B Law & Tax
27 September 2023

Tax advisor:Analysis of the justification for applying the median in transfer pricing adjustment

In the opinion of the National High Court, the justification provided by the tax
authority regarding the excessive breadth of the profit margins is not considered
detailed enough to support the application of the median as explained. Therefore,
this objection is accepted, and it is determined that the application of the lower point
within the competence range established by the tax authority is appropriate.”

The National High Court, in its ruling of May 31 st , 2023, examines the transfer pricing
adjustment made by the Inspection, specifically regarding the competence range and
the placement of the correction within that range.
Therefore, the Inspection concluded that the valuation of transactions related to the
Italian group companies did not comply with the principle of fair competition, as the
price determined by the company was outside the competence range established by
the tax authority.
Regarding the arguments presented by the appellant, they are divided into three
different areas.

Firstly, the cost structure in the year 2011 is addressed, along with the significant
disparity, according to the appellant, in the proportion of indirect costs in relation to
sales compared to the set of companies used as a reference to define the market
reference.

In second place, the staff reduction measures carried out in 2011 are mentioned,
which are also considered evidence of this imbalance.

Lastly, reference is made to the cost structure and profitability of direct competitors in
the domestic market in 2011, demonstrating that operational costs, apart from mere
goods acquisition, are very similar to those obtained from the analysis of the cost
structures of Group companies.

However, in the opinion of the High Court, none of these explanations is adequately
substantiated.
Regarding the cost structure of the companies used as a reference to define the
reference market, the High Court considers this explanation insufficient to support
compliance with the principle of full competition, both in terms of data and the
interpretation presented in the lawsuit.

Regarding the workforce adjustments, the explanation is based on the economic
crisis affecting all entities in 2011. However, the High Court does not consider this
explanation sufficient to justify compliance with the principle of full competition, as it
is a single piece of data that does not adequately support the argumentation.
With regard toAbout the cost structure and profitability of direct competitors of the
Group in the domestic market in 2011, the High Court also finds deficiencies in the
argumentative technique used in the lawsuit, similar to those observed previously
with respect to the companies used to determine the market range.

Having established the above, the High Court proceeds to analyze whether the
adjustment to the median made by the Inspection is correct. In this regard, the High
Court considers the provided motivation to be insufficient, as the mere existence of a
deviation from the full competition range determined by the tax authority does not
fully justify resorting to the median.

Furthermore, the justification that the margins obtained are too wide is also
considered insufficient to meet the burden of arguing and presenting the reasons
supporting the application of the median according to the OECD Guidelines. In other
words, the persistence of comparability defects has not been convincingly
demonstrated.

In summary, the explanation provided by the tax authority that the margins are too
wide is not considered convincing enough to support the application of the median
as provided in the OECD Guidelines. Therefore, this argument is accepted, and the
application of the lowest point of the full competition range determined by the tax
authority, which is set at 3%, is considered appropriate, with the legal consequences
that this entails.

 

B Law & Tax International Tax & Legal Advisors.

 https://www.blaw.es/

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