Blockchain technology: Possible future of digital transfer pricing

Paresh ParekhChange is certain, and the digital world is changing exponentially. It started with smartphones, which impacted the masses and led to the emergence of smart lives. As digitization and automation continue, it is now the time for smart businesses. Among many fast-emerging disruptive technologies, blockchain technology seems to have the potential to revolutionize businesses and redefine multinational enterprises (MNEs) and industries across the globe.

Though at a nascent stage and with a daunting task to evolve further, blockchain technology may put businesses and business models on the radar, and might even trigger consequent commercial and tax corollaries, including the application of transfer pricing principles and rules. Blockchain technology may offer technical solutions to surmount various challenges currently faced by taxpayers and tax administrations within the four walls of the transfer pricing (TP) world.

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What is blockchain?
Blockchain technology is a multi-tiered technology that can create permanent and validated records of transactions and not just financial events. Such records (a distributed ledger) are created over public and/or private cloud servers, without any involvement of intermediate parties. A distributed ledger can be accessed with the appropriate encryption rights and past transactions can be verified independently.
Blockchain technology can also facilitate businesses where contracts are embedded digitally and stored in secured, transparent and shared cloud servers. These contracts can then further be coded by rules/conditions and transformed into “smart contracts,” which involve the use of blockchain technology to execute the terms and conditions of a contract between parties once the right inputs are fed into the database.

How will blockchain affect supply chain and TP?

How will blockchain.png

Over the past few years, MNE groups have given significant attention to TP, to analyze its application and its impact on their operations. At the same time, even the tax administration is moving toward transparency and detailed scrutiny of business operations. Keeping this in mind and especially the BEPS framework, blockchain technology could potentially transform the application of TP principles and rules across the globe. A snippet of such transformation is illustrated below: Picture6

What are the specific transfer pricing challenges that blockchain might address?Picture5

Conclusion

Blockchain seems to be an exciting technology with substantial potential, but currently it is at a nascent stage. On the business front, this technology can enable the implementation of more robust business models based on smart contracts, though regulatory and legal acceptance might be critical. But there could be many other implications if the technology moves into the business mainstream. Businesses needs to identify and qualify the opportunities where blockchain technology can be used and assess the impact. To be specific, it could simplify the transfer pricing concerns of taxpayers and address the current challenges they face. As a by-product, blockchain could also provide healthy documentation to substantiate transfer price.

Notwithstanding the obvious benefits, blockchain technology has some inherent downsides such as the possibility of external hacking, corruption and loss of data, although it promises absolute protection of data against cyber-attacks. Nonetheless, given its offering to business, including cost reduction across value chain, transparency and traceability, and robust documentation, blockchain technology could be potentially on the cards for many businesses.

By Paresh Parekh, Partner with EY International Taxation & Transfer Pricing practice, Mumbai, India

Contributions by:
Manthan Dholakia, Manager with EY International Taxation practice, currently manning the India desk at London, United Kingdom

Sonam Aggarwal, Senior Consultant with EY International Taxation & Transfer Pricing practice, Mumbai, India.


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