Transfer Pricing - February 23, 2021

ACPAPP: Allocation of COVID19 Related
Costs and Losses and Updates on Local

Regulations
23 February 2021
Carlo L. Navarro is currently Deloitte's Southeast Asia Education
(SEA) Transfer Pricing Leader and heads Deloitte's SEA
Transfer Pricing Centre located in Manila, Philippines. He • International Tax Law (2003-2004), Harvard Law
specializes in transfer pricing, international corporate School, Harvard University, Cambridge,
restructuring and planning, cross-border taxation, and Massachusetts, USA
tax-effective supply chain transformations. • Law (1993-1997), University of the Philippines
• Political Science (1989-1993), University of the
Before joining Deloitte, Carlo led transfer pricing and Philippines
international tax practices of Big 4 firms around
Southeast Asia. He has over 20 years of experience Awards and recognition
working in various jurisdictions in Southeast Asia as an
International Tax and Transfer Pricing practitioner, giving • Leading TP adviser in the Philippines (2017, 2019),
him practical experience in dealing with Tax Authorities Euromoney's Expert Guides, Guide to the World’s
of these countries. Leading Transfer Pricing Advisers.
• Transfer Pricing Firm of the Year, Philippines (2018,
He has assisted clients in various phases of transfer 2020), International Tax Review.
Carlo L. Navarro pricing engagements, from planning, documentation • Leading TP Adviser in Indonesia (2011, 2013 and
Southeast Asia Transfer Pricing Leader and audit defense to negotiating APAs and MAPs. He has 2015), Euromoney's Expert Guides, Guide to the
Partner, Deloitte Philippines an excellent reputation in handling transfer pricing World’s Leading Transfer Pricing Advisers.
Email: canavarro@deloitte.com audits and bilateral negotiations. • Transfer Pricing Firm of the Year, Indonesia (2016),
Tel: +63 2 8581 9035 International Tax Review.
As a recognized subject matter expert, he has published • Tax Controversy Leader, Indonesia (2014, 2015,
various articles in international tax journals, covering 2016) and Philippines (2017, 2018, 2019),
issues on permanent establishments, taxation and International Tax Review.
transfer pricing aspects of business restructuring, and
the latest developments in the area of transfer pricing in
Southeast Asia.
© 2021 Navarro Amper & Co. 2

Contents
I. What is Transfer Pricing?

II. Development of Transfer Pricing Rules in
the Philippines
III. COVID-19’s Impact on Transfer Pricing
and OECD’s Guidance On the Allocation
of Losses And Costs Relating to COVID-
19
IV. Revenue Regulation 19-2020 and 34-
2020

Transfer Pricing
What is Transfer Pricing? The Philippines’
transfer pricing
Supplier Consequently, rules seeks to
transfer pricing counter the
Thailand
will determine underpayment of
Transfer Pricing how much Philippine tax by
builds on the profit ends up in requiring related
Contract
Manufacturer appropriate each jurisdiction parties to deal at
allocation of and, therefore, arm’s length, to
Philippines
profitability how much tax is ensure the profit
CM agreement
among due in each is allocated to the
jurisdictions jurisdiction. appropriate
Principal
based on the jurisdiction,
Singapore pertinent having regard to
entities’ their functional
functions and profile in
In-country distributors risks. Philippines
Contractual arrangements
Legal title
© 2021 Navarro Amper & Co. Physical flows 4

Transfer Pricing Regulations in the Philippines
Development
Philippine Transfer Pricing Regulations
Timeline
National Internal Revenue Revenue Audit

Code of 1997 Sec. 50 Memorandum Order 1-2019
2013 2020
1997 2019
Revenue Regulations 2- Revenue Regulations 19-2020
2013
Revenue Memorandum Circular 76-2020
Revenue Memorandum Circular 98-2020
Revenue Regulations 34-2020

Legal Basis Brief summary / Purpose Effect / Taxpayer’s Obligation
• The Commissioner is authorized to distribute,

apportion or allocate gross income or
National Internal deductions between or among organizations
Revenue Code of ✓ Owned or controlled directly or
• Gives the BIR the power to make
indirectly by the same interests
1997 ✓ whether incorporated and whether or
adjustments for transfer pricing
not organized in the Philippines (“TP”) purposes.
Section 50 • In order to prevent evasion of taxes or clearly
to reflect the income of any such
organization, trade or business.
• Provides directions to taxpayers and the

Transfer Pricing • Requires the contemporaneous
BIR on the implementation of Section 50
Revenue preparation of Transfer Pricing
of the National Internal Revenue Code of
Regulation 2-2013 Documents (“TPD”).
1997
© 2021 Navarro Amper & Co. Preparation for Transfer Pricing Audits 7
• Provides procedures and guidelines for

• Provides much needed clarity on how conducting TP audit and for
Revenue Audit
the BIR will assess taxpayer compliance comparability analysis based on a list
Memorandum Order
with TP rules. The TP audit framework of criteria; and requires the
1 - 2019 accomplishment of TP Forms, when
covers nine chapters.
requested during audit.
• Requires taxpayers to file BIR Form

No.1709 and its required attachments
• Prescribes the use of the new BIR Form (including TPD) along with the filing of
taxpayers’ Annual Income Tax Returns
Revenue Regulations 1709 or Information Return on Related
(“AITR”). This applies to all taxpayers
19 - 2020 Party Transaction, replacing the BIR with related party transactions
Form 1702H. (“RPT”), as defined under the
Philippine Accounting Standards
(“PAS”)
• Provides answers to common

questions regarding RR 19-2020. This
includes the following highlights:
• TPD is a mandatory requirement
to be attached to Form 1709
• Addresses the frequently asked upon submission.
Revenue • All RPTs must be disclosed in
questions regarding the details and
Memorandum Form 1709, regardless whether a
procedures around Form 1709, and its price has been charged for those
Circular 76-2020
attachments pursuant to RR 19-2020. RPTs, including details not found
in the AFS (e.g., tax treatment for
the RPT)
• All the contracts substantiating
said RPTs must also be submitted
as attachments to Form 1709.
• Extension of deadlines for the submission of

