TP Secondary Adjustments, UK Consultation (updated article)

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UK Transfer Pricing Consultation – Secondary Adjustments – updated with a summary of the Consultation questions

The UK government is consulting on whether a secondary adjustment rule should be introduced into the UK’s transfer pricing legislation and how that rule would be designed.

The UK’s preference is for a rule which treats the non-arm’s length element of the transfer price as a deemed loan from the UK company to the connected party, with interest imputed at a rate above the market rate, for deterrent effect. The rule would be triggered for primary adjustments above a certain threshold, for example above £1m.

The consultation opened on 26 May 2016 and closes on 18 August 2016 at 11:45pm

UK transfer pricing is designed to correctly apportion the profits arising from transactions between connected persons, normally companies in the same multi-national group, where at least one of them is UK resident and has been disadvantaged by the transactions being incorrectly priced.

UK profits must be calculated for tax purposes as if the transactions had been undertaken between unconnected enterprises acting independently. This is known as the “arm’s length principle” and is an internationally agreed standard for apportioning profits arising on connected-party transactions.

So for tax purposes the actual price is adjusted to what it would have been at arm’s length. This is known as the “primary adjustment”. However, whilst this ensures that the UK resident company pays the correct amount of tax, it may still be disadvantaged because of the arrangement.

Take, for example, a UK resident company that pays £20m to a connected company resident overseas for the provision of goods or services.

If it’s agreed that the arm’s length price is only £15m the UK company’s tax deduction will be decreased from £20m to £15m, in other words its profits increase by £5m. This is the primary adjustment.

But the UK company has still paid out the £20m and the overseas company has retained the full amount, including the £5m excess. So the UK is £5m worse off than it would have been if the transaction had been conducted at arm’s length.

The proposed “secondary adjustment” seeks to address this anomaly by applying a tax charge on the excess £5m.

The UK government’s preference is for a rule which treats this excess as a deemed loan from the UK company, with interest imputed at an above-market rate for deterrent effect.

However, there are other options, for example constructive dividends and equity contribution, but both of these would have inherent limitations from a UK perspective due to principles within the UK’s wider tax legislation.

For more details please refer to the consultation document at

In the meantime, this is a summary of the consultation questions

Question 1
The sections below set out a number of specific questions on the design of a secondary adjustment rule. However, the government would be grateful for any wider comments, beyond responses to these specific questions.

Question 2
What advantages and disadvantages do you see of the constructive loan option rule, when compared to the other options available, taking into account interactions with other parts of the UK’s corporate tax regime?

Question 3
What are your views on the advantages and disadvantages of a either a ‘notice led’ or an ‘automatic’ rule?

Question 4
What problems do you see in applying the rule by reference to a threshold and what alternatives are there?

Question 5
What level would you consider it appropriate to set a threshold at?

Question 6
What views do you have on the options for the accounting periods to which the rule would be applied?

Question 7
What problems do you see with the above proposal and what alternatives are there?

Question 8
What issues, if any do you see arising on the interaction of secondary adjustments and accounting standards?

Question 9
Do you agree with this preferred approach? If not, what alternative approaches would you propose?

Question 10
What are your views on how and at what rate of interest should be set?

Question 11
What are your views on the merits of repatriation being required in the above form and what alternatives are there?

Question 12
What are your views on the wider UK tax implications arising on the repatriation of the amounts representing the deemed loan?

Question 13
Do you see the need for an anti-avoidance rule? If so, what avoidance opportunities do you consider the rule would be open to and how would you suggest an anti- avoidance rule be designed to address these?

Question 14
What legislative interaction issues need to be considered in deeming a loan, or something to be treated in a manner consistent with a loan, and how would the difficulties they create be overcome?

Question 15
What issues arise from the possibility of non-relievable double taxation and how may they be addressed?

Question 16
What issues do you see arising in the application of a secondary adjustment rule within the operation and agreement of APAs and how may these be addressed?



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