Florencia Gonzalez, David Zarecky
Florencia is a transfer pricing adviser at Reptune. She is based in London, United Kingdom. David is a co-founder and a transfer pricing adviser at Reptune. He is based in Prague, Czechia. Reptune is a transfer pricing boutique firm focused on automation of OECD 3-tier transfer pricing documentation.
Argentina’s transfer pricing regulations represent a distinct departure from the standard OECD transfer pricing framework, in particular as regards their application of what we will term static approach to tested party selection throughout this article. This departure can lead to various issues and risks for multinationals with operations in Argentina, which we further discuss below.
- Brief introduction to Argentinian transfer pricing regulations
Argentina’s transfer pricing regulations, as amended through recent legislation and regulations (e.g., General Resolution 4717/2020), apply to related party transactions and dealings with low-tax or non-cooperative jurisdictions.Although the starting point of the system is the arm’s length principle, as embedded in OECD Transfer Pricing Guidelines (“OECD Guidelines”), there are important differences too. In this article, we will focus on one specific aspect of the Argentinian regulations relating to the selection of the tested party.
- Static vs dynamic approach to tested party selection
Under OECD Guidelines, a distinction can be made between one-sided and two-sided transfer pricing methods. One-sided methods are those where a given financial indicator is tested at the level of one of the parties only, while the counterparty receives whatever is the remaining return (also called residual profit) from the transaction. Within the standard OECD framework, one-sided methods comprise cost plus, resale price and transactional net margin (TNMM) methods.As regards the choice of the tested party, the OECD Guidelines stipulate in Section 3.18 that the choice of the tested party should be consistent with the functional analysis of the transaction. As a general rule, the tested party is the one to which a transfer pricing method can be applied in the most reliable manner and for which the most reliable comparables can be found, i.e., it will most often be the one that has the least complex functional analysis.
This is the cornerstone of what we term the OECD dynamic approach, where the tested party selection is driven by various changing considerations, such as functional analysis and comparability.
In contrast, Argentina’s General Resolution 4717/2020 explicitly states, with respect to the use of one-sided methods, that the local entity should always be the tested party. No mention is made of the considerations that inform tested party selection under the OECD Guidelines.
Argentina’s static approach can result in application of one-sided transfer pricing methods to entities that are functionally complex or lack adequate comparables, which we will demonstrate in a series of examples.
- Practical examples of potential misalignment in tested party selection
The three stylized examples below demonstrate the practical consequences of Argentina’s static approach to tested party selection.Example 1: Full alignment
An Argentinian distributor purchases finished goods from a Spanish affiliate and sells locally. Both Argentina and the OECD allow the local entity to be the tested party, using the TNMM and a distribution benchmark containing companies in the Americas, with the interquartile range spanning from 2% to 5%, with a median of 3.75%.
Stylized financials
Item
Amount
Net sales
1,000,000
COGS
800,000
Gross profit
200,000
OPEX
170,000
EBIT
30,000
OM
3.00%
Outcome
This is a textbook case where both frameworks are compatible. The Argentinian entity’s operating margin falls within the interquartile range, so there is no risk of an adjustment under either approach.
Example 2: Partial alignment
An Argentinian entity provides services to its LATAM affiliates and receives shared services from its US HQ (priced at a policy of net cost plus 5%). Under the OECD Guidelines, the HQ’s shared services segment would be tested, but Argentina requires whole-entity analysis of the local company due to the limitations in isolating the impact of the inbound services.
Although both approaches aim to test services that could be characterized as administrative services (and, therefore, can rely on the same benchmark), the Argentinian whole-entity approach yields a less precise result. The benchmark interquartile range spans from 4% to 7%, with a median of 5.25%.
Stylized financials
Item
Amount
Net sales
5,000,000
COGS
0
Gross profit
5,000,000
OPEX
4,700,000
EBIT
300,000
NCP
6.38%
Outcome
Since the same benchmark was applicable to both approaches, the methodologies are partially aligned. Furthermore, as the financial results remain within the benchmark range under the Argentinian approach, there is no risk of a transfer pricing adjustment.
Example 3: Misalignment
A UK parent company provides HQ services to its Argentinian distributor, priced at net cost plus 5%. Under the OECD approach, the UK entity is the tested party, evaluated using segmented financials and a European HQ services benchmark, with an interquartile range of 3% to 8% and a median of 6.50%.
However, Argentinian rules require testing the local entity. Since applying the HQ services benchmark to test the whole-entity profitability of a distributor would be inappropriate, a regional benchmark for distribution companies in the Americas (ranging from 2% to 5%, with a median of 3.75%) is used instead.
Stylized financials
Item
Amount
Net sales
15,000,000
COGS
9,000,000
Gross profit
6,000,000
OPEX
5,737,500
EBIT
262,500
OM
1.75%
Outcome
The Argentinian subsidiary’s operating margin is below the benchmark range, which could result in the tax authority imposing an upward adjustment, despite these services already being priced at arm’s length. Assuming that the counterparty’s jurisdiction applies the OECD Guidelines and would consider that there is no need for any transfer pricing adjustment at the Argentinian level, this approach would likely result in double taxation.
- Implications of tested party allocation misalignment
Implications of the misalignment between Argentinian regulations and the OECD framework are manyfold. We highlight the most important ones in the following paragraphs:- Mandating the Argentinian entity to be the tested party in all scenarios, regardless of its functions, risks or the availability of comparables, can result in lopsided profit allocation not aligned with value creation. It may also lead to unreliable and artificial benchmarking strategies.
- This issue would be especially acute for multinationals with highly complex entities in Argentina, which they would consider as risk bearers entitled to residual profits, not tested parties, under the OECD framework. In contrast, multinationals with routine entities in Argentina may not be impacted, as the Argentinian static approach would align more closely with the OECD framework.
- In those cases where the Argentinian static approach is in conflict with the OECD dynamic approach, multinationals would effectively be faced with documenting the same transactional reality in two different ways on each side of the same transaction.
- In cases where Argentinian profits need to be adjusted under the static approach while no adjustment is required under the OECD framework, double taxation would arise, which could lead to cross-border disputes.
- Future policy implications
Given Argentina’s ongoing pursuit of OECD membership, it would be advisable that its static approach be streamlined with the dynamic OECD approach going forward. Argentina should also consider creating a formal bilateral APA program to resolve all potential conflicts on a proactive basis. - Conclusion
Argentina’s static approach to tested party selection represents a significant departure from the OECD transfer pricing framework, where tested party selection is based on dynamic criteria. This leads to various practical challenges and can result in cases of double taxation leading to potential cross-border disputes. Streamlining of Argentina’s transfer pricing regulations with the OECD standard would be recommended to avoid these pitfalls.