• Advises taxpayers about the new
Revenue Form No. 1709 and pertinent attachments, as
deadlines for the submission of Form
Memorandum mandated by RR. 19-2020, to assist taxpayers
1709 depending on the taxpayers’ year
Circular 98-2020 due to adverse continuing COVID-19
end.
pandemic impacts.
• Prescribes the guidelines and procedures for

• Provides criteria for taxpayers who will
the submission of Form 1709 and preparation
Revenue Regulations be required to file Form 1709 and
of TPD by amending pertinent provisions of
34 - 2020 materiality thresholds for the
RR 19-2020 and providing materiality
preparation of TPD.
thresholds.
Summary
Transfer Pricing Requirements
How to comply Due Dates Penalties
For Fiscal Year Ending May January

31,2020 & June 30, 2020. 31, 2021
• Failure to File Form
For Fiscal Year Ending July March 1, 1709 and other
31,2020 & August 31, 2020 2021 documents, when
requested – 1,000 pesos
• Submit the form together with Annual for each failure. (Max of
BIR Form 1709 For Fiscal Year Ending
Income Tax Return (AITR). March 31, 25,000)
September 30, 2020 &
2021 • Penalty for Repetition
October 31, 2020
of Offense– Maximum of
For Fiscal Year Ending the penalty prescribed for
November 30,2020 & April 30, the offense shall be
Calendar Year Ending 2021 imposed.
December 31, 2020 • Failure to Obey
Summons for
negligence to produce
Must be prepared no later than the due needed documents -
• Prepare the TPD contemporaneously and, penalty of 5,000 to 10,000
Transfer Pricing date for filing the AITR and submitted to
when requested, submit it together with the pesos, with imprisonment
Documentation the tax authorities within 30 days upon
supporting documents. of one to two years.
request.
• Prepare the necessary TP Forms and other Five days from the date of request in
RAMO 1-2019 supporting documents in case the BIR will case of a Transfer Pricing audit.
© 2021 Navarro Amper & Co. audit the entity or the transactions. Preparation for Transfer Pricing Audits 11
Polling Question 1
When has the contemporaneous preparation of transfer pricing documentation been
required?
a. Beginning the release of RR 19-2020
b. Beginning the release of RR 2-2013
c. Beginning the release of RR 1-2019
d. Beginning the release of RMC 98-2020
Overview of COVID-19’s
Economic Impact
© 2020 Navarro Amper & Co. All rights reserved. Preparation for Transfer Pricing Audits 13
COVID-19’s impact on the global economy
The pandemic will affect economic activity in many ways, including:
Decline in demand Global supply chain disruptions Liquidity constraints

In East Asia and the Pacific, it is forecasted More than 200 of the Fortune Global 500 The drop in revenue levels for most
that up to 11 million people will be driven firms have presence in Wuhan, the original industries due to disruption in operations
into poverty due to COVID-19, which will epicenter of the virus. Due to the closure has led to cash and working capital issues.
cause a negative effect on their consumption of plants in impacted areas and the Consequently, receivable collections from
practices, and may decrease demand for restrictions on logistics, raw materials were customers have also been delayed.
non-essential goods by as much as 60 unable to reach manufacturing companies
percent. in order to stimulate production. However,
Southeast Asia is expected to significantly
benefit from the shift in supply chain owing
to the trade disruptions in China.

COVID-19’s impact on
Transfer Pricing
15
OECD’s Guidance On Losses And Allocation Of Covid-19 Specific Costs
There is a need to consider Associated parties may

The allocation of risks between
how exceptional, non-recurring consider whether they have the
the parties affects how profits
operating costs arising as a option to apply force majeure
or losses resulting from the
result of COVID-19 should be clauses, revoke or otherwise
transaction are allocated at
allocated between associated revise their intercompany
arm’s length.
parties. agreements.
Costs should be allocated This may impact the

The existing guidance on the based on how independent allocation of losses and
analysis of risks in commercial enterprises under comparable COVID-19 specific costs
or financial relations will be circumstances operate. between associated parties,
relevant for determining how and require specific
losses are allocated between consideration of the current
associated parties. economic environment.
As extraordinary costs may be
either operating or non-
operating items, comparability
adjustments may be needed
to improve the reliability of a
comparability analysis.

Impact of COVID-19: Cross-industry implications
General
The pandemic will impact the business models of
some industries/sectors in different ways but
some common observations can be made among
all industries and sectors that include but are not
limited to:
✓ Change in transfer prices due to sharp

decline in demand
✓ Movement of functions and risks due to
supply chain disruptions
✓ Limited financing due to liquidity
constraints of companies

Case Studies
18
Characterization
Limited Risk Entities
Generally, entities should

be sufficiently remunerated
Remuneration based on the functions they
perform and the risks they
assume
Limited Risk Entities / Routine

Entities
These are entities that perform

routine functions and thereby
assume limited risk. Accordingly,
they are entitled to a routine
return or stable mark-up
Functions & Risks

