Having an appropriate transfer pricing policy and supporting documentation in place is the most critical part of achieving a favorable audit result, or to reduce the risk of being selected for a full-scale transfer pricing audit.

Background on Transfer Pricing Audits

The NTA typically undertakes a preliminary inquiry to determine whether a taxpayer is an appropriate target for a transfer pricing audit. This normally takes several months. If selected for a full scale audit, the process may take from 1 to 3 years. During the audit period, the taxpayer can expect to be active in negotiating with the audit examiner and meeting examiner requests. Information available to NTA examiners and considered during this target selection process includes (i) shrinking profits or persistent losses in Japan; (ii) intangible transactions or intra-group services; (iii) changes in transfer pricing method; and (iv) transactions with a related party in a tax haven or low-tax jurisdiction.

The NTA does not publicize the specifics of its criteria for selecting transfer pricing audit targets, but the applicable administrative guidelines require that NTA examiners carrying out transfer pricing audits consider documents describing the relationship between the taxpayer and the foreign related person, the specifics of the transaction in question, and the selection methodology of comparables and transfer pricing method. For assessments, examiners are directed to consider operating and gross profit margins against internal or external comparables and in light of the functions performed and risks borne by each entity. Japan’s tax authority puts less emphasis on assets employed than other jurisdictions. A transfer pricing assessment may go back 6 years – double the period allowed for general corporate tax assessments.

Audit Support Services

For companies facing a transfer pricing audit, our transfer pricing team can assist with:

  • Early identification of high risk target transactions
  • Quantifying potential assessments
  • Devising appropriate countermeasures and defense strategies
  • Participation at on-site audits
  • Negotiating assessments and other issues
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