Expanding TP regulation in Central America: a guide

Over the years, the Tax Office in Guatemala has taken greater action and initiative, requesting TP reports from taxpayers and beginning TP audits that have subsequently culminated in corporate income tax assessments for companies operating in various industries.

The year 2022 and the beginning of 2023 have been no exception, since the Tax Office has started discussing some proposed tax amendments, including various points for the TP regulations. 

The initial proposed TP amendments are as follows:

• A limitation on tax deductibility of royalties paid to related parties, which should not exceed 1% of the revenue stemming from the transaction (down from the current 5% of the gross revenues of the entity);

• A clearer definition of the arm’s length principle and TP, in accordance with international standards;

• Updating the Tax Office’s audit powers with respect to TP;

• Broadening and clarifying the definition of a related party in Guatemala;

• Clarifying the scope of application for TP, including local transactions between related parties;

• Clarifying the valuation method for importation and exportation of goods, by using international markets and securities exchanges, among others;

• Improving the terms for stipulating advance pricing agreements (APAs) between competent authorities;

• Mandatory filing of the TP report, when there are transactions with related parties, as well as the corresponding tax return;

• Determining the arm’s length range for establishing whether there are comparable transactions; and

• Validating TP technical references, per international guidelines, etc.

One of the most striking points is that the Tax Office is proposing the application of TP regulations between domestic related parties, which is something that has already been seen in the regulations of other countries in the region (e.g., Mexico). 

It is expected that these changes would take effect, provided they are passed by the Congress of the Republic, as of the second half of 2023 or early 2024.

In April 2021, amendments to the TP regulations were enacted, which modified the obligations that were previously limited to the filing of an informative return and to maintain supporting documentation to demonstrate the arm's length principle compliance. Under the current rules, in addition to these existing obligations, the tax authorities introduced requirements to align domestic legislation with the concepts established in the OECD BEPS project. Namely, master file and country by country reports, in addition to the requirement to submit all of these documents voluntarily to the tax authority within a specific timeframe and due dates.

Regarding compliance with the 2022 informative return, the due date will be unified with the filing of the income tax return (specifically 120 days after the fiscal year end). This will represent a challenge for taxpayers, since the due date will coincide with other contemporary requirements, such as the preparation of audited financial statements.

The biggest challenge would come with the submission of local and master reports in view of the unavailability of a technological platform or a clear procedure that would allow taxpayers to comply with this formal duty. Particularly, the current mechanism that allows the transmission of information was available only days before the due date and without any instructions to accompany the completion of the report. But in the case of the master file, the disclosure of specific information of the relevant contracts of the multinational group is required, namely: date of the agreement, parties involved and others. This ultimately resulted in data that is not easily available to the taxpayer. It is expected that in the future this platform will be adjusted, a situation that has also happened previously with the different options for the transmission of the informative return.

The filing of the notifications of the country-by-country report went smoothly and, for the time being, compliance does not seem to represent a challenge. Based on the current regulatory framework, it is also not required to duplicate presentation in those cases where one of the multinational group’s entities have complied with the requirements of this report or if it has already submitted it abroad. 

Finally, it should be noted that the setbacks experienced during 2022 are typical of the first year of its implementation. The tax authority, by acknowledging this fact, is also willing to approve extensions for all taxpayers to have sufficient opportunity to comply without the risk of being penalised.

In May 2021, Costa Rica became a member of the OECD. However, since 2018, the TP regulatory framework constituted a large part of the documentation obligations required by the BEPS project and described in the previous section. Above all, the framework has not undergone substantial modifications since 2021, when the guidelines to enter into APAs were published.

Above all, the fact that Costa Rica is a member of the OECD mandates responsibilities that will undoubtedly force future changes in the regulatory framework. Thus, the discussions and future incorporations of Pillar 1 and Pillar 2 of the BEPS project may be part of the country's fiscal debates in the short or medium term. Both will stand out for the importance of their implications both in public policies and in certain economic sectors.

The TP regulatory framework of Honduras and Nicaragua has not undergone changes in the last five and three years, respectively. For the time being, Honduras is part of the Inclusive Framework of the BEPS project, which would lead to the incorporation of the tax modifications required in this project. However, the draft tax reform that has been presented to the general public and business community does not constitute major changes to the existing regime.

In the beginning of 2023, Panama’s tax court issued several TP-related resolutions. Even those that are non-binding for taxpayers, local practitioners use these criteria to narrow the technical characteristics that a Panamanian local file is suggested to have to comply with arm’s length.

For Decision TAT-RF-006, the tax court upheld the tax authority’s rejection of several internal and external comparable companies due to the lack of a proper comparability analysis. This included the rejection of capital adjustments to comparable companies since the TP study did not demonstrate that adjustments to accounts receivable, accounts payable, and inventory increased the level of reliability and comparability between the tested party and the selected comparable companies.

Other points worth mentioning are:

• Adjustments to tested parties must demonstrate that such an element belongs to the tested business segment and how the comparability is affected by its inclusion or exclusion rather than be automatically adjusted; and

• Direct allocation, rather than indirect allocation, is preferred to prepare segmented financial statements. The result of such a decision was a six-figure TP adjustment for the taxpayer.

Finally, Decision TAT-RF-017 evidenced a disagreement between magistrates on the enforceability of TP obligations for special tax regime companies. In the decision, the tax court revoked the monetary penalties issued by the tax authority for a company operating in the Colón Free Zone regime for failing to file Form 930 on time, although a magistrate issued a dissenting opinion. This decision is aligned with the five similar opinions that were public on the tax court website for 2022.