After a long period of record low interest rates, the era of cheap money is definitely over. The sharp rise in interest rates in recent months has therefore also had direct consequences for intra-group transfer prices. We expect that intra-group financing transactions will increasingly become the focus of tax audits.

Which areas of financing are affected?

The change in interest rates can have a particular impact on

  1. Intra-group loans,
  2. Cash pools,
  3. Provision of collateral,
  4. Supplier loans,
  5. early loan repayments,
  6. financing companies, and
  7. Interest deduction restrictions.

Intra-group loans

Intercompany financing must be agreed in line with market conditions in accordance with arm's length principles. Central banks around the world have increased their reference interest rates, which generally increases financing costs. If the interest rate for an I/C loan is based on a reference interest rate (e.g. EURIBOR), this must be adjusted accordingly or taken into account in new contracts.

In accordance with Chapter 10 of the OECD Transfer Pricing Guidelines 2022, a Differentiation of a loan as debt capital vs. equity capital required. Higher interest rates mean that the economic Ability to repay the loan on the part of the borrower decreases or the default risk for the lender increases. We advise analysing and documenting that the borrower is still financially able to service the loan. Otherwise, there is a risk that a loan will be reclassified as equity and the interest expense deduction will be denied.

A decrease due to rising financing costs Creditworthiness The borrower's risk exposure may have to be reflected in a risk premium on the interest rate. The Credit rating of a group of companies can deteriorate as a result of rising interest rates. A poorer group rating has a direct impact on affiliated companies if their individual rating is identical to the group rating (support within the group).

Cash pool

In the case of a cash pool, the interest rates for the provision or utilisation of funds from the cash pool are important. Against the background of the options available to the individual participants in a cash pool, it must be discussed whether participation in the cash pool is actually the best option. Depending on the region, it may be more advantageous for the individual participant to invest available funds locally rather than in the cash pool if the local interest rate level is higher. Conversely, it may be more favourable to finance locally in the short term than via the cash pool. In this case, a cost-benefit analysis should be used to check whether it is actually beneficial for the individual participant to be a member of the cash pool.

Provision of collateral

Rising financing costs are making it increasingly difficult to cover local financing requirements on a stand-alone basis, i.e. attractive conditions are only granted by means of collateral from the parent company, for example. Such guarantees must be analysed from an arm's length perspective and remunerated appropriately.

Supplier loans

Supplier loans within the group (e.g. with sales companies) should be checked for the agreed terms and their actual implementation and, if necessary, compared with the approach to external customers. In times of zero interest rates, exceeding payment terms without interest may still have been accepted by the tax authorities as a financing instrument, but this has probably changed now.

Early loan repayments

In the event of an early repayment agreement, a loss situation may arise for the lender if the interest rate is fixed and the refinancing rate is variable. Such agreements must be reviewed for possible adjustments.

Financing companies

Financing companies can find themselves in loss-making situations if the interest income from internal fixed interest rate agreements (e.g. fixed interest rate over 3 years) with affiliated borrowers no longer covers rising external refinancing interest rates. There is a risk that such a situation could be picked up by a tax audit.

Interest deduction restrictions

Rising interest expenses due to higher interest rates mean that more loan transactions fall under local interest deduction restrictions (in DE: Interest barrier acc.       §Section 4h EStG / Section 8a KStG).

Take-away and recommendation

Check existing financing agreements for any adjustment requirements, close contractual gaps and map new financing transactions to be concluded on the basis of current market and capital market information. Supplement your transfer pricing documentation if you have identified adjustment risks or argumentation gaps due to current interest rate developments.

Transfer Pricing & Friends offers a "Quick Check" on. Please do not hesitate to contact us.

Carsten Schmid

Transfer Pricing & Friends GmbH, Stuttgart

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