Characterization
Toll Manufacturer Contract Manufacturer Limited Risk Distributor
• Outsourced manufacturer that
produces goods for a Principal. The • Outsourced manufacturer that produces
• Distributor of products
volume, specification, and technology goods for a Principal. The volume,
Definition under a sales contract
are based on the Principal’s instructions. specification, and technology are based
with the Principal
• Principal provides and owns the raw on the Principal’s instructions.
materials and finished goods produced
• Produces finished goods for the • Produces finished goods for the Principal • Purchases goods from
Principal • Principal owns intangibles used in Principal upon receipt of
• Principal owns intangibles used in production sales order from
production • Buys raw materials on own account and customer
Functions
• Principal buys raw materials, but holds title and bears inventory risk until • Takes “flash title” to the
physical flow is directly to manufacturer goods are bought by the Principal goods it sells due to
• Principal holds title to the goods • Most of the time Principal will guarantee regulatory requirements
throughout the manufacturing process to buy all the goods manufactured
• Inventory risk
• Production risk
Risks • Production risk • Debtors are reimbursed
• Inventory risk
by the Principal
Remuneration Stable return throughout the years

Can entities operating under limited risk arrangements incur losses?
Though the term “limited-risk” is commonly used, the functions performed, assets used and risks assumed
by “limited-risk” entities vary, and therefore it is not possible to establish a general rule that entities so-
described should or should not incur losses.
It is necessary to consider the facts and

If a prior risk allocation will be updated, such new risk allocation must be supported by
circumstances when determining
an analysis of all the facts and circumstances and relevant evidence should be obtained
whether a so-called “limited-risk” entity
and documented to substantiate the position
could incur losses at arm’s length.
Determination of losses at arm’s length: Consistency of positions: Rationale for the change in risks:
The extent of the loss that may be Consideration should be given to When considering the risks assumed, tax
earned at arm’s length will be whether a taxpayer is taking inconsistent administrations should carefully consider
determined by the conditions and the positions pre- and post-pandemic and, if the commercial rationale for any
economically relevant characteristics of so, whether either position is consistent purported change in the risks assumed
the related-party transaction compared with the accurate delineation of the by a party before and after the outbreak
to those of comparable transactions. transaction. of COVID-19.

Case Study
Normal Operations for a Contract Manufacturer
Background
TH Co. PH Co., a contract manufacturer based in the Philippines, procures raw materials from its
(Thailand) related party in Thailand, TH Co. PH Co. uses the raw materials for its manufacture of car
parts.
Thailand
PH Co. and its Principal based in Singapore entered into a long-term sales contract, pursuant
to which Principal agrees to purchase finished goods (“FG”) from PH Co. at a cost plus 10
PH Co.
percent mark-up. PH Co. performs quarterly true up or true down adjustment of margins
(Philippines)
Principal owns the patent for the manufacture of the FG. It also owns the trade mark which
Philippines is placed on the FG.
CM agreement
Under its long-term sales agreement with PH Co., Principal agrees to provide a royalty-free
license of the patent and trade mark to PH Co., permitting PH Co. to manufacture the FG and
Principal
(Singapore) to place the trade mark on the FG.
Singapore The Principal forecasts a certain number of units per year and PH Co. built its facilities to
accommodate the number of units that the Principal dictates. Additionally, the Principal also
provides the specifications of the products to be produces.
In-country distributors
After completion of the manufacturing process, the FG are stored by PH Co. for several days,
and are then exported pursuant to Principal’s instructions.
Legal title
Physical flows
Title to the FG passes to Principal upon loading at dock.
Case Study
Normal Operations for a Contract Manufacturer
Statement of Profit/(Loss) In line with the
TH Co. pricing policy,
(Thailand) 2019 2018
the NCPM of
Thailand Revenue 689,168,806 664,249,446 routine/limited
Units sold: 190,273 183,393 risk entities
Cost of sales (470,122,784) (454,931,744) remain constant
PH Co. Gross profit 219,046,022 209,317,702 during normal
(Philippines) operations
Operating expenses: (153,191,100) (148,375,100)
Philippines Depreciation 2,976,400 2,976,400
Factory rent 12,500,000 12,500,000
CM agreement Office salaries 3,278,000 3,278,000
Security 1,245,600 1,245,600
Principal Utilities 76,109,200 73,357,200
(Singapore) Repairs and maintenance 38,054,600 36,678,600
Miscellaneous 19,027,300 18,339,300
Singapore
Operating profit 65,854,922 60,942,602
In-country distributors Net Cost Plus Margin (“NCPM”)

2019 2018
Total costs 623,313,884 603,306,844
Legal title
Physical flows NCPM 10.57% 10.10%
Case Study
COVID-19 Impact on a Contract Manufacturer
Statement of Profit/(Loss) The following changes occurred in 2020 due to COVID-19:
2020 2019 2018 A. Decline in Demand
Revenue 398,578,563 689,168,806 664,249,446
There has been a decrease in the market demand for the
Units sold: 100,531 190,273 183,393 Principal’s products resulting to a decrease in PH Co.’s sales.
Cost of sales (316,397,470) (470,122,784) (454,931,744)
B. Operational Disruption
Gross profit 82,181,093 219,046,022 209,317,702 From March until May 2020 when the lockdown was
Operating expenses: (104,455,720) (153,191,100) (148,375,100) imposed, PH Co. closed its manufacturing facility and stopped
Depreciation 2,976,400 2,976,400 2,976,400
Factory rent 12,500,000 12,500,000 12,500,000
the production of goods. PH Co. resumed production in June,
Office salaries 3,278,000 3,278,000 3,278,000 though production level was significantly low due to
Security 1,245,600 1,245,600 1,245,600
Utilities 48,260,400 76,109,200 73,357,200 inefficiencies brought about by the community quarantine.
Repairs and maintenance 24,130,200 38,054,600 36,678,600
Miscellaneous 12,065,120 19,027,300 18,339,300 C. Change in Procurement Function
Operating profit (22,274,627) 65,854,922 60,942,602 Due to the lockdown and the restrictions imposed by the
government, PH Co. was not able to purchase its materials
Net Cost Plus Margin (“NCPM”) from TH Co. As such, PH Co. sourced its materials from a local
2020 2019 2018 third-party supplier resulting in additional costs on its direct
Total costs 420,853,190 623,313,884 603,306,844 material purchases.
NCPM -5.29% 10.57% 10.10%

Case Study
Decline in Demand
There was a decrease in demand for the Principal’s products resulting to a decrease in PH Co.’s sales.
• As the demand for the Principal’s Statement of Profit/(Loss)

products decreased in Singapore or 2020 2019 2018
world market, the Principal had to
Revenue 398,578,563 689,168,806 664,249,446
reduce its purchases from PH Co.
Units sold: 100,531 190,273 183,393
• In 2020, the Principal’s purchases from
Change in units sold (47.16%) 4.75%
PH Co. decreased by 47%.

