The government is consulting on the introduction of a secondary adjustment rule into the UK’s transfer pricing legislation, probing questions around whether such a rule would address the financial benefit arising from incorrect pricing within transfer pricing arrangements, which remains after application of the current rules

HMRC says the introduction of the secondary adjustment rule would complement the government’s work to date, both domestically and internationally, in tackling taxpayers entering into aggressive transfer pricing arrangements to avoid tax in the UK.

The suggested changes follow on from governmental efforts to address tax planning and relates to the UK’s role in the OECD/G20 effort to tackle Base Erosion and Profit Shifting. It was also included among the early action points which were expected to target aggressive transfer pricing practices by multinationals.

The arm’s length principle has been adopted internationally for transfer pricing rules. It provides an agreed basis for the fair allocation of profit on cross border transactions between connected parties and also avoids double taxation.

However, this also means that changes to that principle need the same international agreement and can take some time to agree.

The UK’s transfer pricing rules calculate the taxable profits on the price that would have been charged at arm’s length. This is achieved via an adjustment (the primary adjustment) to the price that is effective for tax purposes.

As the primary adjustment is only effective for tax purposes, any cash benefit from non-arm’s length pricing can accumulate in an overseas company, often located in a low tax country.

But a secondary adjustment rule would counter this.

HMRC says the rules are already an internationally recognised approach, part of transfer pricing rules applied in several leading jurisdictions including the US, Canada, France and EU member states.