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|Le Khanh Lam - Partner and head of Tax and Consulting Services RSM Vietnam|
Due to affecting the tax base and the tax amount payable, the establishment of appropriate prices for transfer of goods, intangibles, and services between FIEs and their related parties, commonly referred to as transfer pricing (TP), is a great concern for both tax authorities and the enterprises themselves.
In the meantime, many FIEs have reported continued losses while still carrying out business expansions. This has aroused suspicions that they have been involved in TP.
However, FIEs may sustain genuine losses due to many business reasons such as heavy startup costs, unfavourable economic conditions, poor management, deliberate business strategies, and more. For example, they may follow their groups’ business strategies by setting their prices especially competitive for market penetration, in order to increase their market share, and expect to earn potential profits in the foreseeable future.
Generally, other independent enterprises are also expected to carry out the same strategies in comparable circumstances. According to United Nations Practical Manual on Transfer Pricing for Developing Countries 2017, and Organization for Economic Co-operation and Development (OECD) Transfer Pricing Guideline for Multinational Enterprises and Tax Administrations, such strategies may be acceptable if the business and economic circumstances require the FIEs and other independent enterprises to determine prices in the same comparable manner.
Therefore, tax authorities should not automatically assume that FIEs with related party transactions were planning to manipulate their profits, especially in the case of these enterprises incurring losses that continue for a long period of time.
Given this, proper TP regulations are crucial in dealing with problems for both tax authorities and taxpayers. In the case of taxpayers, they need to comply with regulations and administrative reporting requirements. For tax authorities, specific matters arise at both policy design and practical implementation.
In Vietnam, TP guidance was written in tax regulations starting from 1997 by the Ministry of Finance (MoF), with simple terms to define the related parties. Today, due to the great public concern, these TP regulations have become more complex and included a large number of reporting requirements.
With the efforts to tackle tax evasion and implement international best practices, in early 2017, the Vietnamese government released Decree No.20/2017/ND-CP on providing tax administration applicable to enterprises with related party transactions. It introduced new concepts and principles from the OECD’s TP guideline, as well as implemented certain actions from the Base Erosion and Profit Shifting (BEPS) Action Plans.
Through this decree, Vietnam has taken a significant step forward in dealing with TP issues in line with international practice.
From 1997 to the present, the designing of a legal framework and formulating regulations on TP have been improved strongly. During this period, it has been observed that there are two major issues in designing TP regulations in Vietnam.
Firstly, regulations were designed with the ability to apply to all types of enterprises. However, in reality, these regulations are not suitable to a number of enterprises in some specific industries.
For example, many enterprises in capital-intensive industries such as real estate or construction have given comments to the Vietnamese government that they are facing difficulties with the regulation on the 20 per cent cap on earnings before interest, tax, depreciation, and amortisation, on the tax deductibility of total interest expenses written in Decree 20.
Therefore, last December, the MoF circulated a draft decree to amend and supplement this regulation, and will seek public and specific comments from the affected entities.
Secondly, the pace of regulation update is not in line with the speed of the transformation of the economy, which creates new issues that cannot adopt the current regulations in many cases. Therefore, it is not surprising to see that the prevailing regulations shall be regularly updated to deal with new issues that arise.
To keep TP regulations updated and comparable with the latest development of international tax practice, the Vietnamese authorities should closely watch the development of TP rules elsewhere in the world.
According to the aforementioned 2017 UN practical manual, it also provides guidance on the mechanisms available for developing countries to obtain training and information updates, and to engage in international tax dialogue as below:
- Regional co-ordination through existing intergovernmental agencies such as the International Organization of Tax Administrations, Inter-American Centre of Tax Administrations, the African Tax Administration Forum, Study Group on Asian Tax Administration and Research, and the Commonwealth Association of Tax Administrators;
- Engage with institutional stakeholders such as the UN, the OECD, the World Bank, and the International Monetary Fund;
- Create a clearing house for information and capacity development with like-minded countries;
- Participate in the south-south dialogue for capacity development.
Vietnam should, through participation in regional and global dialogues, be able to benefit from the use of existing consultancy bodies, used by countries with similar legislation, or countries located within the same geographic region.
Considering outside funds
As a developing country, overseas investments are important and integral to the Vietnamese economy. These funds have contributed to boosting technological transformation, improving the quality of human resources, increasing product quality, and maintaining economic growth in the country. Therefore, the consideration of continuously attracting foreign investment is one of the key concerns for the government.
In respect to this, TP rules which have significant impacts on the activities of multinational enterprises may act as barriers for such investment. Before the government released Decree 20, the concerns from enterprises on TP requirements were not high. But currently, FIEs intending to invest into Vietnam need to pay high attention to, and be in compliance with, the stricter requirements laid out in Decree 20. In other words, the stricter control in TP will create hindrances to attract the flow of foreign investment.