Polling Question 4
With the decline in demand, which relevant risks materialized and which entity should bear
the risk?
a. Production risk to be borne by Contract Manufacturer
b. Market risk to be borne by the Contract Manufacturer
c. Production risk to be borne by Principal
d. Market risk to be borne by Principal

Case Study A
Decline in Demand
There was a decrease in demand for the Principal’s products resulting
to a decrease in PH Co.’s sales.
Scenario A: CM was NOT informed by Principal of decline in
Decline in Demand for FY2020
demand because Principal did not change the forecast for 2020.
Scenario A Scenario B Scenario C Scenario B: CM was informed by Principal of decline in demand
Units Produced 140,250 140,250 100,531 by decreasing the forecast for 2020. However, CM did not adjust
Units Sold 100,531 100,531 100,531
its production.
Scenario C: CM was informed by Principal of decline in demand
Revenue 398,578,563 398,578,563 398,578,563
by decreasing the forecast for 2020. Accordingly, CM adjusted its
Cost of sales: 316,397,470 316,397,470 271,972,448 production by managing its efficiency.
Variable cost (VC) of sales 266,397,470 266,397,470 221,972,448
Fixed cost of sales 50,000,000 50,000,000 50,000,000 Variable Cost per Unit
Operating expenses: 104,455,720 104,455,720 90,371,700 Scenario A Scenario B Scenario C
Variable operating expenses 84,455,720 84,455,720 70,371,700
Fixed operating expenses 20,000,000 20,000,000 20,000,000 Total VC 350,853,190 350,853,190 292,344,148
Total Expenses 420,853,190 420,853,190 362,344,148 Units sold 100,531 100,531 100,531
Operating Profit (22,274,627) (22,274,627) 36,234,415 VC per Unit 3,490 3,490 2,908*
NCPM -5.29% -5.29% 10.00%
*Having known the decrease in forecast, CM managed to lower the VC per
© 2021 Navarro Amper & Co.
unit by being more efficient in its operations 27
Polling Question 5
Under Scenario A, loss arising from the decline in demand should be borne by the:
a. Principal
b. Contract Manufacturer
c. Shared by Principal and Contract Manufacturer
d. None of the Above

Case Study A
Decline in Demand – Scenario A
There was a decrease in demand for the Principal’s products resulting to a
decrease in PH Co.’s sales.
Scenario A: CM was NOT informed by Principal of
decline in demand because Principal did not change
Scenario A Adjustments After adjustment the forecast for 2020.
Revenue 398,578,563 64,359,946 462,938,509* ✓ Principal should bear the cost of excess
production since it did not inform the CM of the
Cost of sales: 316,397,470 316,397,470 decline in demand. Adjustments need to be made
Variable cost of sales 266,397,470 - 266,397,470 on CM’s profitability.
Fixed cost of sales 50,000,000 50,000,000
Operating expenses: 104,455,720 104,455,720 Conclusion:
Variable operating expenses 84,455,720 - 84,455,720
✓ Based on a pricing policy of cost plus a mark-up of
Fixed operating expenses 20,000,000 20,000,000
10 percent, CM should be remunerated at the said
Total Expenses 420,853,190 420,853,190 mark-up.
Operating profit (22,274,627) 64,359,946 42,085,319 ✓ Hence, adjustments to the revenue of the CM
amounting to PHP64,359,946 should be made and
NCPM -5.29% 10.00%
paid for by the Principal.
*420,853,190 x 110% POV of Principal: For risk mitigation, the same ✓ This adjustment will be reflected in the CM’s ITR
adjustment will be shown in the Principal’s TPD and TPD.
Polling Question 6
Under Scenario B, which risk caused the loss and who should bear the loss:
a. Market risk to be borne by the Principal
b. Production inefficiency risk to be borne by the Contract Manufacturer
c. Both market and production inefficiency risks to be shared by Principal and Contract Manufacturer

