OECD issues guidance on Pillar 1 Amount B: BDO's summary

On 19 February 2024, the OECD/G20 Inclusive Framework on Base Erosion and Profit Shifting (Inclusive Framework) issued special considerations for baseline distribution activities, which it has now incorporated into the OECD Transfer Pricing Guidelines following substantive public consultations. The new guidance is not restricted to Significant Global Entities (SGE’s) and, where applicable, applies to all Multinational enterprises (MNEs) without any materiality thresholds for distribution activities.

The much-awaited guidance is a result of significant negotiations between the members of the Inclusive Framework. However, adoption of the guidance is optional for tax administrations, which will limit the key objective of achieving tax certainty for baseline marketing and distribution activities. Nevertheless, where jurisdictions decide to opt in, it may be argued that the Inclusive Framework is heading one step closer in that direction.

MNEs with worldwide distributors should watch for developments in their sales-based jurisdictions and consider their opt-in/opt-out status to determine their compliance strategy and obligations. This development will be crucial from an Australian perspective, given the considerable number of inbound distributors operating in Australia and the current reliance on the risk assessment framework issued by the Australian Tax Office (ATO) in this regard. MNEs with Australian inbound distributors now eagerly await comments from the ATO.

The detail

The guidance is intended to simplify and streamline the application of the arm’s length principle to baseline marketing and distribution activities, thereby enhancing tax certainty and relieving the compliance burden for taxpayers. The specific focus of this approach is on tax administrations located in low-capacity jurisdictions. It is designed to enable all tax administrations to adopt the guidance to allocate their resources towards riskier and more complex transactions.

The application of the guidance is optional for tax administrations, and where jurisdictions opt-in, the approach will apply for income years commencing on or after 1 January 2025. The outcome determined under this approach is non-binding on the counter-party jurisdiction that chooses to opt out of this approach. However, where a low-capacity jurisdiction applies this approach, the guidance provides a commitment from the Inclusive Framework on Base Erosion and Profit Shifting members to respect the application of Amount B if applied by a low-capacity jurisdiction. The list of low-capacity jurisdictions will be finalised by 31 March 2024.

The Inclusive Framework is also working on an optional list of qualitative factors that opting jurisdictions could apply as an additional step to qualify under the scope of this guidance (also to be completed by 31 March 2024).

About the application of the guidance in the relevant country, tax administrations could use their discretion to either introduce optional safe harbour rules, provide prescriptive guidelines binding on all taxpayers or opt-out altogether.

Qualifying transactions and scoping criteria for eligibility

The guidance applies to the following transactions regardless of the size of the taxpayer:

• Buy-sell transactions where a distributor purchases goods (excluding commodities) from related parties for distribution to unrelated parties and
• Sales agency and commissionaire transactions contributing to related parties’ distribution of goods (excluding commodities) to unrelated parties.

While the consultation process considered the inclusion of digital goods/services, guidance, as drafted, excluded this from the scope.

For a transaction to qualify under the framework, the local sales entity must possess attributes that allow for reliable pricing using a one-sided transfer pricing method, with the distributor, sales agent or commissionaire serving as the least complex party, i.e. tested party.

Lastly, a quantitative filter applies where a tested party must not have operating expenses lower than three per cent or greater than 20-30 per cent of net revenues.

Where the tested party also carries out non-distribution activities, this guidance applies only if the distribution function can be separately evaluated and priced.

Arm’s length return for baseline distribution activities

The guidance utilises a transactional net margin method with Return on Sales (ROS) as the profit level indicator to establish arm’s length outcomes, except where tested parties can prove that a comparable uncontrolled price method using internal comparable is more appropriate.

A global benchmarking analysis determined companies’ arm’s length ROS in baseline marketing and distribution activities. The financial information for the selected comparable companies has formed the basis for a pricing matrix in the guidance. The guidance states that this benchmarking analysis will be reviewed every five years, with annual financial information refreshed.

The pricing matrix is based on three different industry groups and varying factor intensity, resulting in 15 scenarios with the ROS ranging from 1.5% to 5.5% (allowing +/- 0.5% variation).

While calculating the taxable income, the tested party is expected to verify the actual ROS outcome of in-scope transactions against the relevant ROS per the pricing matrix and to make transfer pricing adjustments as necessary.

Lastly, the guidance includes an operating expense cross-check where the tested party should calculate the equivalent return on operating expenses and test this against the acceptable range, i.e. cap and collar rates provided in the guidance.

Where jurisdictions have insufficient data in the global benchmarking set (qualifying jurisdictions), the guidance adjusts the ROS based on a sovereign risk rating for that jurisdiction. The list of qualifying jurisdictions has yet to be published on the OECD website.

The guidance also includes supplementary advice on various other matters, such as transitional issues, documentation required to be maintained by taxpayers and assistance with dispute resolution between jurisdictions.

Key takeaways

• After years of negotiations, the guidance has finally emerged. Yet, the wide adoption allowance among members of the Inclusive Framework reflects the difficulty in agreeing on seemingly straightforward matters.
• The guidance addresses contentious matters from the consultation and promises tax certainty. But with the guidance being non-binding, it risks muddying the waters and adding more complexity, especially if jurisdictions can opt out.
• Multinationals face the challenge of adapting compliance strategies to various adoption rates across jurisdictions. Even so, they will still need to produce and rely on benchmarking analyses in certain jurisdictions.
• Multinational giants juggling global distribution will face additional compliance obligations, needing to assess the guidance relevance in every sales-based jurisdiction. A centralised assessment by headquarter entities will be essential in monitoring and managing which group entities are adopting Amount B. In Australia, the ATO has not yet commented on this guidance. With a number of distributors potentially in the scope of Amount B, anticipation is mounting for the ATO to comment publicly on Australia’s adoption of these guidelines. Australian policymakers will need to take note that the profit benchmarks required for a low-risk rating, as per the ATO’s framework for inbound distributors (PCG 2019/1), are notably higher than those outlined in the Amount B guidance.
• As multinational distributors eagerly await the ATO’s direction, it will be essential to watch for counter-party jurisdictions’ opt-in/opt-out status. It is crucial to evaluate how the guidance will impact their operations in Australia and worldwide.

How can BDO help you?

We encourage you to contact a Transfer Pricing specialist if this guidance impacts you or if you are unsure of qualifying transactions and criteria for eligibility.