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Transfer pricing disputes and implications for centralised commodity trading hubs

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Transfer pricing (TP) litigation surrounding the energy and resources (E&R) sector has increased drastically over the past two years. While determining the owner of the commodity price risk has drawn increased attention, Deloitte’s Mark Barker and Aengus Barry discuss how tax authorities predominantly employ the comparable uncontrolled price (CUP) method in any TP dispute.

The past two years have seen an increase in transfer pricing (TP) litigation cases and disputes related to commodity transactions in the energy and resources (E&R) sector. This is of note as TP litigation may have precedential value domestically (and sometimes have international relevance) for both businesses and tax authorities. This is particularly the case when court decisions comment on the application of the OECD's TP Guidelines for Multinational Enterprises and Tax Administrations. As tax authority disputes in this area look likely to continue, it will be interesting to see how courts interpret certain revisions to the TP guidelines following the OECD's BEPS project.

TP litigation and dispute trends

A number of significant commodity-related TP cases have gone through courts in several countries in recent years, and this is expected to continue in the future. Many of these cases are related to just a few jurisdictions (often those where the sector contributes a significant proportion of export revenue). For example, while E&R commodities account for 22% of global exports, this figure is much higher in many key export countries: 67% in Australia, 34% in Canada, and 74% in Russia, where recent commodity-focused TP litigation has been more common, according to 2017 figures by the International Trade Centre.

Several themes may be drawn from the TP litigation and disputes in the E&R sector over the past two years:

1) In a post-BEPS environment, where there is an increased focus on delineating transactions with specificity, understanding who the 'owner' and controller of commodity price risk is important; and

2) In a litigation context, the comparable uncontrolled price (CUP) TP method is still commonly applied.

Commodity price risk delineation

Delineating with specificity where commodity price risks sit in the value-chain of an E&R company is of increased importance under the revised TP guidelines. Depending on the business model employed, price risk may contractually reside in a number of entities in a multinational enterprise (MNE), but in E&R, it is most often found in either a production company or a marketing company. An accurate delineation of the legal transaction under the OECD's recent framework will usually form the starting point to determine how price risk is contractually allocated between an MNE's production and marketing entities.

However, in the post-BEPS environment, there are two key additional elements that some recent court cases have suggested might also need to be considered when assessing where commodity price risk should lie in an appropriately delineated transaction. These are:

1) Which entity owns/controls the price risk and which is the manager of the price risk; and

2) When assessing whether a transaction is accurately delineated, an analysis of the 'options realistically available' to an entity seeking to protect itself from price risk might be informative.

With respect to the first point, understanding the functionality around control and management of risk is important because the guidance in this area has been substantially refined following the introduction of the six-step risk delineation framework in the OECD's 2017 TP guidelines. This revised guidance increased extensively the commentary on risk allocation, including on the importance of the party (that has the ability to control risks) as well as the financial capacity to assume risks (paragraphs 1.64 and 1.65).

The second related point is the concept of the options realistically available to mitigate against commodity price risk, which is often a question of commerciality. This has also been expanded significantly in the 2017 TP guidelines.

Some factors the courts suggested might be considered in coming to a conclusion on the options realistically available to the owner of commodity price risk include:

1) The extent to which marketing agreements are something that independent parties would agree to in that particular market. For certain commodities, such agreements between independent third parties do exist and can be identified. The fact that such a transaction exists in the market is useful. However, it is not an essential determinative factor, given that the TP guidelines state that the mere fact that a transaction may not be seen between independent parties, does not mean that it does not have characteristics of an arm's-length arrangement (paragraph 1.123); and

2) The extent to which other courses of action are open to either party to protect against price risk. For many commodities, there are no obvious alternatives for hedging or protecting against price risk. For example, for certain grades of met coal, there are no derivative-type instruments that an entity could enter into as an alternative to a marketing agreement (if it wanted to eliminate some or all of its commodity price risk).