Case Study A
Decline in Demand – Scenario B
There was a decrease in demand for the Principal’s products resulting to a
decrease in PH Co.’s sales.
Scenario B: CM was informed by Principal of decline
in demand by decreasing the forecast for 2020.
Scenario B Adjustments After adjustment However, CM did not adjust its production.
VC per unit 3,490 582 2,908 ✓ If CM did not alter its production volume despite
Revenue 398,578,563 398,578,563 the information provided by the Principal, the CM
should bear the cost of the excess production
Cost of sales: 316,397,470 271,972,448 since it was informed by the Principal of the
Variable cost of sales 266,397,470 44,425,022 221,972,448 decline in demand beforehand.
Fixed cost of sales 50,000,000 50,000,000
Operating expenses: 104,455,720 90,371,700 Conclusion:
Variable operating expenses 84,455,720 14,084,020 70,371,700
Fixed operating expenses 20,000,000 20,000,000 ✓ Had the CM managed its production by being
more efficient considering the decline in forecast,
Total Expenses 420,853,190 362,344,148 the VC per unit may have been reduced to
Operating profit (22,274,627) 58,509,042 36,234,415 PHP2,908 per unit.
NCPM -5.29% 10.00% ✓ The adjustment will not be passed on to the
Principal but documented in the CM’s TPD.
Adjustments on the variable expenses need to be
© 2021 Navarro Amper & Co. made in the CM’s TPD to justify the cause of losses. 31
Case Study A
Decline in Demand – Scenario C
There was a decrease in demand for the Principal’s
products resulting to a decrease in PH Co.’s sales.
Decline in Demand for FY2020 Scenario C: CM was informed by Principal of decline in demand by
Scenario C decreasing the forecast for 2020. Accordingly, CM adjusted its
production by managing its efficiency.
Units Produced 100,531
✓ CM had the chance to alter its production based on the revised
Units Sold 100,531
forecast, therefore it produced the ideal amount of goods for the
VC per unit 2,908 year and became more efficient. Effectively, it resulted to a stable
Revenue 398,578,563 profit margin in 2020.
Cost of sales: 271,972,448 ✓ No adjustments necessary on CM’s profitability.
Variable cost of sales 221,972,448
Fixed cost of sales 50,000,000
Operating expenses: 90,371,700
Variable operating expenses 70,371,700
Fixed operating expenses 20,000,000
Total Expenses 362,344,148
Operating profit 36,234,415
NCPM 10.00%

Cost Allocation
How should operational or exceptional costs arising from COVID-19 be allocated between related parties?
• Allocation of operating or exceptional costs would follow risk assumption and how third parties would
treat such costs (e.g., if excessive costs are incurred due to operational disruptions during the
pandemic).
• In order to determine which associated enterprise should bear such exceptional costs it would be first
necessary to accurately delineate the controlled transaction, to decide:
• Who has the responsibility for performing activities related to such costs?; and
• Who assumes risks related to such activities?

Case Study B
Operational Disruption
The lockdown imposed by the Philippine Government affected PH Co.’s manufacturing operations.
Disruption in
Decline in number of
operations resulting
laborers reporting to
to underutilized
the office
capacity

Polling Question 7
Which party shall bear the losses on account of the disruption in PH Co.’s operations
resulting to the decline in the number of laborers reporting to the office and underutilized
capacity?
a. Principal
b. PH Co. (i.e., the contract manufacturer)
c. Shared by both the principal and PH Co.
d. Neither the principal nor PH Co.

Case Study B
Operational Disruption – Decline in number of laborers reporting to office
The lockdown imposed by the Philippine Government affected PH Co.’s
manufacturing operations.
Reference Normal COVID-19 Difference Decline in number of laborers

Total number of A 1000 1000 - • From March to May 2020, PH Co. closed its
workers manufacturing facility and stopped the
production of goods. Subsequently, workers
Number of workers B 960 503 457
had alternating schedules such that there was
who report to office
at a given period only 50% of the workers at the office at any
given time.
Labor utilization C=B/A 96% 50.3% 45.7%
• At the end of the year, the average number of
Fixed labor cost D 40,000,000 40,000,000* - workers who reported to office at a given
period was only 50.3 percent of its total
Labor cost based on E=D*C 38,400,000 20,120,000 18,280,000
number of employees. Hence, a portion of PH
utilization
Co.’s fixed labor costs were underutilized.
*All employees of PH Co. are still paid for their fixed salaries despite some not
being able to report to work.
✓ Adjustments on labor costs would have to be made

Case Study B
Operational Disruption – Capacity Utilization
The lockdown imposed by the Philippine Government affected PH Co.’s
manufacturing operations.
Reference Normal COVID-19 Difference Underutilized capacity

Installed capacity A 200,000 200,000 - • Due to the decrease in the number of laborers
reporting to office, PH Co.’s capacity utilization rate
Production B 192,000 100,531 89,742
for its fixed costs in 2020 (50.3%) fell below its
Capacity utilization C=B/A 96.0% 50.3% 45.7% average utilization rate (96.0%).
Total fixed costs D=E+F 30,000,000 30,000,000 • As such, a capacity adjustment may be made to
Fixed overhead* E 10,000,000 10,000,000 - decrease the impact of PH Co.’s significantly low
Fixed OPEX F 20,000,000 20,000,000 utilization rate for 2020.
Fixed cost utilization G=D*C 28,800,000 15,079,650 13,720,350
*excluding fixed labor cost of 40,000,000
✓ Adjustments on capacity utilization would have to be made

Case Study B
Operational Disruption
Cost Breakdown Statement of Profit/(Loss)
2020 2020
Cost of sales: 271,972,448 Revenue 364,123,282
Variable cost of sales 221,972,448
Adjusted total costs (330,343,798)
Fixed cost of sales 50,000,000
Adjusted operating profit 33,779,484
Operating expenses: 90,371,700
Variable operating expenses 70,371,700 Adjusted NCPM 10.23%
Fixed operating expenses 20,000,000
Unadjusted total costs 362,344,148 Adjustments
Adjustments (32,000,350) Food PH Co.’s operating profit has been
Labor adjustment (18,280,000) adjusted for the following:
Capacity utilization adjustment (13,720,350) • Decline in number of laborers reporting
Adjusted total costs 330,343,798 to the office
• Disruption in operations resulting to
underutilized capacity

Exceptional costs arising from COVID-19
Comparability Analysis
When performing a comparability analysis, it may be necessary to specifically
Tested
consider how exceptional costs arising from COVID-19 should be taken into account. Party
• Exceptional costs should generally be excluded from the net profit indicator, except
when those costs relate to the controlled transaction.
Comparable
• The exclusion of exceptional costs must be done consistently at the level of the company A
tested party and the comparables to ensure a reliable outcome.
• Consider whether the cost basis should include or exclude exceptional costs and, if
Comparable
included in the costs basis, whether such costs should or should not be treated as company B
pass-through costs to which no profit element should be attributed.
• Adjustments for accounting consistency may be required to improve comparability

but this should be considered if and only if they are expected to increase the Comparable
company C
reliability of the results of a comparability analysis.

