Should inter-group contracts be amended in the context of Covid-19?

27/05/2020 The Covid-19 pandemic has introduced unprecedented social and economic challenges around the world. Our global inexperience of a crisis of this kind challenges individuals, governments and companies to come up with new solutions on how to respond. This situation is particularly challenging for Multinational Enterprises (MNEs) as they are subject to transfer pricing rules globally, where the main principle is based on the fact that transactions held between related parties should be in line with the arm’s length principle, which requires all commercial and financial transactions to be held in a manner which would have been obtained between independent enterprises in comparable transactions and circumstances.

Considering MNEs may also have controlled transactions which cannot incur between independent parties, it is much more difficult to manage the commercial risks in addition to the transfer pricing risks.

When unexpected commercial and economic situations arise, such as Covid-19, which are hard and/or impossible to predict at the time of signing an inter-group contract, group companies might consider requesting an amendment of their current inter-group contracts. However, it is not entirely clear for the management of an MNE Group whether the requests for such changes would cause a transfer pricing risk. Therefore, the management bodies are rightly concerned about whether the current contracts should or should not be amended, especially in terms of pricing and payment terms. If such amendments are made, this may cause a transfer pricing risk in the future and could be challenged by the Tax Administrations as artificial or manipulative action.

Although 2017 OECD Transfer Pricing Guidelines (“OECD TPG”) does not have clear and direct answers for situations with such unexpected and potent economic consequences, it can be said that with the new revisions made to the OECD TPG in recent years, OECD TPG should still be the main source in how the group companies should behave under the arm's length principle.

The contractual terms of the transaction

According to OECD TPG, a transaction is the consequence or expression of the commercial or financial relations between the parties. The controlled transactions may have been formalised in written contracts which may reflect the intention of the parties at the time the contract was concluded in relation to aspects of the transaction covered by the contract, typically including the division of responsibilities, obligations and rights, assumption of identified risks, and pricing arrangements. Where a transaction has been formalised by the associated enterprises through written contractual agreements, those agreements provide the starting point for delineating the transaction between them and how the responsibilities, risks, and anticipated outcomes arising from their interaction were intended to be divided at the time of entering into the contract1.

In the consideration of comparable transactions for certain commercial transactions, a broad-based understanding of the industry sector in which the MNE group operates and of the factors affecting the performance of any business operating in that sector is very important. In addition to this industrial framework, risk is an inherent part of all business activities. Enterprises undertake commercial activities because they seek opportunities to make profits, but those opportunities carry uncertainties such that the required resources to pursue these opportunities either will be greater than expected or will not generate the expected returns. In this respect, we are assuming that the commercial agreements signed among group companies reflects the risk estimation of either parties with all its clauses. However, parties should have flexibility to renegotiate certain clauses to respond to unforeseen circumstances in good faith.

In relation to this situation, OECD TPG states that independent enterprises may determine to assume the risk of unpredictable subsequent developments. However, the occurrence of major events or developments unforeseen by the parties at the time of the transaction or the occurrence of foreseen events or developments considered to have a low probability of occurrence which change the fundamental assumptions upon which the pricing was determined may lead to renegotiation of the pricing arrangements by agreement of the parties where it is to their mutual benefit. For example, a renegotiation might occur at arm’s length if a royalty rate based on sales for a patented drug turned out to be vastly excessive due to an unexpected development of an alternative low-cost treatment. The excessive royalty might remove the incentive of the licensee to manufacture or sell the drug at all, in which case the licensee will have an interest in renegotiating the agreement. It may be the case that the licensor has an interest in keeping the drug on the market and in retaining the same licensee to manufacture or sell the drug because of the skills and expertise of the licensee or the existence of a long-standing co-operative relationship between them. Under these circumstances, the parties might prospectively renegotiate to their mutual benefit all or part of the agreement and set a lower royalty rate. In any event, whether renegotiation would take place, would depend upon all the facts and circumstances of each case2.

Therefore, if the commercial conditions and/or operational assumptions negotiated at the time of the agreement are not met, independent parties may renegotiate the terms and conditions in good faith. The expression of “mutual benefit” here is very important considering the termination of a long-standing business relationship is always costly for either parties. For this reason, the meaning of mutual benefit will deepen when the time cost of finding a reliable supplier is considered.

Consideration of force majeure

When independent parties sign long-term contracts for commercial transactions, force majeure clauses to secure the parties from extraordinary conditions are always included in the contracts. However, the definition of force majeure may vary depending on the sector in which the parties of the contract operate, the definition of the job and the civil law or other legal definitions in the countries where the parties reside.

Therefore, if one or two of the related persons want to execute the force majeure clause under the current economic conditions, it should be checked whether the definition of force majeure in the current contract is compatible with the definition of force majeure in similar sectors and contracts under similar conditions.

Business Restructuring

It should be noted that amendment of a contract is a general term and could refer to a wide range of changes, from minor changes in payment terms to a change in the existing business models. Therefore, the economic and commercial basis of these amendments should be evaluated in detail. If there is a change to the current business model, this change can no longer be simply considered as an amendment in the contract but should be evaluated within the scope of the Business Restructurings (OECD TPG Chapter IX). As indicated in OECD TPG, business restructurings may be needed to preserve profitability or limit losses, e.g. in the event of an over-capacity situation or in a downturn economy. Therefore, a need for an amendment in a current contract might arise when one party suffers from one or more clauses of a current contract. But at the same time, amendments can be made because of a mutual benefit of signatory parties. The term “mutual or expected benefit” is crucial as the commercial and economic reasons behind the restructuring as well as the expected benefits, including the role of synergies, should be put forward.


In a BEPS-compliant world, master file is the main report which discloses commercial and financial relationships among the group. For 2020 and the following years, certain sections of the master file will be comparatively more important as MNEs will be required to explain their specific situation in the industry they are operating. MNEs will need to explain how their industry has been affected by Covid-19, and what kind of actions the group has taken against the crisis. Among these actions, possible changes in the supply chain will be expected to be disclosed, as well as the amendments made to existing contracts.

Therefore, from a transfer pricing risk point of view, any amendment made in the contracts will need to be justified with a sound economic and commercial basis.


While some industries such as civil aviation and tourism are comparatively more affected by the Covid-19 crisis, every sector will be impacted to some extent. Therefore, it would not be unexpected for any party that suffers a loss of income would seek its right under general law to execute force majeure, even if such a case is not addressed clearly in the contract. With many years of experience in the sector, we are of the opinion that MNEs have precedents of such renegotiation conditions which would be a comparable for the current situation. Of course, these may not be perfectly comparable in terms of clauses, while the attempts for such negotiation cases may be perfect examples to justify the actions of both parties in their specific case.