Transfer Pricing Tax Disputes - HMRC’s New Profit Diversion Compliance Facility (‘PDCF’)

HMRC this week announced the introduction of a Facility aimed at Multinational Enterprises (MNEs) with a risk of HMRC challenge in relation to what is described as "profit diversion". The new Facility is designed to encourage companies potentially impacted to review both the design and implementation of their tax policies, change them as appropriate and use the Facility to put forward a report with proposals to pay any additional tax, interest or penalties due.

Background

Profit diversion can be best understood as multinationals using arrangements targeted by Diverted Profits Tax (DPT) but will usually be tackled by HMRC by way of Transfer Pricing (TP), although other secondary challenges maybe be made, such as Permanent Establishments, DPT, Corporate residence, royalty Withholding Taxes, anti-hybrids and Controlled Foreign Companies. Profit diversion is considered a substantial risk to the taxation of MNEs by HMRC and therefore new multidisciplinary teams have been created to strengthen HMRC’s response. HMRC’s evidence-based forensic approach was discussed in our previous blog entry.

HMRC’s view is that some multinational businesses have adopted cross-border group arrangements which are not consistent with the OECD Transfer Pricing Guidelines, and that some have not implemented arrangements as originally intended or as reported to HMRC, resulting in the diversion of UK profits to an overseas entity where the profits are taxed at lower rates or not at all. Within the Facility guidance HMRC highlight a number of issues they have identified through their recent investigations and that they are seeking to address.

The guidance provides details of some risk indicators HMRC will be applying to help identify potential profit diversion, which we will cover in more detail in our next article. Through a number of information sources (Country by Country Reporting, annual reports, websites, etc), HMRC has conducted extensive data profiling, research and intelligence to identify MNEs that they believe bear the hallmarks of profit diversion. Such MNEs and those who failed to notify for DPT in 2015 can expect to be subjected to rigorous testing and challenge by HMRC.

The Facility

HMRC are planning to issue letters to certain businesses which it believes may have a risk of profit diversion. We understand letters will be issued in a series of tranches, and we think that HMRC’s focus will be on businesses that have not yet notified for DPT or where they have notified but no enquiry has yet been launched. These letters will encourage the taxpayer to consider using the PDCF. If a business does not respond after they receive such a letter, an HMRC enquiry may well follow.

The guidance provides details of what evidence and information HMRC expects to see in a disclosure, but HMRC has confirmed it is open to discussion on what may or may not be necessary to adequately evaluate specific risks and in particular aim to be pragmatic when materiality is an issue. To a large degree this includes all of the information HMRC would seek to review in one of the new type of TP and broader international tax enquiries.

HMRC has indicated its intention is to accept the majority of reports and settlement proposals where they are satisfied that the reports have been produced in accordance with the requirements set out in the guidance. This will include situations where the conclusion is that no additional tax is due, although this is clearly not HMRC’s expectation in most cases.

Once a taxpayer has notified HMRC that they intend to use the Facility, they will generally have six months to submit a report, although HMRC have confirmed that extensions may be discussed and agreed on a case by case basis.

What should I do next?

We have a good insight into HMRC’s broader thinking, and if you think that you may be affected by this announcement, speak to your usual PwC contact and we can arrange a call with one of our specialists to discuss what further action might be advisable, such as undertaking a review of your tax policies. Even if the Facility does not seem relevant for you, this may still be advisable, as the PDCF guidance provides good insight into the way HMRC intends to undertake TP and DPT enquiries as well as the level of evidence HMRC expects taxpayers to provide.

To find out more about HMRC’s new Facility and our approach, please contact your usual PwC contact or Ian Woolley or Ben Proctor, Senior Managers in PwC’s Transfer Pricing Team and Tax Disputes team respectively.