Case Study C
TH Co.
Under what circumstances may arrangements be modified to address the
(Thailand) consequences of COVID-19?
Thailand
• In response to the COVID-19 pandemic, independent parties may consider revising
certain terms in their existing agreements and/or their conduct in their commercial
PH Co. relationships.
(Philippines)
Philippines • Determining whether a renegotiation of a commercial arrangement represents the

CM agreement
best interests of the parties to a transaction requires consideration of their options
realistically available and the long-run effects on the profit potential of the parties.
Principal
(Singapore)
• Tax administrations should review the agreements and/or the conduct of associated
Singapore enterprises together with observations of relevant behavior of independent parties.
• In the absence of clear evidence that independent parties in comparable

In-country distributors circumstances would have revised their existing agreements or commercial relations,
the modification of existing intercompany arrangements and/or the commercial
relationships of associated parties is not consistent with the arm’s length principle.
Legal title

Case Study C
Change in Procurement Function TH Co.
Local third-party
supplier
(Thailand)
Due to the lockdown and the (Philippines)
restrictions imposed by the Thailand
government, PH Co. was not able to

purchase its materials from TH Co. PH Co. PH Co.
(Philippines) (Philippines)
Philippines Philippines
As such, PH Co. sourced its materials
CM agreement CM agreement
from a local supplier resulting in
additional costs on its direct material Principal Principal
(Singapore) (Singapore)
purchases.
Singapore Singapore
In-country distributors In-country distributors
Legal title

Case Study C
Change in Procurement Function – Higher cost of materials from the Philippines
Material Purchase Price per Unit Statement of Profit/(Loss)

Cost of Direct Materials
(in PHP)
Normal COVID-19
TH Co. 720 72,282,320
Revenue 364,123,282 364,123,282
Local third-party supplier 870 87,461,970 Units sold: 100,531 100,531
Difference (150) (15,179,650) Cost of sales (239,299,873) (254,379,523)
Direct materials 72,382,320 87,461,970
Since PH Co. is performing the procurement function, any Direct labor 95,806,043 95,806,043
additional costs on the materials are borne by PH Co. Likewise, Variable overhead 21,111,510 21,111,510
should it result to savings, the savings are attributable to PH Fixed overhead 50,000,000 50,000,000
Co. as well. Gross profit 124,823,409 109,743,759
GP Margin @ cost 52.16% 43.14%
✓ No adjustments need to be made on PH Co.’s
financials. • Reduction in profits due to movement in functions,
risks, and/or assets (FRA) is acceptable as long as there
is an actual transfer of FRA. This does not necessarily
result to business restructuring.

Polling Question 8
Given the movement in the procurement function to the Philippines, should PH Co. record
the additional profitability from performing procurement, if any?
a. Yes, because PH Co. assumes procurement functions.
b. Yes, because PH Co. bought the goods directly.
c. No, because SG Co. traditionally performed procurement.
d. No, any additional profitability should not be borne by any of the parties.

Case Study C
Change in Procurement Function – Lower cost of
materials from the Philippines
Material Purchase Price per Unit Statement of Profit/(Loss)
Cost of Direct Materials
(in PHP)
Normal COVID-19
TH Co. 720 72,282,320
Revenue 364,123,282 364,123,282
Local third-party supplier 670 67,262,714 Units sold: 100,531 100,531
Difference 50 5,019,606 Cost of sales (239,299,873) (234,180,267)
Direct materials 72,382,320 67,262,714
Since PH Co. is buying materials directly from the supplier, it Direct labor 95,806,043 95,806,043
was able to reduce its cost by PHP50. Variable overhead 21,111,510 21,111,510
Fixed overhead 50,000,000 50,000,000
✓ Under normal situation, TH Co. typically buys the materials
for PHP670 from its supplier. Hence, the profit earned by Gross profit 124,823,409 129,943,015
TH Co. has shifted to Food PH Co., in the form of savings, GP Margin @ cost 52.16% 55.49%
leading to higher profitability of PH Co.
✓ Effectively, TH Co.’s profit of PHP5,019,606 (or PHP50 per ✓ No adjustments need to be made on Food PH
unit) from procurement has moved to Food PH Co. Co.’s financials.

Key takeaways
Taxpayers may mitigate their transfer pricing risks from the COVID-19
pandemic by:
• Evaluating which risks or functions were affected by COVID-19
pandemic and assessing if there are any changes or shifts in functions
and risks;
• Collecting proof of any changes or shifts in the functions and risks and
documenting any shifts or changes in functions or risks in the related
party contract or agreement;
• Amending the transfer prices in the agreement to reflect the new
allocation of functions and risks;
• Revising the TPD to reflect any changes in the functions and risks, while
taking note of the rationale for the change in risks and the consistency
of the positions before and after the pandemic;
• Quantifying the economic impact of the pandemic in the TPDs which
will explain any reduction in profitability

RR 19-2020 and RR 34-2020
Form 1709 and Transfer Pricing Documentation
46
RR 19-20
BIR Form 1709: Information return on related party transactions
Background
• On 8 July 2020, the BIR released Revenue Regulations No. 19-2020 (“RR 19-20”). The regulation requires the
mandatory submission of BIR Form No. 1709: Information Return on Related Party Transactions (Domestic
and/or Foreign) (“Form 1709”) and its required attachments along with the filing of taxpayers’ Annual Income
Tax Returns (“AITR”). Form 1709 will serve as a TP risk assessment tool for the BIR to identify taxpayers that
are due for a TP audit.
• The effective implementation of Philippine Accounting Standard (“PAS”) 24 is being pushed by the BIR to
ensure that related party transactions (“RPT”) are conducted at arm’s length and disclosed properly.
• The main point of the BIR is to detect RPTs affecting company profitability which may not have been disclosed
in the Audited Financial Statements. Further, streams of income between related parties may not be taxed in
the Philippines or any other place, thereby causing double non-taxation which creates transfer pricing issues.

