Transfer Pricing inspections in Portugal: The hegemony of the median

In the realm of Transfer Pricing, the adage “prevention is better than cure” has never made more sense. If we consider the cost and time involved in tax disputes, in addition to the risk of double taxation, they can be avoided if the Transfer Pricing Documentation and transfer pricing policies are up-to-date and correctly prepared, functioning as the first line of defense in the event of a tax audit.

Indeed, Transfer Pricing inspections have always been a delicate issue in tax matters, but are undergoing significant changes as the Tax and Customs Authority (hereinafter “AT”) currently has more and more access to taxpayer information than before. In fact, the AT now regularly analyzes new public sources of information, such as LinkedIn job descriptions, as well as emails, calendars of decision-makers, human resources data, legal and financial documents, contracts, among others. This implies that in the absence of correct, complete, or up-to-date documentation, there will be tax penalties and adjustments that could have been avoided. 

In recent years, in Transfer Pricing inspections, the AT has been applying the approach of adjusting to the median of the range. In this sense, it is important to consult the OECD Transfer Pricing Guidelines (paragraph 3.57 and following) which state that even after the process used to select comparables, limitations remain in the available information on comparables, and some comparability defects may not be identified and/or quantified, thus not adjusted. In these cases, if the range includes a significant number of observations, statistical tools that consider the central tendency to narrow the range (e.g., the interquartile range or other percentiles) may help increase the reliability of the analysis. If the tested related party transaction (e.g., price or margin) is within the arm's length range, no adjustment should be made.

When determining a range that comprises relatively equal and highly reliable results, it can be argued that any point in the range satisfies the arm's length principle. When comparability defects persist, it may be appropriate to use central tendency measures to determine this point (e.g., median, mean, or weighted averages, etc., depending on the specific characteristics of the dataset) to minimize the risk of error due to unknown or unquantifiable remaining comparability defects. Thus, only in cases where a comparability defect persists, and the taxpayer cannot demonstrate that an arm's length remuneration is applied, may an adjustment tendency to the median of the range be justified. 

The alignment between Ordinance No. 268/2021 and the European Commission's Transfer Pricing Directive

The AT’s stance of adjusting to the median was officially enshrined in Ordinance No. 268/2021 of November 26, revised in 2021, which states that “any positive adjustment made by the AT should, as a rule, refer to the value corresponding to the median of the range”. Additionally, in September 2023, the European Commission launched a proposal for a Transfer Pricing Directive with the sole objective of standardizing procedures to be incorporated into the local legislation of each Member State, which has not yet seen further developments. One of the highlighted points, somewhat aligned with Ordinance No. 268/2021 of November 26, is the adjustment to the median if the margin/price position is not within the interquartile range, leaving the caveat that it is necessary to prove that any other point in the range determines an arm's length price considering the circumstances of the specific case. In fact, the growing primacy of the median stems from the great potential for adjustment; that is, from our experience in various sectors, margins/profitabilities tend to be in the lower quartile of the Arm's Length ranges, so adjusting to the median makes the adjustment amplitude very relevant, resulting in significant adjustments to the taxable result, a very attractive fact for tax authorities. 

In this sense, we alert internal groups to the exercise of understanding the profitability positioning of their companies, prices/margins, and also the intra-group interest rates they practice, especially when they primarily operate with group companies outside Portugal. If they are below the median, taxpayers should be alert to the increased possibility of Transfer Pricing adjustments by the AT and, therefore, prepare to justify the distinct positioning.

In summary, it is crucial for taxpayers to invest in robust and complete documentation to substantiate intragroup prices and the policies followed within the group, given the complexity and subjectivity involved in this area. The analysis and the argumentative exposition applied can significantly influence the AT's analysis, making adherence to best practices and internationally recognized principles essential.

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Sara Maia Graça
^{Transfer Pricing Senior Consultant, PwC Portugal}