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The Supreme Administrative Court (the “SAC”) recently dealt with a case concerning transfer prices and implications of a parent company’s involvement for a subsidiary’s pricing policy. The case specifically involved a local company engaged in trading steel scrap, which reported losses in long term. In the opinion of the Regional Court and the SAC, the pricing strategy was set up by the parent company and the subsidiary entered into business relationships with independent entities only in an administrative role. Therefore, the tax administrator considered the parent company’s instruction, which resulted in an unprofitable sale pursuant to Section 23 (7) of the Income Tax Act, quantified the loss and assessed additional tax in an additional payment assessment.

In the Financial Administration’s view, price setting by the parent company (registered in France) was the key reason for the loss-making transaction. The Financial Administration found that the parent company directly set up prices, for which the local company was purchasing and selling its products (outside the Group). The Financial Administration considered the transaction an instruction resulting in an unprofitable sale and increased the subsidiary’s tax base (or decreased the tax loss, as appropriate) by the level of the loss incurred by the subsidiary (on the level of a minimum margin, which would have been achieved by the subsidiary, had not it been bound by the parent company’s instructions).

The subsidiary filed an appeal against the tax administrator’s decision because, in its view, tax authorities went wrong in applying Section 23 (7) of the law as the relevant transactions were agreed between the subsidiary and independent persons. Moreover, the deals’ prices were, in the plaintiff’s opinion, determined with reference to commodity prices on the exchange and, as a result, corresponded to market conditions. In addition to that, the company pointed out that commodity prices dropped in the reported period, this being the reason for the loss-making, and denied that the pricing policy was the result of the parent company’s instructions.

The Regional Court (the “RC”) did not accept the company’s reasoning and pointed out that the transaction under review involved the plaintiff’s service to the parent company, which included a loss-generating sale of metal scrap (or compliance with the parent company’s instruction, as appropriate) substantially below the costs’ level. The Supreme Administrative Court subsequently confirmed the RC’s decision.

This judgment may have implications for group structures’ practices. The fact that a taxpayer enters into business relationships with (non-related) third parties does not on its own prevent application of market price rules as long as the pricing policy causes economic harm to a subsidiary.

Please feel free to contact us, if you want more information about this judgment. We will be happy to help you.

Michaela Kozminská
kozminska@clarksonhyde.cz