RR 34-20
BIR Form 1709: Information return on related party transactions
Background
• On 18 December 2020, the BIR has issued Revenue Regulations No. (RR) 34-2020, which prescribes the
revised guidelines and procedures for the submission of BIR Form No. 1709, or Transfer Pricing
Documentation and other supporting documents.
• The main point of the BIR is to improve and strengthen the Bureau’s transfer pricing risk assessment and
audit functions.
• RR 34-2020 was based on the recommendations made by several taxpayers as RR 19-20 was causing undue
burden to small taxpayers or taxpayers with minimal related party transactions.

RR 19-2020 and RR 34-20
What are the changes?
• RR 34-2020 prescribes thresholds for taxpayers which will be required to prepare and submit Form
1709. Moreover, taxpayers required to submit Form 1709 are required to prepare a TPD if they breach
any of the materiality thresholds.
• The TPD and other attachments prescribed in RR 19-2020 are no longer required to be attached to
Form 1709 according to RR 34-2020. It should, however, be submitted within 30 days from the date of
request pursuant to a Letter of Authority, subject to extension for another 30 days.
• Under RR 34-2020, Key Management Personnel (“KMPs”) are not required to file Form 1709. Their
related parties are also not required to disclose transactions with KMPs.
• There is no requirement to disclose transactions covered by Advanced Pricing Agreements (“APAs”) in
the new Form 1709.
• Taxpayers that are not required to file Form 1709 must disclose this fact in the audited financial
statements.

RR 19-2020 and RR 34-20
With immediate effect, RR 34-2020 prescribed a new simplified form. The following are the significant changes
introduced in the new form in comparison to the old form:
RR 19-2020 RR 34-2020
RPTs must be disclosed per relationship basis. RPTs must be disclosed per transaction basis.
All RPTs are required to disclose similar information (i.e., Aside from loans, other RPTs are no longer required to
amount, outstanding balance, terms, conditions, disclose outstanding balance, terms, conditions,
provision for doubtful debts, expense recognized). provision for doubtful expense and bad debt expense.
Moreover, loans are now required to disclose its opening

balance, closing balance and amounts granted/received
during the year.
Dividends and transactions with KMPs are required to be Compensation to KMPs, dividends, and branch profit
disclosed. remittances are excluded from the RPTs that need to be
disclosed in Form 1709.

RR 19-2020 and RR 34-20
RR 19-2020 RR 34-2020
All RPs are required to disclose their complete address. Only domestic RPs are required to disclose their
complete address.
There is no prescribed currency when reporting the There is a column requiring the disclosure of the
amounts. amounts in Philippine Pesos. If applicable, amounts in
foreign currency may be disclosed too.
A brief business overview of the ultimate parent A brief business overview of the ultimate and immediate
company is required parent/s is required
The TPD is required to be attached to Form 1709. The TPD is not required to be attached to Form 1709 but
it requests for a confirmation that a TPD has been
prepared.

Criteria for the Submission of Form 1709
RR 34-2020
a. Large Taxpayers
b. Taxpayers Subject to Incentives
c. Taxpayers Incurring Net Loss
Related Parties of (a), (b) or (c)

d.

Are you required to file Form 1709?
Criteria for BIR Form 1709 submission under RR 34-2020

How to Assess the Criteria?
BIR Form 1709 under RR 34-2020
• Large Taxpayers would be classified as such under Revenue Regulations
No.1-1998 (RR No. 1-98) and would have received notification from the BIR.
a.) Large Taxpayers These are taxpayers falling under the jurisdiction of the Large Taxpayers
Division of the BIR.
• These are taxpayers that are Board of Investments (BOI)-registered,

b.) Taxpayers subject to incentives economic zone enterprises, those enjoying Income Tax Holiday (ITH) or
subject to preferential tax rate.
c. ) Taxpayers incurring net operating • A net operating loss exists if the deductions are greater than the gross
losses in the current taxable year and income.
2018 2019 2020
two immediately preceding
consecutive taxable years current taxable year
d.) Related parties with transactions • Those related parties that have transactions with entities who are a large
with (a), (b), or (c) taxpayer, enjoying tax incentives, or incurring net operating loss.

Polling Question 2
Who among the following are required to file Form 1709 for the year ended 2020?
a. Entity who suffered net loss in 2017
b. Entity enjoying income tax holiday
c. Entity who satisfied the conditions prescribed in RR.No.1-98 as a large taxpayer but did not receive any notification from
the BIR

Are you required to prepare TPD?
Criteria for TPD preparation under RR 34-2020

How to Assess?
Criteria of Transfer Pricing Documentation under RR 34-2020
a.) Taxpayers with gross sales For purposes of calculating this threshold, the following shall be
revenue that exceeds P150 million included:
and total related party
• All amounts received and receivable or paid and payable from
transactions (RPTs) that exceed related parties, excluding dividends, payments to KMPs, and
P90 million branch profit remittances
• Outstanding balances of loans and non-trade amounts
• RPTs covered by APAs

How to Assess?
Unlike in criteria (a), the outstanding balances

b.) RPTs that meet the following thresholds: are not to be considered in this criterion.
i. Sale of tangible goods that exceeds P60 The word “other related party transactions”
million includes all other transactions except sales from
tangible goods, compensation paid to key
ii. Aggregate service, interest, royalty, and management personnel, dividends, branch
other related party transactions that exceed profit remittances.
P15 million

