Intercompany Financing- Transfer Pricing Traps – Audit Realities
1. Contemporary Challenges in the Greek Thin Capitalisation Landscape
Rather than a straightforward application of arithmetic thresholds, Greece’s thin capitalisation regime emerges as one of the more nuanced in Europe. Businesses navigating the interplay of interest deduction limits and transfer pricing often face ambiguities around definition, timing, and evidentiary requirements.
2. Threshold Exemption:
Under the Greek thin capitalization rule the €3.000.000 safe harbor is of critical importance. Where a taxpayer’s annual excess borrowing costs (i.e., net interest and economically equivalent expenses) do not exceed this threshold, the interest limitation rule does not apply, and the entirety of excess borrowing costs remains fully deductible. The 30% EBITDA rule only limits deductibility for amounts above this threshold. Consequently, for many taxpayers—especially those in less capital-intensive sectors—the threshold effectively renders the interest limitation inapplicable, provided total annual net borrowing costs stay below €3.000.000. For groups, the threshold applies at the level of the Greek tax entity, not on a consolidated basis.
3. The Borrowing Costs Enigma: More than Just Interest
Following the amendments introduced by Law 4607/2019 and clarified through Circulars 2071/2019 and 2004/2021, in alignment with the EU’s Anti-Tax Avoidance Directive (ATAD), Article 49 of Law 4172/2013 defines exceeding borrowing costs as the amount by which a taxpayer’s deductible borrowing costs surpass their taxable interest income and other economically equivalent taxable revenues. Yet, the notion of borrowing costs goes far beyond the traditional understanding of interest on debt. It encompasses not only interest expenses in all their forms but also a wide spectrum of financially equivalent charges and financing-related expenditures. These include, among others, profit-participating loans, notional interest on instruments such as convertible or zero-coupon bonds, arrangements under alternative financing mechanisms like Islamic finance, the financing component of leasing contracts, capitalized interest recorded on balance sheets or its subsequent amortization, intragroup funding arrangements governed by transfer pricing rules, derivative-based notional interest or hedging agreements linked to borrowing, certain foreign exchange gains and losses on debt instruments, guarantees tied to financing structures, as well as settlement fees and related expenses incurred in the raising of capital. This broad scope reflects the comprehensive approach adopted by Greek law to capture the economic reality of financing costs and prevent artificial recharacterizations meant to erode the tax base.
4. When Is a Loan Truly a Loan? Considering OECD Guidance in Greek Reality
Greek tax authorities, leveraging the OECD’s latest interpretation on “prima facie” loans, increasingly focus not only on pricing but also on substance. In practical terms, companies face the risk that advances within groups—although contractually documented as loans—could be reclassified as equity if they lack genuine repayment intent, enforceability, or would not be offered under similar market conditions. Legal framework leaves taxpayers with significant uncertainty, particularly for start-ups or entities with weak balance sheets.
5. Transfer Pricing Interactions: Traps, Documentation, and Evidence
In theory, any intercompany loan that fails the thin cap threshold is automatically capped for deductibility. However, even fully deductible interest under thin cap limits remains suspect if not justified at arm’s length according to transfer pricing rules. Auditors now require layered documentation, including economic justification for the quantum and necessity of the loan, risk analysis, and clear evidence of arm’s length terms. Under the OECD’s risk-based approach, companies with unconventional financing structures or significant reliance on related-party funding can expect increased scrutiny, with potential challenges to both the characterisation of the arrangements and the pricing applied.
6. Hypothetical Example: A Greek Subsidiary’s Dilemma
A Greek subsidiary receives a €10 million group loan with a 7% interest rate. Although total borrowing costs fall short of the thin capitalisation threshold, Greek auditors, guided by the latest OECD criteria, determine that no unrelated bank would lend on similar terms due to the company’s negative cash flows. Result: Recharacterisation as equity, non-deductibility of “interest,” and a transfer pricing penalty risk.
7. The Compliance Imperative: Audit “Proofing” and Risk Management
Given evolving audit practices, companies should proactively:
- Regularly review all intragroup financing in light of both thin cap and transfer pricing rules;
- Align loan documentation with OECD’s commercial reality tests;
- Anticipate intensive audit demands for evidence, even where statutory thin cap thresholds are met;
- Invest in legal and financial advice when structuring cross-border or high-value group loans.
Thin Cap Rules as Both Shield and Trap
Thin capitalisation regulation in Greece extends beyond simple interest ratios. With aggressive audit focus, broad definitions of borrowing costs, and overlapping transfer pricing requirements, Greek companies must transcend formality—structuring, evidencing, and defending group financing as true commercial arrangements, not just paper exercises.
Written by Maria Anastasiou, Head of Transfer Pricing Dpt , Privel Partners PC
Please feel free to send your request at tp@privelpartners.gr
