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Introduction to transfer pricing in Lithuania
Transfer pricing rules
- The Lithuanian transfer pricing (TP) legislation is based on the arm`s length principles in the accordance with the principles set out in the Organisation for Economic Co-operation and Development’s (OECD) Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations 2017 (the 'OECD Guidelines') as well as on the Law on Corporate Income Tax (Art. 40) and Order No. 1K-123 of the Minister of Finance of the Republic of Lithuania dated 9 April 2004 (updated as of 1 January 2019) (further – TP rules).
- The TP rules apply to Lithuanian taxpayers, including Lithuanian branches of overseas companies and there is a self-assessment regime, ie the onus is on the taxpayer to confirm its transfer pricing meets the standard or to adjust its tax return accordingly.
- Offsets between years and entities are not accepted.
- The filing of transfer pricing documentation with Tax Authorities is not mandatory, but because of the self-assessment regime, transfer pricing analysis and documentation is required to help protect against penalties. If Tax Authorities request transfer pricing documentation, the taxpayer would typically have a deadline of 30 days in which to provide transfer pricing documentation.
- The OECD’s Master File and Local File concept is regarded as best practice. In addition, for larger groups (over €750m), Lithuania has implemented CbCR (Country by Country Reporting).
- The Lithuanian transfer pricing rules follow the OECD Guidelines as much as they do not contradict the Lithuanian TP rules.
Transfer pricing methods
- The most appropriate pricing method should be selected on a transaction by transaction basis, providing the most reliable measure of an arm’s length result in each case. The current OECD methods, namely the comparable uncontrolled price, resale price, cost plus, transactional net margin, and profit split methods are all accepted but the method used must be in line with the functional and risk profile of the entity. Other methods can also be used if justifiable and appropriate.
- While selecting the most appropriate transfer pricing method, a hierarchical approach, required by the Lithuanian transfer pricing regulations, must be applied, ie firstly the traditional methods must be applied (if possible), and preferably – comparable uncontrolled price (CUP) method.
- Lithuania has a self-assessment regime, where the onus is on the taxpayer to ensure that transfer pricing regulations are adhered to. Tax authorities require taxpayers to make computational adjustments in cases where transactions, as recorded in the statutory accounts, are not on an arm’s length basis and the taxpayer is potentially advantaged in respect of Lithuanian tax.
Transfer pricing documentation
Preparation of transfer pricing documentation
- Preparation of transfer pricing documentation are described in Order No. 1K-123 of the Minister of Finance of the Republic of Lithuania Chapter V.
- The Master File must be prepared if the company's (incl. a PE in Lithuania) turnover in the previous year exceeded 15,000,000 Eur.
- The Local File must be prepared if the turnover of the company (incl. a PE in Lithuania) in the previous year exceeded 3,000,000 Eur. The Local File must also be prepared, disregarding turnover, for financial and insurance undertakings.
Master and local file
- Master and Local file structure is mirroring that of the OECD TP guidelines.
- Transfer pricing documentation must be kept in accordance with the legal acts adopted by the Chief Archivist of Lithuania governing document archiving, but not less than five calendar years from the year of the controlled transaction.
Some risk factors for challenge
- Persistent losses, especially in low-risk entities
- Payments to tax havens and/or low tax jurisdictions
- High expenses to the benefit of related parties (management fees, interest etc.)
- Penalties in relation to transfer pricing documentation in Lithuania ranging from 1,820 EUR to 6,000 EUR (to the responsible individual, most often – to the head/manager of the company).
- In case the head/manager of the company receives a fine of more than 1,500 Eur, then such a company is automatically included in a public list of non-reliable taxpayers, with resulting reputational damage.
Economic analysis and how to demonstrate an arm’s length result
- Lithuanian Tax authorities will expect to see that a search for potential internal comparables has taken place before proceeding to an external database search for comparables.
- Local comparable companies are preferred, whilst EMEA or regional comparable companies can be accepted. The economic circumstances that determine the comparability of markets are geographical location, market size, overall competitive market position, level of demand and supply, etc.
- In the search and selection of comparative companies, the pricing documents shall specify:
- each step of this search
- quantitative and qualitative selection
- the criteria used for the selection of comparative data
- the reasons for including or excluding specific comparative data
- the list of selected and qualitative comparative data, (or) adjustments to comparative data.
Advance Pricing Agreements (APAs), dispute avoidance and resolution
- Lithuanian taxpayers have a possibility to apply for an APA from the tax authorities in respect of future transactions in order to avoid double taxation due to the possible actions by the tax administrator of another state. APA can also be bilateral.
- Bilateral APAs are strongly recommended over unilateral APAs, in order to mitigate risk from both countries’ perspective.
- APA request should be made to State Tax Inspectorate under the Ministry of Finance of the Republic of Lithuania.
- Master File is not mandatory if the company's (incl. a PE in Lithuania) turnover in the previous year was less than 15,000,000 Eur.
- Local File is not mandatory if the company’s (incl. a PE in Lithuania) turnover in the previous year was less than 3,000,000 Eur (except for financial and insurance undertakings, for which TP local file is mandatory disregarding revenue).
- If value of the controlled transaction (incl. group of similar transactions) does not exceed 90,000 Eur per year, then transfer pricing documentation is not required. This exemption does not apply for transactions with tax haven countries, for which TP local file is mandatory disregarding revenue.
Tax authorities and taxpayer behaviour
- Lack of documentation will be seen as non-compliance behavior and might result in a non-reliable tax payer status.
- Tax authorities declare increased focus to the area of compliance with transfer pricing rules and have already won several transfer pricing disputes against taxpayers in courts.
- The economic fallout of COVID-19 is likely to have widespread impact and an increase in TP audits is very likely. All MNCs should be reviewing their potential exposure to transfer pricing enquiries and updating documentation accordingly.
- Where supply chains have been disrupted or work brought to a halt due to lockdown measures, expected profits may not eventuate. Comparable companies will often have been affected in the exact same way as multinational groups, but evidence must be gathered and documented contemporaneously.