Bariono Wealth Advisors Ltd
In line with the Organisation for Economic Co-operation and Development (OECD) Guidelines, the Cyprus Tax Authorities issued a Circular on 30 June 2017 (effective from 1 July 2017) through which the transfer pricing framework for companies engaging in intra-group financing activities in Cyprus was amended.
The Circular addressed the issues of substance and transfer pricing requirements, and it also established guidelines regarding the content of Transfer Pricing Studies. The Minimum Margin Scheme regime which is applicable up to 30 June 2017 was replaced by the requirements of the Circular.
Intra-group financing transactions entail the use of funds generated through various sources such as private loans, the issue of publicly traded debt notes or other debt securities, bank loans, and any other source of debt financing; to provide financing by means of interest bearing loans or advances to related parties. Such transactions must adhere to the arm’s length principle (i.e. be at market terms and conditions). A comparability analysis of the group’s financing transactions with comparable transactions between parties which are not related is required to examine whether the intra-group financing arrangement is line with the arm’s length principle.
The two main pillars of the comparability analysis are:
1. An accurate definition of the transaction, which is achieved by:
a. Identifying the exact nature of the relationship between the related parties involved, and
b. Examining the conditions and financial circumstances which apply to the specific transaction. (the substance over legal form principle applies)
The Transfer Pricing Approach
a. Functional Analysis
The function (i.e. execution or management of a financing transaction, decision making roles, etc), within the group, of each entity who is a party in the transaction is examined including any overlapping of functions among different entities of the group, how each entity contributes to the value generation of the group and adherence of the entities’ functions to the arm’s length principle.
b. Financing Arrangement Analysis
The terms of the transaction, assets used by the entities, and risks assumed by each entity are examined.
c. Risk analysis and equity requirements
The parties to the financing arrangement need to exhibit:
a. The extent of their ability to assume credit and other risks (analysis of the decision-making authority of each party to the transaction, whether the decision-making authority is in fact exercised and whether the financing party has actual presence in Cyprus) and,
b. The extent of their ability to manage credit and other risks (analysis of the financial capabilities and risk management expertise) credit and other risks.
A wide-ranging risk analysis is performed to determine the acceptable level of equity which needs to be maintained by the parties in the financing transaction. The methodology includes estimation of the material risks emanating from the financing transaction, the use of EU solvency requirements (under certain conditions), credit rating analysis etc.
d. Comparison with financing arrangement between unrelated parties
Transactions between unrelated parties which are comparable to the one under examination are identified and adherence to the arm’s length principle is assessed.
Simplification alternative to a Transfer Pricing Study
For group entities acting solely as financial intermediaries (substance requirements apply) the circular provides the option of not submitting a Transfer Pricing Study in case of a minimum after tax return on the assets financed through the transaction of 2%.
The choice of the simplified measure is disclosed on the tax return of the entity and is subject to the Automatic Exchange of Information as per the relevant directive and OECD Declaration.
How we can help
Our tax experts can assess the impact of the new requirements on the financing arrangements and operations of your group in Cyprus
Our transfer pricing studies as well as our relevant recommendations are made to ensure that your operations are in compliance with the new requirements and adhere to the tax laws of Cyprus, thus mitigating the risk of the validity of your operations being challenged.
For more information regarding Transfer Pricing please contact us for a no obligation initial consultation.