How to Assess?
c.) Taxpayers required to prepare a TPD in For example, taxpayers who are required to
the immediately preceding year for prepare TPD for taxable year 2020 are required
exceeding the threshold prescribed in (a) to prepare TPD for taxable year 2021.
or (b)

Polling Question 3
When an entity does not satisfy any conditions for the preparation of TPD, are they still
required to prepare any documentation?
a. Yes, since it still needs to support its arm’s length position
b. No, since it does not satisfy any conditions prescribed in RR 34-2020
c. It depends

Frequently Asked Questions
When does RR 34-2020 takes effect?
RR 34-2020 takes effect immediately upon publication in a newspaper of general circulation last December 2020.
Are there any other additional disclosures?
Taxpayers that are not required to file Form 1709 must disclose this fact in the audited financial statements but
no format has been prescribed as of date.
When is short annual income tax returns (i.e. entities who undergo a change in accounting period) required to file?
Taxpayers who are required to file short annual income tax returns (AITRs) will be required to file Form 1709
beginning 2021. Example, if an entity changed it's year end from December 2021 to March 2022, it should still
file a short period ITR for December 2021 to March 2022 and accordingly file Form 1709 for that period.
Are small family corporations required to file BIR Form 1709 and TPD?
Small family corporations no longer need to comply with the submission of BIR Form 1709 and TPD.

Summary
Transfer Pricing Requirements
How to comply Due Dates Penalties
For Fiscal Year Ending May January 31,
31,2020 & June 30, 2020. 2021 • Failure to File Form 1709
and other documents,
For Fiscal Year Ending July March 1, when requested – 1,000
31,2020 & August 31, 2020 2021 pesos for each failure.
• Submit the form together with Annual For Fiscal Year Ending (Max of 25,000)
BIR Form 1709 March 31,
Income Tax Return (AITR). September 30, 2020 & • Penalty for Repetition of
2021
October 31, 2020 Offense– Maximum of the
For Fiscal Year Ending penalty prescribed for the
November 30,2020 & April 30, offense shall be imposed.
Calendar Year Ending 2021 • Failure to Obey Summons
December 31, 2020 for negligence to produce
needed documents -
Must be prepared no later than the due penalty of 5,000 to 10,000
• Prepare the TPD contemporaneously and,
Transfer Pricing date for filing the AITR and submitted to pesos, with imprisonment
when requested, submit it together with the
Documentation the tax authorities within 30 days upon of one to two years.
supporting documents.
request.
• Prepare the necessary TP Forms and other Five days from the date of request in case
RAMO 1-2019 supporting documents in case the BIR will of a Transfer Pricing audit.
audit the entity or the transactions.
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DTTL (also referred to as “Deloitte Global”) and each of its member firms and related entities are legally separate and independent entities, which cannot obligate or bind each other in
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This communication contains general information only, and none of Deloitte Touche Tohmatsu Limited (“DTTL”), its global network of member firms or their related entities
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© 2021 Navarro Amper & Co.

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ACPAPP: Allocation of COVID19 Related

Costs and Losses and Updates on Local

© 2021 Navarro Amper & Co. 2

I. What is Transfer Pricing?

© 2021 Navarro Amper & Co. 3

© 2021 Navarro Amper & Co. Physical flows 4

National Internal Revenue Revenue Audit

Revenue Memorandum Circular 98-2020

Revenue Regulations 34-2020

• The Commissioner is authorized to distribute,

• Provides directions to taxpayers and the

• Provides procedures and guidelines for

• Requires taxpayers to file BIR Form

• Provides answers to common

• Extension of deadlines for the submission of

• Prescribes the guidelines and procedures for

For Fiscal Year Ending May January

a. Beginning the release of RR 19-2020

b. Beginning the release of RR 2-2013

c. Beginning the release of RR 1-2019

d. Beginning the release of RMC 98-2020

Decline in demand Global supply chain disruptions Liquidity constraints

© 2021 Navarro Amper & Co. 14

There is a need to consider Associated parties may

Costs should be allocated This may impact the

© 2021 Navarro Amper & Co. 16

✓ Change in transfer prices due to sharp

© 2021 Navarro Amper & Co. 17

Generally, entities should

Limited Risk Entities / Routine

These are entities that perform

Functions & Risks

© 2021 Navarro Amper & Co. 19

Remuneration Stable return throughout the years

It is necessary to consider the facts and

© 2021 Navarro Amper & Co. 21

In-country distributors Net Cost Plus Margin (“NCPM”)

© 2021 Navarro Amper & Co. 24

• As the demand for the Principal’s Statement of Profit/(Loss)

© 2021 Navarro Amper & Co. 25

a. Production risk to be borne by Contract Manufacturer

b. Market risk to be borne by the Contract Manufacturer

c. Production risk to be borne by Principal

d. Market risk to be borne by Principal

© 2021 Navarro Amper & Co. 26

c. Shared by Principal and Contract Manufacturer

d. None of the Above

© 2021 Navarro Amper & Co. 28

a. Market risk to be borne by the Principal

b. Production inefficiency risk to be borne by the Contract Manufacturer

d. None of the Above

© 2021 Navarro Amper & Co. 30

© 2021 Navarro Amper & Co. 32

© 2021 Navarro Amper & Co. 33

© 2021 Navarro Amper & Co. 34

b. PH Co. (i.e., the contract manufacturer)

c. Shared by both the principal and PH Co.

d. Neither the principal nor PH Co.

© 2021 Navarro Amper & Co. 35

Reference Normal COVID-19 Difference Decline in number of laborers

✓ Adjustments on labor costs would have to be made

© 2021 Navarro Amper & Co. 36

Reference Normal COVID-19 Difference Underutilized capacity

*excluding fixed labor cost of 40,000,000