How your business’s transfer pricing set-up can trigger CRA audits

Smaller and mid-sized Canadian businesses may think transfer pricing is not a concern for them. ‘This is the furthest from the truth’

Larry MacDonald, Financial Post  •  Financial Post
Published Aug 09, 2022  •  3 minute read
Sign at a stop junction in Ireland saying "Hard Border Ahead." Transfer-pricing situations can arise for cross-border transactions involving tangible goods, services, intangible property such as trademarks, or financial transactions between a business’s related entities in different countries.
Transfer-pricing situations can arise for cross-border transactions involving tangible goods, services, intangible property such as trademarks, or financial transactions between a business’s related entities in different countries. GETTY IMAGES

Canadian business families, high-net-worth individuals and family offices need to be careful how they arrange commercial transactions with related parties in other countries. Done improperly, such transactions could run afoul of tax laws.

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Most large multinational corporations are aware of the pitfalls. They know that cross-border transactions between the subsidiaries of a multinational company need to be carried out at an “arm’s length price,” as if the related parties were independent of one another – or else Canada Revenue Agency (CRA) may launch an audit of the “transfer pricing” and impose penalties.

Transfer-pricing situations can arise for cross-border transactions involving tangible goods, services, and intangible property such as trademarks. They can also arise for interest charges on loans and for loan guarantees arranged between related parties in different countries.

Small and medium-sized businesses can’t afford to ignore the issue

Smaller entities than multinational companies often think transfer pricing is not a concern for them. “This is the furthest from the truth,” warns Jamal Hejazi, chief economist and director at the Ottawa branch of tax and accounting advisory BDO Canada.

“When it comes to transfer-pricing enforcement, we have witnessed smaller companies being targeted by the CRA – requesting proof in the form of documentation that their transfer pricing meets the arm’s length standard,” adds Hejazi, who has over two decades of experience handling transfer-pricing planning and disputes (including a stint in the transfer-pricing division of CRA early in his career).

“Some of the more challenging transfer-pricing matters that BDO Canada has had to deal with for international family offices revolve around financial transactions,” Hejazi reports. “We have dealt with a variety of issues related to intercompany debt between a parent and its subsidiaries operating in Canada and around the world.”

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In addition to ensuring compliance with tax laws, transfer-pricing planning can make sure taxes are minimized. That is, transfer pricing can lead to unnecessarily paying too much tax if proper analysis is not done. “Through effective tax planning, opportunities to put profits in lower tax jurisdictions can arise and material tax savings can be achieved,” confirms Angeline Chandra, a BDO Canada partner and director who leads the company’s transfer-pricing program from the Vancouver office.

Transfer pricing of intangibles can also trigger Revenue Canada’s interest

For example, intellectual property is an area where transfer-pricing planning can be applied for international family offices. “Consider a Canadian parent company that has developed an incredible new software solution that will be sold by subsidiaries in other countries,” Chandra adds. “The key decision to make is whether the software solution will be sold via licenses to third-party customers in those countries or sold as subscriptions on a Software-as-a-Service basis.”

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“The choice should be determined in a manner that is considered arm’s length under existing transfer-pricing rules while also being tax effective from the perspective of maximizing the profits available to the brothers. If this is not carefully analyzed and documented, it may leave too much cash profits in foreign jurisdictions, leading to a less than tax-effective result.”

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Transfer pricing can be a complex and tricky matter. Care needs to be exercised to do it right otherwise Canadian businesses could find themselves inadvertently non-compliant with tax laws – or paying more tax than required.

Larry MacDonald also writes at Investing Journey

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