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Government quells anxiety over transfer tax

Traffic passes the headquarters of the General Department of Taxation in Phnom Penh.
Traffic passes the headquarters of the General Department of Taxation in Phnom Penh. Pha Lina

Government quells anxiety over transfer tax

At a conference held yesterday to address concerns over Cambodia’s evolving tax regime, representatives of the private sector sought clarification from government officials on a contentious new decree that introduces transfer pricing rules that require multinationals to record and report all transactions between two companies within the same corporate group.

The prakas, released late on Wednesday night, sets out new requirements for multinational companies and how they declare profits, costs and transactions involving overseas parent companies and their wholly owned subsidiaries. The regulation is aimed at preventing transfer mispricing that can manipulate market prices and rob the state coffers of due tax revenue.

Speaking at a tax forum hosted by the European Chamber of Commerce, Vann Puthipol, deputy director of the General Department of Taxation (GDT), described the prakas as an important step forward in corporate compliance that was modelled on similar regulation in neighbouring countries.

“We tried to study [the experiences of] countries like Vietnam, Thailand and Malaysia about how to implement these guidelines,” he said. “We need this as a first step. Nobody can run at full speed to their destination, but we need to try.”

Tax experts speaking at the forum said that in order to comply with the regulations of the new prakas, multinationals would need to divide the revenue and expenditure of their Cambodian operations using the “Arm’s Length Principle”.

The Arm’s Length Principle, a procedure that has been adopted by the Organisation for Economic Cooperation and Development (OECD), requires multinationals to conduct transactions between related companies as if they were dealing with an independent third-party.

The new prakas states that multinationals can choose from five OECD-recognised methodologies: Comparable Uncontrolled Price, Resale Price Minus, Cost Plus Methods, Profit Split Method or Transactional Net Margin Method.

“Taxpayers are required to prepare and provide supporting documents to choose one of these methods, while in the necessary cases, the tax authority has the right to introduce and require taxpayers to use any method that is suitable for the real situation of the taxpayer,” the decree added.

Clint O’Connell, head of tax practice for DFDL Cambodia, explained that these rules are aimed to stop firms from artificially manipulating profits by setting prices for the transfer of goods and services between related parties.

“If these transactions are manipulated profits they may be artificially shifted out of one jurisdiction – typically with a high corporate tax rate – to another jurisdiction typically with a low corporate tax rate,” he said in an email.

He added that these rules are generally applied to cross-border transactions.

Brendan Lalor, director of tax and advisory services at Ernst & Young, who gave a presentation on transfer pricing legislation, said that OECD guidelines were the most widely adopted and recognised principles.

“The importance of this legislation is to make sure that transfer pricing adjustments can be used by the regulator authority to use the Arm’s Length Principle to do a risk analysis to see which taxpayers it feels are not earning the profit margins they should be,” he explained. “If they decide that a company is not using that principle they can use that evidence to initiate audits.”

Lalor said the biggest challenges that companies could face with transfer pricing regulations would be to benchmark their operations against those in similar industries, something he admitted would be difficult in the Kingdom’s non-transparent market.

“The way to benchmark is to find independent companies in Cambodia and get a hold of their financial statements to test the margins they earn against your own,” he said. “If this is not possible, look at other companies in the region, but do not compare to companies operating in developed markets because they would likely show a lower level of growth.”

He added that while the GDT was unlikely to enforce the regulations on individual transactions, it will make companies file an annual transfer price disclosure form – an admittedly tedious and costly accounting practice.

O’Connell said that despite the costly implementation, the objective of the GDT was clear in protecting its tax base without deterring foreign investment and cross-border trade. He added that many countries in the region had already adopted variations of these rules.

“The juggling act is how Cambodia implements the Arm’s Length Principle without subjecting taxpayers to overly onerous compliance obligations,” he said. “As they say, Rome wasn’t built in a day, and most countries started modestly and built their transfer pricing legislation and practices gradually over several years.”

Private sector attendees at yesterday’s conference appeared visibly anxious for government clarification on the prakas, citing concerns about whether the Tax Department would potentially audit just local operations or would try to extend its scrutiny to the parent company. They also claimed that transfer pricing rules were being adopted too soon for the Cambodian market, were globally problematic, and would dampen profits with their high compliance costs.

Puthipol sought to waylay fears about a swift implementation of the prakas, claiming that while on paper the decree threw the full weight of the Tax Department behind it, in practice the government would take a step-by-step approach to give companies time to conduct proper accounting.

“Even though the transfer pricing decree may not make current taxpayers happy, it is a tool we need to apply to taxpayers to ensure they are compliant,” he said. “We need to be able to benchmark companies, and while we do not require companies to submit transfer pricing documents immediately, they need to be prepared and available when we request them.”

He added that the government would hold workshops over the coming months to educate stakeholders about how the regulations are applied to encourage compliance.

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