Master File and CbCR: The challenges ahead

The Sri Lankan tax authorities will also need to evaluate their infrastructure capacity and manpower to handle such confidential information supplied by the MNE group and to coordinate with different tax jurisdictions for such exchange of information 

Sri Lanka introduced mandatory Transfer Pricing (TP) compliance regulations in 2015 and since then has been making regular changes to the said regulations, with a view to adopting the global best practices such as including interquartile range concept, fresh benchmarking study once in three years, etc. 

A significant change was seen in the TP documentation which has now gone beyond the basic TP disclosure form and local file to include Country by Country Reporting (CbCR) and Master File (MF) where companies have a global footprint. This change mainly stems from the findings of The Organisation for Economic Cooperation and Development (OECD) where it is estimated that revenue loss from base erosion and profit shifting (BEPS) is conservatively at $ 100-240 billion annually, or anywhere from 4-10% of the global corporate income tax revenue. 

In order to curtail tax losses arising due to the above profit shifting, the Sri Lankan Government, in line with OECD guidelines, introduced a three-tier transfer pricing documentation structure, viz. CbCR, Master File and the existing local transfer pricing documentation through the Gazette Notification 2104/04 dated 31 December 2018. However, owing to the spread of the COVID-19 pandemic across the globe, the implementation of the MF and CbCR was deferred to provide relief to the taxpayers. 

The Inland Revenue Department has issued a fresh Transfer Regulation on 20 July 2021 to be operative from the Y/A 20/21 whereby reporting under CBCR and Master File is made applicable from Y/A 2020/21. CbCR regulations apply to those groups whose consolidated group revenue for the preceding financial year exceeds Euro 750 million. Master File regulations apply if the Group revenue exceeds Euro 50 million (revised from earlier threshold of revenue of Rs. 7.5 billion by a Sri Lankan entity). 

Master File regulations mandate an international group to provide the overview of the group, its business including details of intangibles, financing arrangements and financial and tax arrangements. CbCR is required to be showcased in a prescribed tabular format, giving out precise information about the allocation of global income, income taxes paid and business activities by tax jurisdiction, etc., with respect to each entity of the multinational group located in different countries across the globe. 

The Transfer Pricing Officer shall use the CbCR for the purpose of assessing high level Transfer Pricing Risks and other base erosion risks, especially for those Groups who have parked their profits or intellectual property in ‘No- or low-tax’ jurisdictions, whereas substantial activity has been carried out in other jurisdictions in order to reduce effective group tax liability. With the implementation of these new regulations in Sri Lanka and the resulting information contained therein, there is an increased risk of tax-related disputes as the income-tax department may alternatively allocate group profits based on the profit split method. 

The OECD in peer review report of ‘implementation of CbCR for Sri Lanka’ recommended that Sri Lanka take steps to sign the CbC MCAA (Multilateral Competent Authority Agreement) and have QCAAs (Qualifying Competent Authority Agreement) in effect with jurisdictions of the Inclusive Framework which meet the confidentiality, consistency and appropriate use prerequisites and with which it has an international exchange of information agreement in effect that allows for the automatic exchange of tax information. In the absence of effective exchange of information framework, the multinational Group entities in Sri Lanka would be required to mandatorily file CbCR with the Commissioner General of Inland Revenue.

Although the rules notified in this regard provide that the Commissioner General of Inland Revenue shall preserve the confidentiality of the information furnished by the taxpayer, many multinationals considering commercial sensitivity of business details are reluctant to share information due to the fear that such data may be accessible to their competitors—if proper data security systems are not in place.

In the case of Master File, an entity which forms part of a multinational group would be required to prepare and maintain the Master File if the following conditions are satisfied: 

Group revenue exceeds 50 million Euro or equivalent in Sri Lanka Rupees for each year of assessment; and 

has a related party transaction during the year of assessment. 

It could be contended that due to a low group revenue threshold and no threshold specified with respect to related party transactions, many entities being part of multinational group (including a Sri Lanka Headquartered Multinational Group) maybe be required to prepare a Master File even if they may be exempted from the preparation of Local File.

The new regulations accordingly provide a few challenges to both the Inland Revenue Department and the Multinational Groups. Hence MNE groups in Sri Lanka need to immediately start evaluating the applicability of Master File and CbCR in Sri Lanka and be ready with the Master File to be submitted within 60 days from the date of any request notice issued by IRD. The Sri Lankan tax authorities will also need to evaluate their infrastructure capacity and manpower to handle such confidential information supplied by the MNE group and to coordinate with different tax jurisdictions for such exchange of information.

(The writer is Director Tax Services at PwC Sri Lanka.)