Russian Parliament accepts new transfer pricing legislation

27.07.2011

After years of delay, the Russian parliament has finally passed the new transfer pricing rules, though there have been significant amendments.

Russia’s existing rules, which were only designed to be temporary, date to 2000, and are widely considered to be in need of overhaul.

“The current rules are quite primitive,” said Ruslan Vasutin, a tax partner at DLA Piper in Russia. “One of the well-known deputies of the Russian Parliament, Andrey Makarov, who was heavily involved in drafting of the Russian Tax Code, once said that the Russian transfer pricing rules had been adopted in such a form on purpose so as to never actually function in practice.”

Vasutin points out that the current rules have a number of substantial loopholes which results in the Russian tax authorities winning no more than 10% of all transfer pricing cases.

“The number of Russian transfer pricing cases remains insignificant although the capital flight out of Russia through transfer pricing schemes has grown substantially in 2009 and in the first half of 2010,” said Vasutin.

Evgenia Veter, a transfer pricing partner at Ernst & Young, points out that Russia has been attempting to reform its regulations ever since they came into force.

“However, the transfer pricing reform has been met with a large degree of skepticism from the local business community, which used to live with the current form-over-substance approach applied in the Russian Tax Code and practice and the absence of any transfer pricing documentation requirements,” said Veter.

Veter points out that since transfer pricing as such is not a straight-forward black and white subject, it took the legislators a long time to find the appropriate language to describe the rules.

“And even at the very last stage, when the language has been found for the law, we still observed a confrontation from the local business community, especially in respect of a need for transfer pricing control of domestic transactions,” said Veter. “ All this took a lot of time for the law to be finally accepted and passed through the parliament.”

The rules were originally intended to be introduced at the beginning of this year and require taxpayers with controlled transactions exceeding 100 million rubles ($3.3 million) to submit extensive documentation within 10 days of request.

There have been a number of changes to the rules that finally passed both houses of parliament last week and the new rules are more aligned with internationally accepted principles.

“Additionally, it has introduced certain transition rules for taxpayers, such as larger thresholds for defining controlled transactions, penalty exemption for the first two years of the law and the reduced penalty for the next three years, with a shortened period opened for transfer pricing audits in respect of the first two years and some other provisions,” said Veter.

Andrey Shpak, a tax partner at Goltsblat BLP, points out that the threshold for documentation requirements will decrease from 100 million to 60 million between 2012-2014 and the penalty for tax underpayments because of transfer pricing will apply from 2014 at 20%, before moving up to 40% in 2017.

The final version of the law has also exempted certain domestic transactions and advance pricing agreements have been made available from 2012, not 2013 as originally planned.

Until recently, companies had been adopting a wait and see attitude to transfer pricing reform, however with the rules now imminent, Veter reports an increased focus from both foreign multinationals and Russian clients on their arrangements and how they might be sustained under the new law.

Foreign multinationals are generally welcoming the new law since it largely follows the OECD guidelines and should therefore reduce the risk of a double taxation in their cross-border transactions with Russia. 

“Although this law introduces documentation requirements, many foreign multinationals are used to similar requirements in their home countries and in other parts of the world, so this does not appear to them as a significant administrative burden,” said Veter.

Russian companies unaccustomed to documentation requirements are facing a significant administrative burden however.

“Among these companies, the law will have a primary impact on those companies who have export transactions with commodities, especially those involving the use of a foreign trading structure, as well as extensive domestic transactions within their groups,” said Veter. 

“The transfer pricing directors are getting ready for the hard work in the second half of the year,” said Shpak. “Multinationals are generally willing to accommodate with the new rules, while local businesses are more apprehensive of the changes.”

The rules must first meet presidential approval before they become law, but after President Dmitry Medvedev’s budgetary speech earlier this month emphasising the importance of transfer pricing reform, this appears a mere formality. The regulations should be signed within the next few days and are on course to come into force in 2012. They are expected to be published by the end of November this year, with further amendments likely.

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