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China provides clarity with new TP guidance for COVID-19 issues

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China's State Tax Administration issued COVID-19 guidance in September 2021

Lewis Lu of KPMG discusses the new State Tax Administration transfer pricing guidance for COVID-19 issues and explains why taxpayers should consider enhancing their transfer pricing management systems.

Following on from the OECD’s 2020 release of guidance on transfer pricing (TP) issues arising from COVID-19, the Chinese State Tax Administration (STA) issued its own guidance in September 2021.  

TP investigations and treatment of losses

The guidance notes that different industries have been impacted by the pandemic in different ways. Some were severely impacted while some gained business opportunities from the pandemic. 

The guidance emphasises that the tax authorities need to have regard to this in applying the arm’s-length principle, such as by assessing specific industry factors and the performance of comparable companies. 

When considering losses and additional expenditures incurred by enterprises, arising from measures taken to ensure COVID-19 prevention and control or increased operating expenses, the comparative position of independent third parties needs to be evaluated. 

Businesses are advised to conduct quantitative analysis of such losses and retain evidence to deal with potential tax audit requirements 

COVID-19 related profit fluctuations in local file

As some businesses may have seen major fluctuations in their profit levels in 2020, the guidance sets out key points to note when preparing the local file for contemporaneous documentation. It requires them to elaborate on the impact of the pandemic on their related party transactions and value chain. 

Further, it calls for the use of comparables for the same year, location and industry, as well as for the same product and functional risk, when performing comparative analysis. This aims to ensure that the TP analysis properly reflects the impact of the pandemic on the profitability of the industry. These considerations are consistent with the 2016-issued STA Announcement 42 on contemporaneous documentation.

Most businesses will have already completed their local file preparation for 2020, and some of them have submitted these files to the tax authorities. Businesses may consequently choose to add to their already prepared local files as needed, such as supplementing it with the latest comparable data, etc.

Government aid considerations

During the course of the pandemic, the Chinese government introduced various financial and tax relief measures to aid businesses. The guidance clarifies that for the purposes of China TP analysis, government aid may be regarded as a ‘location specific factor’ and therefore should be taken on board in the conducting the comparative analysis. This would ensure fairness and consistency of the results of the comparability analysis.  

Application of existing advance pricing agreements

As the operations of some businesses may have been significantly affected or altered in the face of the pandemic, there may be an impact on the application of previously signed advance pricing agreements (APAs). 

APAs typically state that their terms may be invalidated if business operations or the business environment changes significantly from that referenced in the analysis which formed the basis for the APA in the first instance. 

The new guidance allows businesses to explain the pandemic impacts on their businesses and negotiate necessary APA adjustments. This includes adjustment of bilateral APAs through communication between the STA and foreign competent authorities. This demonstrates the willingness of the Chinese tax authorities to help mitigate the adverse impacts of the pandemic on taxpayers. 

While the guidance provides greater tax certainty to both tax authorities and taxpayers in connection with COVID-19 TP issues, the authorities are also demanding increasingly thorough analysis that links business developments to enterprise TP policies. As such, taxpayers should consider enhancing their TP management systems to meet these demands.



Lewis Lu

Partner, KPMG China



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