Guarantee Fees:

The recent Canadian litigation of GE Capital and the controversial 2010 Taxation Ruling in Australia, TR 2010/7 brought global attention in respect of the treatment of related party cross-border guarantee fees. Unfortunately, the litigation and tax ruling did not significantly reduce this uncertainty in the treatment of cross-border guarantee fees. This edition of EMG Transfer Pricing Monitor touches on two events in 2012 that has served to provide guidance and reduce uncertainty for related party guarantee transactions a little bit more.

September 13, 2012 – American Bar Association (“ABA”) released a white paper entitled “Comments and Recommendations for Guidance Pertaining to the Transfer Pricing of Related Party Guarantees”

The ABA paper raised a number of conceptual issues which aim to diminish the existing level of uncertainty in the transfer pricing of related party guarantees. Key issues addressed were as follows:

• The price of the fee using the yield approach varies from how arm’s length parties would price loan guarantee fees;
• Aside from loan guarantees and performance guarantees, numerous other financial, commercial and credit enhancing guarantees exist in various forms, making compliance to the Arm’s Length Principle onerous, particularly when guarantees appear in many common commercial documents often in circumstances where there is “no or little” measurable benefit;
• Safe harbours are needed to reduce disputes for situations where benefits conferred by the guarantee are nebulous or slight; and
• A need for a broad framework to cover all financial and commercial credit enhancing guarantees.

The paper is a detailed overview that should serve well to benefit the U.S. Internal Revenue Service specifically; but hopefully other tax authorities as well; in drafting of the guidance for the treatment of related party guarantees.

Click here for the full text of the ABA paper.

December 21, 2012 – Proposed Amendments to Canada’s Income Tax Act Increases Certainty on Transfer Pricing Treatment for Guarantee Fees

The Canadian Department of Finance released proposed amendments to Section 247 of the Income Tax Act (“ITA”) for public comment on December 21, 2012. Click here for the full text of all of the proposed amendments including subsection 247(7.1), the new transfer pricing subsection.

The proposed amendment would result in an exception for cross-border guarantee fees paid to a Canadian parent company by a foreign related party. That is, those fees would not fall under the purview of section 247. The proposed amendment would provide for parallel treatment for loan guarantees to what presently exists for interest paid on loans. More specifically, after the proposed amendment, transfer pricing rules would not apply to both loan interest and loan guarantee fees provided by a Canadian parent company to non-resident subsidiary, under specified conditions. However transfer pricing rules, as previously, apply to loan interest and loan guarantee fees charged to Canadian corporations.