[TAX] Special Alert: Income Tax (Transfer Pricing) Rules 2023: A Knee Jerk Response?

• Published date: 07 June 2023
• Subject Matter: Tax, Energy and Natural Resources, Oil, Gas & Electricity, Income Tax, Transfer Pricing
• Law Firm: Lee Hishammuddin Allen & Gledhill
• Author: Mr Dato Nadkarni and Jason Tan Jia Xin

Landmark Decision by Kuala Lumpur High Court (KLHC) in Transfer Pricing (TP)

On 17 May 2022, the Kuala Lumpur High Court (KLHC) dismissed the Director General of Inland Revenue's (DGIR) appeal in Sandakan Edible Oils. This was a landmark decision which vindicated the tax industry's view on various long-standing points of contention with the DGIR.

On 27 May 2022, the Special Commissioners of Income Tax's (SCIT) decision² which the KLHC affirmed, was recognised by Euromoney's Benchmark Litigation Asia-Pacific Awards 2022 as Malaysia's Impact Case of the Year. The full impact of that decision would become evident a year later.

On 5 April 2023, the KLHC issued its grounds of judgment (available here) confirming, amongst others, that:

• TP adjustments ought not to be made when a taxpayer's financial results already fall within the interquartile range (IQR).
• The median point is a poor determinant and "arbitrary measure" of arm's length pricing. "The proper approach is that where there is a pattern which shows fluctuating profits between the companies as one would expect in business, a range rather than a single point should be used to determine arm's length pricing. This is the proper interpretation of the OECD Guidelines".³
• Differences in turnover between a taxpayer and comparables is not a comparability defect. "Nothing in transfer pricing legislation requires taxpayers to achieve the same turnover as its competitors".

Erosion of TP Principles by the Income Tax (Transfer Pricing) Rules 2023 (2023 TP Rules)?

On 29 May 2023, the 2023 TP Rules were gazetted⁴ (available here). The 2023 TP Rules appears at least in part to be a response to recent judicial trend in transfer pricing, including the SCIT's and KLHC's decisions in Sandakan Edible Oils.⁵ Amongst others, they purport to:

• Create an unprecedented definition of the arm's length range as a range of figures or a single figure falling between the 37.5^th and 62.5^th percentile of a data set.⁶
• Empower the DGIR to make adjustments to the median or any other point above the median even when a taxpayer's price is already within the arm's length range, where comparability defects exist.⁷
• Provide that the arm's length price to automatically be taken to be the median where the taxpayer's price fall outside the arm's length range.⁸

Divergences in the 2023 TP Rules from the OECD Guidelines?

These changes are startling, to say the least, particularly insofar as they appear to lead Malaysia ever further away from...