Japan Tax Bulletin
Guidance on the transfer pricing implications of the COVID-19 pandemic
March 2021
On December 18, 2020, the OECD released a “Guidance on
the transfer pricing implications of the COVID-19 pandemic”(“Guidance”). The Guidance represents the consensus view of
the 137 members of the Inclusive Framework on BEPS regarding
the application of the arm’s length principle and the OECD
Transfer Pricing Guidelines (“TPG”) to issues that may arise or
be exacerbated in the context of the COVID-19 pandemic. The
Guidance is helpful both for taxpayers in reporting the financialperiods affected by the pandemic and for tax administrations inevaluating the implementation of taxpayers’ transfer pricing
policies.
The Guidance focuses on four key areas:(1) Comparability analysis;(2) Losses and the allocation of COVID-19 specific costs;(3) Government assistance programs; and(4) Advance Pricing Agreements.
It is important to emphasize that in performing a transfer
pricing analysis, these topics may be interrelated and therefore
should be considered together and within the analyticalframework of the OECD TPG.
The COVID-19 pandemic, which constitutes a hazard risk, has
led to unusual outcomes of other risks for some taxpayers,
including: (i) marketplace risk, as demand for some products andservices has collapsed; (ii) operational risk, as the pandemic has
disrupted supply chains and inhibited production; and (iii)financial risks, as borrowing costs for some industries have spiked
and customers have delayed or defaulted on payments. The
following is a short summary of the Guidance, available at theOECD website.
1.

Comparability analysis

The following sources of information may support that
determination through the comparability analysis, generally by
estimating the effect of the COVID-19 pandemic on thecontrolled transactions under review:
・An analysis of how sales volumes have changed during
COVID-19, including whether the change is due to the use ofother sales channels, and specifically compared to sales
generated in pre-COVID years,
・An analysis of the change in capacity utilization relevant for
the MNE group and the controlled transaction, and/ortransactions with independent parties;
・Specific information relative to incremental or exceptionalcosts borne by parties to the controlled transaction (either withassociated or unrelated parties) or by the MNE group as awhole・The extent to which government assistance has been
received and, if so, quantifying the effect and identifying thetype of the assistance and its accounting treatment;
・Details regarding government interventions that haveaffected the pricing and performance of controlledtransactions;・Information from interim financial statements such as
quarterly SEC filings or earnings releases;
・Macroeconomic information like country specific GDP data
or industry indicators form central banks, government agencies,
industry or trade associations to the extent useful inunderstanding the context of the controlled transaction;・Statistical methods such as regression analysis or varianceanalysis that are used to predict the extent to which a certain
variable will vary with reference to other variables undercertain specific conditions;
・A comparison of internal budgeted/forecasted data relating
to sales, costs and profitability, compared to actual results; and・An analysis of the effects on profitability or on third party
behavior observed in previous recessionary periods or using
any data available in the current year, even if partial.
Since comparable data from independent comparable
transactions or companies from other time periods, such as
average returns in preceding years, may not provide asufficiently reliable benchmark for the current period, theGuidance suggests several approaches to assist in determining
the applicable transfer price, such as the use of reasonable
commercial judgement supplemented by contemporaneous
information on the market; use of more than one transfer
pricing method; utilize data from other crises may be used tosupport price setting, and etc.
2.

Losses and the allocation of COVID-19 specific costsDuring the COVID-19 pandemic, many MNE groups haveincurred losses due to a decrease in demand, inability to obtain or
supply products or services or as a result of exceptional, nonrecurring operating costs. The allocation of losses between
associated entities can give rise to dispute and hence is an issue
that requires consideration given the probable increase in thefrequency and magnitude of losses in the current economic
environment. When considering the issue of losses and theallocation of COVID-19 specific costs, three issues warrant
specific discussion:

First, it is important to emphasize that the allocation of risks
between the parties to an arrangement affects how profits orlosses resulting from the transaction are allocated at arm’s length
through the pricing of the transaction;
Second, it is necessary to consider how exceptional, nonrecurring operating costs arising as a result of COVID-19 shouldbe allocated between related parties. These costs should beallocated based on an assessment of how independent enterprises
under comparable circumstances operate.
Finally, the COVID-19 pandemic has created conditions inwhich associated parties may consider whether they have theoption to apply force majeure clauses, revoke or otherwise revise
their intercompany agreements. This may impact the allocation oflosses and CPVID-19 specific costs between associated parties,
and therefore also requires specific consideration in the current
economic environment.
3.

Government assistance programs

Government assistance is a monetary or non-monetary
program where a government or other public authority provides a
direct or indirect economic benefit to eligible taxpayers such as
grants, subsidies, forgivable loans, tax deductions, or investment
allowances. Governments have also provided broader financial
and liquidity supports to ensure enterprises can continue tooperate through the period of reduction in business activity,
include: (i) loan guarantees; (ii) direct financing to business on
preferential terms; (iii) loan deferrals; (iv) specific grants and (v)tax relief.
The terms and conditions of government assistance programs
related to COVID-19 need to be considered when determining
the potential impact of these programs on controlled transactions.
If the government assistance is an economically relevantcharacteristic, this information should be included as a part of the
documentation to support the transfer pricing analysis.

4.

Advance Pricing Agreements

COVID-19 has led to material changes in economic conditions
that were not anticipated when many APAs covering FY2020 and
potentially future financial years affected by COVID-19 wereagreed. Given this situation, it is important to determine to whatextent, if any, the change in economic conditions affects theapplication of existing APAs.
Some taxpayers may face challenges applying existing APAs
under the economic conditions resulting from the COVID-19
pandemic. In those instances, taxpayers are encouraged to adopt acollaborative and transparent approach by raising these issues withthe relevant tax administrations in a timely manner. Taxpayers
should not seek to resolve them unilaterally without consultingwith the relevant tax administrations. Also, Taxpayers and tax
administrations cannot automatically disregard or alter the termsof existing APAs due to the change in economic circumstances.
When considering the consequences of the failure to meetcritical assumptions, tax administrations and taxpayers should
consider the (i) terms of the APA; (iii) any agreement between
relevant tax administrations as to how to deal with the failure; and(iii) any applicable domestic law or procedural provisions. The
Guidance further describe which actions would fit under which
circumstances.
Conclusion:
The Guidance provides a set of useful and (where possible)
practical examples on how taxpayers and tax administrations
should proceed in order to reach the most appropriate outcome,applying the arm’s length principle. As noted, even though theGuidance is not considered to be an amendment of or formal
addition to the existing OECD TPG, it represents a useful basis
for MNEs and tax administrations on how to navigate thecontinuously uncertain times ahead.

Under the guidance in Chapter II of OECD TPG, whenestablishing arm’s length prices using one-sided methods,
particular care must be taken to avoid adopting without further
analysis a particular mechanical approach, since this could lead to
non-arm’s length prices in transactions among associated parties.
Caution should be exercised in assessing whether a purported
sharing of government assistance represents an arm’s length
outcome.

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