Transfer pricing and BOI Tax Holidays: Is It Really an Issue?

The primary role of the Thailand Board of Investment (BOI) is to promote investment in certain industries and business activities in Thailand by offering tax and non-tax incentives.

In many instances one of the main tax incentives offered is a corporate-tax holiday period of up to 8 years on the net profits derived from the promoted business activity.

In contrast, the key role of the Thailand Revenue Department is to maximize the collection of tax revenues for the government. Whilst the Thai Revenue Department may (reluctantly) accept the existence of these tax holidays, based on our experience, it is not unusual for BOI companies to find their compliance with the terms and conditions of the BOI tax incentives scrutinized by the Thailand Revenue Department to ensure that the companies are not taking away too much of a tax benefit.

Many of the companies, which have business activities promoted by the BOI, are Thailand manufacturing bases for multinational companies.

A significant proportion of the revenues and/or expenses of these companies may arise from transactions with related companies. For example, the Thailand manufacturing company may export all of its production to its parent company based in a foreign country.

Normally, the Thailand Revenue Department’s transfer pricing rules would require that the transactions between related parties be determined on the basis of market prices (arms length prices). The objective of these rules is to ensure that Thailand tax base is not eroded through the shifting profits offshore through pricing of transactions with related parties.

If a company receives a corporate tax holiday from the BOI, a common question that arises is, does the company have to worry about the transfer-pricing rules? The quick answer is “yes”. BOI promoted companies that have significant transactions with related parties are still on the Revenue Department’s radar for transfer pricing. Below we present two scenarios, which are likely to attract the Revenue Department’s attention.

In the first scenario, the Thai subsidiary of a multinational group with significant related-party transactions has high profits during the tax holiday, which drop at the time the BOI tax holiday ends.

This will clearly trigger the Revenue Department’s suspicion regarding the new profit levels and they may be very reluctant to accept the reduction of profit. In addition, if the Thai company has very high levels of profitability during the tax holiday to take advantage of the tax exemption, this may raise questions from the tax authorities in the parent company’s country as to why the profits in their country are quite low, but high in Thailand.

The second scenario involves a Thai subsidiary of a multinational group, which incurs losses from a BOI-promoted business during the tax holiday period. Such losses incurred during the tax holiday period can be carried-forward after the tax holiday for 5 years to use against taxable profits.

Clearly, from the multinational’s transfer-pricing planning viewpoint, the objective should be to maximize the use of the tax holiday and ensure that the Thailand subsidiary has profits. There is certainly no tax-planning principle, which would require that losses be created in the Thai subsidiary.

However, we have seen the Thailand Revenue Department attempt to argue that losses incurred during the tax holiday arose from transfer pricing and the losses could not be carried forward after the end of the tax holiday to offset against taxable profits.

How does the Thailand subsidiary effectively deal with the transfer-pricing risk in the above scenarios? BOI-promoted companies must ensure that their related-party transactions are priced at market prices following the transfer-pricing guidelines of the Thailand Revenue Department from the start of its operations.

This involves selecting the most appropriate transfer-pricing method provided under the guidelines for the company’s related-party transactions. It would then be necessary to benchmark the pricing/profitability on the related-party transactions with comparable transactions between unrelated companies to ensure that the pricing is at market rates.

An essential part of the transfer-pricing process is to prepare documentation, which supports that the company has complied with the transfer-pricing rules. The transfer-pricing rules include a list of the types of documentation, which the company should maintain.

By engaging in transfer-pricing planning on day one as opposed to waiting until the tax holiday ends, the Thai company and its multinational group may be able to take advantage of the tax holiday to shift a supportable level of profit to the Thailand company to reduce the multinational group’s worldwide tax cost, whilst also planning ahead for the day when the tax holiday ends.

If losses are incurred during the tax holiday period and are unavoidable, then documenting the commercial reasons for the losses (e.g. heavy start-up costs, unfavorable economic conditions, inefficiencies, or other legitimate business reasons) will be essential if the company is to convince the Thailand Revenue Department that these losses should be carried forward.

Do not neglect transfer-pricing planning and analysis simply because you have a BOI corporate-tax holiday. Soundly planned transfer pricing could help prevent your BOI-promoted company from unnecessary costs of doing business in Thailand caused by tax disputes.

As a final point, transfer pricing is not the only area, which may give rise to tax issues for BOI companies. Effective tax planning needs to be performed in a number of other areas, including:

• Timing of the start of the tax-holiday period
• Allocation of revenues and expenses between BOI and non-BOI business
• Ensuring other BOI tax concessions (e.g. double deductions for infrastructure cost) are maximized
• Ensuring that dividends paid from tax holiday profits obtain exemption from withholding tax
• Stuart Simons is a tax partner at Deloitte Touche Tohmatsu Jaiyos and can be reached at ssimons@deloitte.com. Sangravee Thaidamri is a tax manager at Deloitte Touche Tohmatsu Jaiyos and can be reached at sthaidamri@deloitte.com.
• Originally published in Bangkok Post, “By Invitation”, Page B10, May 23, 2007.