Transfer Pricing in Commodity Imports

January 23, 2024

Although the analysis of transfer pricing in operations involving the transfer of raw materials, commonly referred to as commodities, may not seem particularly complicated due to the availability of public and reliable information on their quotation prices, many controversies are generated at the tax level, due to the fact that this analysis has been the cause of disputes between taxpayers and tax authorities.

Origin of the Controversy in Argentina

The origin of the discussion on this type of transaction arose in Argentina, where it was identified that agricultural commodity exports were used by taxpayers to artificially transfer profits to intermediary entities, generally located in jurisdictions with low or no tax taxation. To prevent this, some jurisdictions, especially in Latin American countries, have implemented anti-circumvention measures that seek to prevent the manipulation of the prices agreed in these transactions, establishing as the date of fixing the price of the operation that represents the date of dispatch or delivery of the commodity.

The “Sixth Method” and the Assessment of Economic Substance

Within the framework of these measures, a new approach to the evaluation of such transactions emerges, including rules for verifying the economic substance of the intermediary. This new approach, to assess compliance with the arm’s length principle in the transfer of commodities, is known as the “sixth method” because it is considered an additional method to the 5 commonly used methods.

Distorting effects of the arm’s length principle on the application of the sixth method.

The main discord in the analysis of this type of operations is the date of price fixing, since the existence of multiple contracts guarantees that many times the price of the commodity is not agreed on the same date that the contract is set but can be later, lending itself to a possible choice of a date where the price is convenient for the related parties.  Thus, with regard to the date of pricing of the commodity transaction, the guidelines indicate that, if the taxpayer can provide relevant evidence consistent with the actual conduct of the parties, that date should be considered as the date of pricing. If the evidence is inconsistent, the tax authorities may determine a pricing date consistent with the facts and circumstances of the case.

Ongoing Controversy and Business Risks

In recent years, the discussion on the analysis of this type of transactions and the application of the sixth method is still in force, because in some cases the failure to make a correct analysis of the transactions can lead to having to make high adjustments that will end up harming the companies, so the controversy whether the transfer pricing rules correspond to specific anti-circumvention rules or to valuation rules has gained relevance.  especially with the implementation of the anti-BEPS action plan.

Contributions of Tax Court Resolution No. 00962-3-2022

Tax Court Resolution No. 00962-3-2022 addresses a 2007 commodity transaction case, providing new inputs on this debate. In the case at hand, the consulting firm in charge of preparing the transfer pricing study used the Uncontrolled Comparable Price (NCP) method, taking market prices on the date the transaction was completed as comparable. However, management observed this analysis and considered commodity futures contract quotes published between the date of conclusion of the contracts and the date of the quotation price as “comparable transactions”. Thus, although the agreed terms and conditions were respected, the Administration replaced the chosen quotation with the median determined by itself, arguing the possibility of the existence of a transfer pricing tax planning using market prices at the convenience of the company.

The resolution highlights several points relevant to the discussion. First, the quotation date contractually set by the parties significantly affects the price of the controlled transaction in commodity purchase/sale transactions, as it reflects the economic circumstances and the risks assumed and costs for the parties, such as the choice of a contract that deferres the quotation date; Thus, the quotation date reflects the economic circumstances of the transaction and the risks assumed by the parties. In addition, the joint reading of Peruvian transfer pricing rules, the OECD Guidelines and international technical publications supports the importance of the quotation date in high-risk commodity transactions. Finally, if the contractual agreement on the contribution date has not been called into question as reflecting the actual conduct of the parties, the tax authorities cannot disregard that feature for the purposes of a correct comparability analysis.

Conclusion: Crucial Contractual Considerations

The highlighted case emphasizes the importance of considering contractual characteristics in the comparability analysis, unless they have been distorted or simulated, and that the dispensing with them would only be acceptable by express provision of the law, as in the case of a specific anti-circumvention rule.