These points have one thing in common: the nature of the underlying commodity appears to be a significant driving force in determining whether transactions between asset producers and marketing companies are at arm's length.

Commonality of the CUP method in litigation and disputes

The second major point to come out of recent commodity TP cases is that the CUP method is still commonly applied, more frequently than alternative TP methods. Indeed, in every major commodity TP decision over the past two years that considered pricing, the courts arrived at a CUP as the most appropriate TP method (although some courts did look to alternative methods as a corroborative check). This trend is not exclusive to commodity-based transactions. However, for commodity transactions, the courts' preference for CUPs over other methods is likely to continue in the near future for several reasons:

1) The current prevalence of joint venture arrangements as one of the preferred vehicles for structuring E&R assets. These joint ventures often create potential internal CUPs;

2) The increasing availability and liquidity of commodity exchanges/databases (that form the basis for potential external CUPs); and

3) The trend of encouraging market indices as CUPs for pricing commodity transactions. This concept is in the OECD guidance, including its guidance in the BEPS Action 8-10 final report, entitled 'Aligning Transfer Pricing Outcomes with Value Creation'.

An interesting aspect of the preference for the CUP method to support E&R commodity transactions is that it presents an increased role for using quantitative econometric techniques to support TP positions.

As commodity data becomes increasingly available, and as related data (including financial derivatives, freight and storage market data) become more accessible, it is likely that statistical approaches combining commodity data with other financial data to form adjusted CUP TP positions will become increasingly more reliable.

For commodity transactions, such adjustments will likely include adjustments for product quality, liquidity, freight/transport charges, storage costs, insurance, volume differences, working capital differences, marketing activities, and credit risk differentials off an initial index-based market price for the commodity in question.

TP litigation outlook for commodities

There has been a substantial increase in TP litigation and dispute cases over the past few years for commodity-type transactions. Many lessons can be learned from analysing these cases to get an idea of how a court will process certain TP issues in the future, while many of these cases may have precedential value or put forward concepts that at some point may find their way into future policy development.

© 2019. For information, contact Deloitte Touche Tohmatsu Limited.This communication contains general information only, and none of Deloitte Touche Tohmatsu Limited, its member firms or their related entities (collectively, the "Deloitte network") is, by means of this communication, rendering professional advice or services. Before making any decision or taking any action that may affect your finances or your business, you should consult a qualified professional adviser. No entity in the Deloitte network shall be responsible for any loss whatsoever sustained by any person who relies on this communication.

Mark Barker


Associate director

Deloitte UK

Tel: +44 20 7007 0114

Mark Barker is an associate director in Deloitte UK's London office. He has eight years of experience in transfer pricing controversy, advance pricing agreements and risk identification, having previously worked in the Australian Taxation Office's economist practice before joining Deloitte's London TP team a year ago.

Mark has specialist skills in the energy and resources sector, including experience in iron ore, coal, LNG, petroleum and LME-based metals. In addition, Mark has experience pricing financing arrangements for upstream E&R production assets, and specialises in royalty pricing and intangible asset valuation projects outside the E&R sector.

Mark has a Bachelor of Commerce with majors in economics and finance.

Aengus Barry



Deloitte UK

Tel: +44 20 7007 4331

Aengus joined Deloitte UK's transfer pricing team 16 years ago and since that time has spent a significant portion of his career assisting clients in the energy and resources industry. He has particular experience in complex energy and resources pricing projects, from using risk pricing statistical techniques to support the marketing margins retained by mining groups to one of our most difficult diversionary LNG cargo pricing assignments. Aengus has experience delivering a broad range of TP services, from documentation and compliance reports to IP planning exercises and debt pricing projects. He has worked on a number of APAs and also has experience of wider international tax issues through participation in several tax structuring projects. Aengus holds both bachelors and masters degrees in economics. He is a CFA charter holder and was awarded the ATT qualification.

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