TAX NEWS - 
2010
Canada tax: Interest in Advance Pricing Arrangement (APA) program remains strong despite downturn
Highlights from the 2009–10 Advance Pricing Arrangement Program Report
Continuing the trend from previous years, the program continues the growth observed over the last several years, although at a slightly reduced pace.
Highlights from the latest report include the following:
Increased number of APAs concluded
Sixteen Advance Pricing Arrangements were completed in 2009–10. This is a significant increase over the 10 Advance Pricing Arrangements completed in fiscal 2008–09, and just shy of the historical high of 17 Advance Pricing Arrangements completed in both 2003–04 and 2004–05. Closing inventory for the program stands at 95 cases, the highest level ever reported.
In recent years, Canada Revenue Agency has hired additional analysts and economists to handle the increased workload resulting from taxpayers' interest in pursuing an Advance Pricing Arrangement as an effective vehicle for managing transfer pricing risk. The increase in the number of completed APAs during fiscal 2009–10 illustrates that the additional resources are allowing Canada Revenue Agency to complete more APAs on an annual basis. We expect this trend to continue in future years.
Time to completion increased to 49 months
This is up from approximately 42 months in last year's report. It reflects cases completed in the year, although these cases may have originated in prior years. This measure is difficult to compare from year to year, since it may be unduly influenced by outlier cases that have taken an exceptionally long time to complete.
The report also provides a breakdown of the average time in each of the three phases of a bilateral APA. It is interesting to note that, on average, 17 months is required for the CRA to perform its due diligence, analysis and preparation of the position paper. While this may appear to be a lengthy period, there are a number of reasons this phase requires so much time, including the availability of taxpayers and Canada Revenue Agency team for the purpose of co-ordinating site visits and interviews, delays in taxpayer responses to queries, availability of historical information, and the level of the complexity of the transfer pricing issues and/or covered transactions.
The successful negotiation of an Advance Pricing Arrangement with a foreign tax administration takes, on average, approximately 10 months to complete. This is a surprisingly short period of time, considering that meetings are typically scheduled on a quarterly or semi-annual basis, depending on the volume of cases that are being discussed with the foreign tax administration. Following a successful negotiation, an average of 13 months is required to draft the Advance Pricing Arrangement, obtain agreement on wording with both the foreign tax administration and the taxpayer, followed by signatures from the CRA's Competent Authority Services division and the taxpayer.
While the 49-month total of the three phases of the Advance Pricing Arrangement process was considerably longer in 2009–10 than the average time to complete an Advance Pricing Arrangement during fiscal 2008–09, Patricia Spice, Director of the CRA's Competent Authority Services division, recently clarified that two cases that closed during the year skewed the program results; the exclusion of those cases would have reduced the average completion time to a little less than 42 months. The differential of seven months was largely due to cases held in suspense where the time was not accounted for in any of the three phases.
Pre-filing meetings decreased slightly
Pre-filing meetings were down to 31, from 32 in 2008–09. This volume nonetheless evidences continued strong interest in the APA program among taxpayers and their advisors. There were 29 cases accepted into the program in the year, and a further 23 cases were under consideration for acceptance at year end.
We believe there will continue to be an upward trend in pre-filing meetings in future years as taxpayers seek effective ways to manage their transfer pricing risk. The recent pronouncements by the US tax administration on the reporting of uncertain tax positions will certainly give taxpayers one more reason to consider APAs as an effective and efficient tool to obtain certainty in their transfer pricing.
Withdrawals were up significantly
Of the 31 pre-filing meetings, 11 taxpayers subsequently withdrew their request to be considered for an APA. Further, two taxpayers who had been accepted into the program withdrew subsequent to acceptance. According to the report, the pre-acceptance withdrawals were largely due to the taxpayers reconsidering their participation after the pre-filing meeting once they received feedback from Canada Revenue Agency on their proposed transfer pricing methodologies and proposed transactions, and a better understanding of the requirements of the APA program. The report suggests that the post-acceptance withdrawals were primarily due to changing facts and circumstances of taxpayers that rendered them unable to meet the requisite conditions of the program.
During the initial years of the APA program, Canada Revenue Agency enthusiastically promoted it, and a pre-filing meeting was typically followed by the CRA's acceptance to move forward with the Advance Pricing Arrangement process. In recent years, Canada Revenue Agency has invested more time during the pre-filing phase to
understand the taxpayer's business and provide feedback on issues that need to be addressed before acceptance into the Advance Pricing Arrangement program. This is not surprising, as the strong interest in the Advance Pricing Arrangement program has resulted in a considerable workload for Canada Revenue Agency. In order to improve the efficiency of the APA process, Canada Revenue Agency is now focused on identifying contentious issues during pre-filing meetings that would be difficult to resolve with a foreign tax administration.
We believe that this additional feedback during the pre-filing phase has resulted in an increase in the number of taxpayers that opt out of the APA program. In addition, the impact of the economic downturn and the availability of losses that could be applied to prior and subsequent years may have suppressed some inherent demand. However, we believe that as the economy improves and taxpayers become more profitable, interest in the Advance Pricing Arrangement program will increase.
TNMM remains the most prevalent transfer pricing methodology
Among in-progress Advance Pricing Arrangements, the transactional net margin method (TNMM) is being used in 53% of cases. Among these TNMM cases, operating margin is the most-used profit-level indicator, with 37% of all TNMM cases, followed by total cost plus (8%), Berry ratio (4%) and return on assets (3%).
Other methodologies used include profit split (19%), cost plus (16%), comparable uncontrolled price/transaction (9%), and resale price (3%).
Program improvement initiatives have been continued
Canada Revenue Agency continues to develop the program improvement initiatives it first instituted in 2008–09. These include the following:
- Increased use of remote technology to interact with foreign competent authorities in order to reduce travel time and cost, and to increase the time spent on the file
- Reduction or elimination of site visits, especially for renewals
- Consideration of Advance Pricing Arrangement term extensions where amenable to the foreign competent authority
- Feedback on taxpayers' proposed transfer pricing methodologies and covered transactions before acceptance into the APA program
- Use of specialized expertise to expedite APA completion
Since the inception of the APA program, 253 cases have been accepted, of which 142 Advance Pricing Arrangements have been successfully negotiated. In only four cases was the CRA unable to reach an agreement with the taxpayer and/or foreign tax administration. The number of successfully completed Advance Pricing Arrangements demonstrates the CRA's commitment to providing tax certainty and to resolving complex transfer pricing issues on a prospective basis.
The 2009–10 Advance Pricing Arrangement Program Report reflects a program that continues to grow and attract new clientele while maintaining its attraction to existing program participants. The APA's popularity stems primarily from its status as the only true means to achieve future tax certainty for taxpayers with significant cross-border transactions while offering penalty protection for rollback years.
The Advance Pricing Arrangement program continues to evolve, and Canada Revenue Agency continues to make improvements to enhance its efficiency and effectiveness.
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