailed identification of business events effected with the related entities.  

Piotr Wodecki, Manager in Transfer Pricing Team at KPMG in Poland
Joanna Brodziak, Senior Consultant in Transfer Pricing Team at KPMG in Poland