September 30, 2019
Australian Taxation Office issues guidance on compliance approach to transfer pricing issues for nonresident owned mobile offshore drilling units
On 26 September 2019, the Australian Taxation Office (ATO) released draft PCG 2019/D5 (the draft PCG), which outlines their compliance approach in relation to transfer pricing issues for projects involving the use in Australian waters of nonresident owned mobile offshore drilling units such as drill-ships, drilling rigs, pipe-laying vessels and heavy-lift vessels.
The draft PCG is intended to apply to both assets that are leased into Australia and assets that are operated in Australia by a nonresident owner. Its application is limited to assets classified as ”mobile offshore drilling units” (MODU) and specifically excludes oil and gas production platforms, cable laying vessels and port works, such as dredging and rock dumping. It also does not apply to broader marine services operations, such as platform supply vessels, seismic survey vessels or bulk carriers. However, based on experience and informal discussions with the ATO, it is expected that the approach used in the draft PCG will be broadly replicated when considering the application of Australian tax law to such assets.
Consistent with other previously released PCGs, the draft PCG outlines a risk framework made up of four risk zones, consisting of:
Arrangements will be classified within the white zone where an advance pricing agreement (APA) applies to the relevant income year, there is a formal settlement agreement with the ATO applicable to the year, or the ATO has conducted a review of the activities (within the last two years) and provided a ”low risk” rating.
Classification within the green to red zones is dependent upon the level of operating profits realized in Australia and the materiality of the contract/project revenues:
Where operations in Australia are conducted through more than one entity, the risk framework in the PCG is intended to apply to the entirety of activities performed in Australia and it may be necessarily to aggregate the financial outcomes of such entities in order to apply the framework.
Consequently, the margins earned by any separate Australian operations which undertake procurement, engineering, project management, crewing or other activities in support of the main operating entity in Australia will need to be incorporated in assessing risk outcomes (as well as revenues, if a separate payment is made by the third-party customer to those entities).
The ATO will treat arrangements within the green zone as being at a lower risk of not complying with the Australian transfer pricing rules and the ATO will not generally seek to conduct compliance reviews of these arrangements (other than to confirm certain facts and verify that arrangements fall within the green zone).
Taxpayers with arrangements falling within the green zone will also be eligible to adopt a “simplified transfer pricing record keeping option,” to minimize transfer pricing record keeping and compliance costs. However, the draft PCG cautions that the low risk zone is not a safe harbor and as such, taxpayers are still required to self-assess the arm’s-length conditions associated with the arrangements. Falling within the low risk zone does not automatically mean that transfer pricing outcomes are correct and conversely falling outside of the low risk zone does not imply that the transfer pricing arrangements are incorrect.
While the draft PCG does not provide any technical guidance on the ATO’s approach to transfer pricing arrangements, it does outline the depth of documentary evidence which will be requested by the ATO in the event of a review, which may include:
Taxpayers should be mindful of the documentation expected to be provided in the event of a review and when outside of the low risk zone, consider whether transfer pricing compliance documentation should incorporate or cross reference the items listed above.
Notwithstanding the criteria for the risk zones outlined in the draft PCG, in the event of a review, the ATO will seek to review not only the net profits of the Australian operations, but also the appropriateness of any returns earned by offshore related parties involved in the projects. This “top down” approach is consistent with the ATO’s current approach to transfer pricing in audits and reviews of taxpayers in the oil and gas services sector.
Taxpayers should therefore ensure that their transfer pricing documentation analyzes the returns of any offshore related parties involved in either the provision of the mobile assets, or other activities associated with the projects.
EY is continuing to consult with the ATO in relation to the transfer pricing issues relevant to all nonresident owned assets utilized in Australia. Comments on the draft PCG can be submitted until 25 October 2019. We welcome input from taxpayers for inclusion in our submission.
For additional information with respect to this Alert, please contact the following:
Ernst & Young LLP (Australia), Perth
Ernst & Young LLP (United States), Australian Tax Desk, New York
Ernst & Young LLP (United Kingdom), Australian Tax Desk, London