New Zealand- Targeted campaign on multinational distributors
Country Correspondent: John Nash
One of the continuing global themes is the growing perception of unfairness in the tax system, especially as to whether multinational enterprises (MNEs) are paying their fair share of tax. This theme has been heightened during the pandemic as a result of various “lockdowns” impacting adversely small businesses and lower paid workers.
Inland Revenue has had a major focus over several years on the performance of foreign-owned MNEs operating in New Zealand. Each year, we issue a questionnaire to all foreign-owned significant enterprises (i.e. groups with annual turnover in excess of NZ$30m), except for banks and insurers who are screened separately. The questionnaire covers key financial data as well as a mix of questions addressing new or emerging issues. The two largest sectors of this population have been identified as distributors and manufacturers, so to further sharpen our focus we decided to carry out a targeted campaign on distributors.
We issued in-depth questionnaires to, and received replies from, 372 MNEs (a 100% response rate). The questionnaires were wide-ranging and concentrated on key areas of risk in respect of potential base erosion and profit shifting. The replies were of a high quality, with many providing supplementary information and explanations.
This campaign had two principal objectives:
A detailed evaluation of the sector’s compliance with our transfer pricing rules, there being an opportunity to compare and contrast replies not only across the broad sector but also within specific sub-sectors of the population; and
Intelligence gathering to further our understanding of the sector and inform possible simplification measures and future automated risk rules.
The overall finding was very pleasing, with the great majority of MNEs (88%) demonstrating compliance with our transfer pricing rules. The transactional net margin method was the primary methodology applied and this certainly assisted our benchmarking. The final results included the following:
24 MNEs (7%) were identified as presenting a high tax risk and thus requiring additional examination by our field operatives (interestingly 11 of this category were already subject to field activity indicating good coverage through our general compliance programme); and
18 MNEs (5%) were identified as exhibiting some potential risk features such as average returns but performing some high value functions – these MNEs have been informed that they are now on a special watchlist.
As to future simplification measures, we have decided not to extend our existing guidance to MNE distributors beyond those that operate in New Zealand as small or medium enterprises (SMEs). Essentially those MNEs that have more than NZ$30m in annual turnover tend to perform functions over and above those of routine distributors. However, we have been able to confirm our current simplification measure for SMEs – we consider a weighted average earnings-before-interest-tax-and-exceptional-items (EBITE) ratio of 3% or greater is broadly indicative of an arm's length outcome, in the absence of readily available transactional data for that distributor's transfer pricing transactions or other comparable market data for distributors operating with similar risk characteristics. Transfer pricing outcomes in accordance with this indicative ratio are likely to present a low transfer pricing risk and as such no benchmarking is required to support the arm's length nature of the distributor's weighted average EBITE ratio.
Given the success of this targeted campaign, we will also be covering the next biggest sector (manufacturers) later this year using the same approach.