For the first time since 1997, when Canada’s transfer pricing legislation was enacted, Finance Canada has issued a consultation paper on the reforming and modernizing of Canada’s transfer pricing rules. Included in the paper are a number of proposed changes that would transform Canada’s transfer pricing rules to ensure they are closely aligned with the 2022 OECD transfer pricing guidelines.
Canada’s original transfer pricing rules were based on the arm’s length and other principles from the 1995 OECD transfer pricing guidelines. The new rules would be more detailed and prescriptive than the existing rules.
Some of the proposed changes being considered include:
- Increasing the transfer pricing penalty threshold so that the penalty applies to adjustments greater than the lesser of 10% of the Canadian taxpayer’s gross revenues and CAD 10 million (currently CAD 5 million);
- Adoption of the OECD’s annual local file and an available-upon-request master file requirement. Canada’s current rules require Canadian-specific bespoke documentation;
- More focus on conditions and comparability factors when analysing transactions, with less emphasis on the price and terms of transactions. The objective here is to consider all comparability factors and not focus narrowly on the legal terms of transactions so that the transfer prices are more in line with the actual conduct of the parties to transactions;
- A safe harbour mark-up of 5% on low-value-add service that support a business but are not part of the taxpayer’s core business, do not relate to intangibles, and are not related to the assumption of risks;
- A standard return for distributors of foreign-owned corporate groups;
- A reduction of those features relating to intercompany loans that allow taxpayers to increase or decrease interest rates, including limiting the term to five years, removing subordination, removing embedded options, and determining the credit rating based on the credit rating of the corporate group rather than the more specific credit rating of the borrower. Canada will not be introducing safe harbour interest rates.
Taxpayers, advisors and other stakeholders have until July 28 to respond to the numerous questions raised by Finance Canada and to provide input to improve upon the suggested changes to the law contained in the consultation paper. The BDO Canada Transfer Pricing Team will be providing input on the consultation and will share that input in a timely and appropriate manner.
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