With the beneficial effects of international investment on the efficiency and growth of the Vietnamese economy, the government should consider updating TP rules to control, but also attract, such funding. Besides this, the rules are necessary to compare with neighbouring competitors and international standards.
Unreasonable corporate income tax rates, high compliance costs, and uncertainty in TP rules could discourage foreign investors from pouring money into one country, redirecting the flow of that investment to other nearby nations.
The next step
The fast and wide spread of digitalisation, and development of the liberation in trade policy, have advanced the pace of globalisation and created the continuing transformation of the global economy. As a result of digital transformation, customer-facing and/or user-facing activities will be carried out by more and more enterprises from a remote location, with zero or minimal physical presence in the market.
The challenges of how taxing rights on income generated from cross-border activities should be allocated among jurisdictions are of high concern.
To resolve these problems, the OECD has recently suggested many new proposals which could lead to important changes in fundamental international principles in TP rules.
In a statement released after a meeting held on January 29–30, member countries joining the inclusive framework on BEPS also adopted the OECD’s proposed unified approach. Therefore, it is also expected that domestic TP regulations in these countries, of which Vietnam is one, will be updated soon to reflect the changes.
New amendments to the Law on Investment 2014
Last week, the National Assembly’s Economic Committee held a meeting to discuss the latest draft amendments to the Law on Investment 2014 to reach an agreement on some issues before submitting it to the legislature for approval in May.
According to these amendments, the government could work with independent consulting units to assess and appraise foreign-invested projects, in addition to the banned business lines and the list of conditional business lines. Under the resolution, Vietnam will deny proposals to expand or extend operation schedules of projects using outdated technology that constitute risks to the environment or waste natural resources. Projects with a high possibility of transfer pricing (TP) or illegal investment will be dealt with comprehensively.
The resolution urges to add a regulation on appraising investment capital of foreign-invested enterprises (FIEs) when necessary as a foundation for tax assessment, thus preventing TP and tax evasion. It is expected to be implemented as soon as Vietnam this month issues the action plan to implement the Politburo’s Resolution 50 on the directions to complete the legal framework to increase the quality of foreign direct investment attraction towards 2030, with a number of concrete solutions and tasks for ministries and agencies to sustainably improve the business climate, and also to fight against TP.
Accordingly, the Ministry of Finance (MoF) is tasked to build a mechanism to apply investment incentives, with requirements to meet concrete conditions and commitments as well as post-inspection to be integrated. Moreover, the regulation should amend and supplement the regulations on anti-TP in the Law on Tax Administration and its guiding decrees. The MoF will also assess the efficiency of double taxation avoidance agreements and their impacts on Vietnam’s tax policies to suggest possible adjustments.
Vietnam has introduced a simple guidance of TP in tax regulations starting from 1997. In the wake of tax evasions and international best practices, in early 2017, the Vietnamese government issued Decree No.20/2017/ND-CP on providing tax administration applicable to enterprises with related party transactions. Since then, the country’s legal framework on TP has been much improved. However, it proves unsuitable to a number of enterprises in some specific industries and is yet to keep up with the economical transformation. To this end, the MoF in late 2019 introduced a draft decree to amend and supplement some regulations in Decree 20, and will seek comments soon from related parties. Over the past 30 years, FIEs have greatly contributed to Vietnam’s socio-economic development. However, problems still remain, including TP, tax evasion, and the application of outdated technology, among others.
Coca-Cola, Metro Vietnam, and Adidas are brands that are suspected of TP activities. Coca-Cola was once named on top of the list of suspects by Ho Chi Minh City Taxation Department. By 2012, the company continuously reported losses but still expanded its operations. As a result, in late 2019, Coca-Cola Vietnam was fined over VND821 billion ($36 million). Suntory PepsiCo Vietnam is also suspected of TP. Since 1991, PepsiCo has continuously reported losses to not pay corporate income tax. Meanwhile, it invested in new factories to increase its local market share. Metro Vietnam started its business in Vietnam in 2002 with an initial investment sum of $120 million. After 12 years of operation, the company has changed its business licence six times, thus increasing its total investment to over $301 million and expanding its operation nationwide. In spite of this, Metro Vietnam constantly announced losses, except for 2010 when it made a profit of VND173 billion ($7.52 million).
In a move to prevent tax losses, local tax agencies including Hanoi Taxation Department and Ho Chi Minh City Taxation Department have announced to intensify activities to fight against TP this year, considering it a focus in their tasks. Accordingly, the agencies will concentrate their investigations into FIEs that have reported losses for years but still expanded their operations, as well as any others with suspicious transactions.