The Challenge of BEPS Documentation

The reality of preparing global documentation may be expanding from
a process of producing one or a small number of clearly defined
reports to one of collecting and managing potentially significant
amounts of data. This article considers how processes and
technology habits may need to change to react effectively to the
documentation challenges sparked by the Organisation for Economic
Co-operation and Development’s (“OECD’s”) base erosion and profit
shifting (“BEPS”) project.

The OECD’s new guidance on transfer pricing documentation recommends
that countries adopt this guidance starting in 2016 with the first reports
provided to tax authorities in 2017. The recommended documentation
comes in three parts:

• A country-by-country (“CbC”) report that covers selected financial data
for all countries, which is to be shared with all tax authorities

• A “master file” that describes a multinational enterprise’s global supply
chain, which also is to be shared with all tax authorities

• A “local file” that provides more detailed guidance, which is to be
shared with local tax authorities.

The CbC report is entirely new, and while the master file and local file
sound similar to what companies are already preparing, they ask for a
substantial amount of additional information. (The detailed master file and
local file requirements can be found here.)

Trends Accelerated by the OECD Documentation Guidance

The new OECD guidance may accelerate two trends that have been developing over the past several years. The first is a desire on the part of tax authorities to require that taxpayers be more transparent about their supply chains, including providing the information that tax authorities needto help identify the location of nontaxed or lightly taxed income. This trend could increase the likelihood of audits, particularly given the current political focus on “double nontaxation.”

The second and equally important trend is the significant growth in the
volume of data that has to be collected and processed to comply with
transfer pricing requirements. When the United States first issued its
documentation requirements, taxpayers could focus on providing a single
report that was often prepared on an aggregated basis (i.e., all
transactions were tested as one) and had just 10 specific documentation
requirements. Now—and even more so and assuming countries incorporate some form of the new OECD guidance into their regulationsand expectations—even a medium-size multinational may have to prepare extensive reports. For example, assume a medium-size multinational is
required to prepare reports for 40 different countries with an average of
three legal entities per country, five discrete transactions per legal entity
(tangible property sales, tangible property purchases, intangible property
payments, services payments, and intercompany interest payments), and
perhaps 20 discrete pieces of data per transaction. This could lead to a
requirement for approximately 12,000 data items if documentation is
prepared for all legal entities, and 6,000 data items if documentation is
prepared for just half of all legal entities. The number of data elements can further increase if transactions are further subdivided into sales to and sales from specific individual legal entities within the multinational group. Consider the following summary:

* This assumption comes from the 20 different items listed in the OECD’s local file guidance.

Processes Needed to React Effectively to the OECD
Documentation Challenges

Some of the key processes that multinationals should consider putting
into place to react effectively to the challenges posed by the new OECD
documentation initiative can be broken down into three discrete
categories:

Data Collection

Data collection could be responsible for the largest and most challenging
part of the overall documentation effort. A number of issues are inherent
in the data collection process, particularly when there are multiple
enterprise resource planning (ERP) systems and the need to collect data
from potentially hundreds of legal entities or businesses units. At the
same time, this is an area where there may be relatively easy
opportunities for substantial improvements in processes and costs
savings.

Data Structure and Analysis

The ability to use data, once collected, is highly dependent upon how the data is structured and how a multinational’s analytical and reporting tools
are built around these data. A key objective of this analysis is to be able to extract information from large amounts of interconnected data in a way
that provides useful insights into relevant questions, when some questions are likely to be related to risk, others project management, and
others cost. This should also allow for an evaluation of how different ways
of structuring and presenting data can change the story told by documentation reports and other communications with tax authorities. Flexibility and adaptability can be key at this phase of the analysis, as they allow the creation of a customized approach that is tailored to each company’s needs.

Development of Robust Processes

While flexibility can be key to the initial analytical process, the preparation of transfer pricing documentation is an annual process rather than a onetime event. The production of the information needed to produce and evaluate data should, therefore, be incorporated into a robust and replicable process with carefully controlled workflows to safeguard the accuracy and quality of the data and reports generated from the data. However, a robust process may be locked down and subject to tight controls, which in turn implies the need for a carefully thought though
change management process. Because locking the process down prematurely may lock in inefficiencies, the development of the robust process should potentially come at the end of the project once the data and analytical needs of the multinational enterprise have been clearly specified.

Technology Habits May Need to Change

The need for the systematic collection and analysis of large amounts of
data suggests the need to rely on appropriate technology. The good news
on the technology front is that recent advances in collaborative and
business intelligence (“BI”) software have made it much easier to work
with large amounts of diverse data. The key challenge, however, may be
that the effective utilization of this modern technology requires breaking
old habits that potentially undermine the effectiveness of the new
technology.

The existing tools used by many tax departments to collect, process, and
evaluate information generally relies upon a combination of softwarebased
technologies that may have been introduced decades ago and
existing processes put in place to work with these tools may undermine
the effectiveness of modern collaborative and BI tools. Changing existing habits and practices is often difficult and requires the implementation of a change management process that, in turn, may require the adoption of different work flows and the development of different skill sets and training.