Recent developments in Canadian transfer pricing

Tax Executive, The, May-June, 2003 by Nathan Boidman

The statute does not provide any guidance respecting the manner in which the Minister is to exercise its discretion under section 247(10), that is, whether the circumstances "are such" that it would be appropriate to allow for the reduction in Canadian income.

There have been prior instances in the Act of the rules granting the Minister discretion in determining tax results for a taxpayer. Disputes over the manner in which such discretion is exercised is bound up in or governed by two separate elements. First, each rule is distinguished from the other by its own particular factors. Second, all such rules are united by the requirement, established more than half a century ago in Wright's Canadian Ropes, (22) that, in exercising his discretionary power, the Minister must act reasonably and in a non-arbitrary fashion. (23) In light of this requirement and the essential nature of why there would be a downward adjustment to be made under subsection 247(2)--namely, an overstatement of income by reference to the arm's-length principle, arising either from an erroneous initial determination by the taxpayer or as a deliberate matter of offsetting another transaction which the parties understated Canadian income--what are the circumstances in which it would be appropriate that an adjustment not be made? It is difficult to fathom such circumstances.

In this respect, before the March 18, 2003, CCRA communique, the only views expressed by the CCRA on the matter were, as follows, in IC-87-2R:

25. Subsection 247(10) provides the Minister with the authority to make downward adjustments. Downward adjustments are made only if, in the opinion of the Minister, the circumstances indicate the adjustments are appropriate.

26. However, the Minister may decide not to exercise his discretion under 247(10) where:

* the taxpayer's request has been prompted by the actions of a foreign tax authority and the taxpayer has the right to request relief under the Mutual Agreement Procedure article of the applicable treaty; or

* the taxpayer's request can be considered abusive.

In elaboration on paragraph 25, the Circular states at paragraph 217:

   The Minister may not find it appropriate to exercise
   his discretion, under subsection 247(10) of
   the Act, to make an adjustment
   under subsection 247(2) of the Act,
   when a foreign revenue authority
   has initiated or proposes a transfer
   pricing adjustment. In such
   cases, the Minister expects the taxpayer,
   under review by the foreign
   tax authority, to seek assistance
   from the Canadian Competent Authority
   to claim corresponding adjustments
   or deductions.

It may be noted that where prices have, inadvertently or otherwise, resulted in understated Canadian taxable income, Revenue Canada expects taxpayers to voluntarily adjust accounts or even past returns to report increased income. (24)

Another question relates to the manner in which set-offs are dealt with in an international context and, in particular, whether the domestic rules of Canada somehow conflict with the requirements under treaties. As well, there is a question about the role withholding taxes might have with respect to an element of transactions involved in a set-off situation.