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Greece: Eurozone crisis and transfer pricing

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Aggelos Benos

The Eurozone is going through a turbulent period and despite certain attempts to avoid a financial meltdown, the European leaders have not yet come up with a structured plan which will safeguard stability. As a result of this long lasting uncertainty, fears over a potential exit of a member country have surfaced. Multinational enterprises doing business in a country that could potentially exit the euro will need to significantly alter their transfer pricing model and generally the way they trade with their local subsidiaries to ensure that their business remains viable. But, what would an exit of a member state from the euro mean for intra-group transactions? Who would bear the costs triggered by a devalued currency?

It would not be business as usual. For example, a distributor in Country A who is expected to bear any FX risk, is buying products in euros from a related party manufacturer (Country B). Now, if Country A replaces euros with a much weaker local currency, then the intercompany product price will increase substantially with a consequently large impact on margins. This would translate in either severe losses for the distributor in Country A, or significant bad debt losses for the manufacturer in Country B, or even both.

Under the more centralised models, which have become very popular during the "boom period", FX risk typically stays with the principal entity established in one of the central European countries (Germany, the Netherlands, Switzerland, Luxemburg, France). In this respect, a potential exit of Country A from the eurozone could mean that the principal would be expected to indemnify the affiliate limited risk distributor (LRD) operating in Country A for FX risk indefinitely. So, the question that arises is whether LRD-type models can persist if these poor economic conditions persist?

MNEs with presence in Southern Europe have already in place contingency plans and business restructurings with an aim to "shield" the principal entity from such risks by limiting the effect of a euro-exit to the local subsidiary are at the top of their CEOs' and chief operational officers' agendas.

On the other hand, tax authorities' increasing scrutiny of business restructurings and related party transactions poses a significant threat to the C suites plans. The trend is driven by the increasing need for cash, as most governments' treasuries are facing major difficulties. Those states that saw profits migrating to low tax jurisdictions during the good years, on the basis of the LRD concept and business centralisation, now expect to tax a fair amount of profits in their respective jurisdictions while the losses will be absorbed by the risk bearing entities that for years stripped the profits out of the local subsidiaries.

Yet again, transfer pricing will once more come under the spotlight as it remains the only vigorous tool that taxpayers have against the cravings of aggressive tax authorities to mitigate the risk of double taxation.

Aggelos Benos (aggelos.benos@gr.ey.com)
Ernst & Young

Tel: +30 210 2886 024

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