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Dodd-Frank, Basel III impact on transfer pricing puts big banks on alert

Experts in the financial industry recently warned market participants that accounting strategies for transfer pricing will become more complex for the world’s largest banks as a result of the Dodd-Frank Act and Basel III rules.

“The burden is on institutions to modify and figure out how they are going to respond to the regulatory regime,” Bob Clair, the managing director at KPMG, said, according to American Banker. “And that now has more international tax ramifications than it has in the past.”

Transfer pricing, a key part of international corporate tax strategy, involves the shift of cash between units through the establishment of how much one unit can charge another for providing additional cash flow or internal services.

Companies can, depending on how prices are established in in-house agreements, use prices to lower effective tax rates in the countries where they conduct business if they meet an “arm’s length” standard similar to that charged by unrelated participants in the open market, American Banker reports.

The changing regulatory environment, however, will force banks to consider the effect of transfer pricing on enterprise factors that must meet the heightened scrutiny of federal regulators and tax authorities.

Seventy-five percent of bankers indicated in a June poll that Dodd-Frank rules and Basel III proposals would have “some” or “significant” impact on how transfer pricing policies are established within their institutions. Twenty-nine percent of bankers said that it would be “extremely” or “very” difficult to address the regulatory impact on transfer pricing due to uncertainties regarding what the final regulatory outcome would be, according to American Banker.

New Dodd-Frank regulations, such as the controversial Volcker Rule that prohibits banks from engaging in proprietary trading, may alter the ability of institutions to shift trade booking as done previously.

“With the derivatives rule and Volcker Rule, the basic question becomes, ‘[W]hat entities should do what business in what jurisdiction?’” John Bush, a global banking tax managing director for KPMG, said, American Banker reports. “’Where are you going to trade derivatives?’ A lot of them can no longer be traded in the banks. They have to be traded in another legal vehicle.”

Bush said that the regulatory changes will also affect business-line decisions, and transferred assets may require third-party validation of “arm’s length.”

“There’s the serious question of how many entities do you want to trade these instruments going forward because of regulatory constraints on how you trade them,” Bush said, according to American Banker. “The Volcker Rule is getting [banks] out of certain lines of businesses. Anytime you change how you do business and in particular moving businesses from one jurisdiction to another…that’s a major transfer-pricing question caused by the legislation.”

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