How to apply the simplified approach when setting prices for intra-group services with low added value

The simplified approach to setting prices of intra-group transactions is therefore a solution that makes it possible to optimise costs and at the same time ensure compliance with the requirements of transfer pricing.

Although Slovak legislation does not explicitly regulate the possibility or the conditions for applying the simplified approach when setting prices of intra-group services with low added value, it does allow proceeding in accordance with the methodology of the Organisation for Economic Co-operation and Development (OECD).  The OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations also separately address services with low added value. These Guidelines are considered a generally recognised interpretative instrument, thanks to which the acceptance of the application of the simplified approach is ensured.

Which services does the simplified approach apply to?

The possibility of applying the simplified approach applies to intra-group services provided by one or more members of a group of related parties for one or more members of such a group. What is important in this case, however, is the character of the services provided, which cannot correspond to the character of the main activity of the group of related parties. The simplified approach thus applies to services of a supporting character, which do not require the use of unique tangible assets or the assumption of significant risk, and do not create such assets or risk either.

The OECD Guidelines give examples of services that, upon meeting the above-mentioned conditions, may be considered services with low added value. These services include, among others, accounting, audit, receivables management services, human resources services or administrative services.

Allocation of costs and application of the profit mark-up for services with low added value

The advantage of the simplified approach is precisely the approach to the allocation of costs and the determination of the profit mark-up, which reduces the difficulty of complying with the regulations and provides greater certainty of the acceptance of prices by the tax administrator.

When applying the simplified approach, in the first step it is necessary to quantify the value of the annual costs associated with the provision of services with low added value, taking into account the direct and indirect costs incurred by all members of the group. At the same time it is necessary to exclude costs that bring benefit exclusively to the company carrying out this activity. Subsequently, the costs are allocated among the individual members of the group using a suitable allocation key that reflects the benefit of the individual companies in the group from the services provided. A certain consistency is assumed in the use of the allocation key for the same category of services.

Given the character of the services and the possibility of applying a set profit mark-up, the cost-plus method is considered the most suitable transfer pricing method. The simplified approach to setting the price consists in applying a profit mark-up in the amount of 5 % on the quantified costs. This mark-up may be higher or lower if the circumstances of the transaction require it, however in such a case it is necessary to have suitable argumentation to justify it.

This approach ensures that the set price corresponds to the arm's length principle without the need for its further demonstration by means of a comparability analysis (so-called benchmark analysis).

Documentation and reporting obligations arising from the simplified approach

Companies that decide to apply the simplified approach, however, will not avoid the documentation obligation. The documentation concerning services with low added value consists primarily of a description of the individual categories of services with low added value, the identification of the recipients of the services and a justification of the classification of these services as services with low added value. It is also necessary to demonstrate the need for providing the individual categories of services within the group, the benefits arising from their provision, the method of calculating the associated costs, including their precise identification and the allocation key applied. The set allocation key, as well as the obligation to follow the agreed allocation rules, should be based on concluded written contracts or agreements on the provision of services within the group.

The simplified approach to setting prices of intra-group services with low added value represents an effective solution for meeting the requirements of transfer pricing for multinational groups. The advantage is not only the lower administrative burden arising from the fact that an extensive comparability analysis is not needed to demonstrate the price, but also the lower riskiness in demonstrating the set profit mark-up in the case of examination by the tax administrator.

In case you are interested in more detailed information, or a consultation in the area of transfer pricing, do not hesitate to turn to the team of experienced professionals in the area of tax consulting from the company CLA Slovakia s. r. o.

As a member of the international consulting network CLA Global, we will be happy to provide you with the necessary support in the area of transfer pricing. We will help you find your way around the tangle of obligations that need to be complied with, whether from the point of view of local regulations or from a global point of view.