Deferred payment between related parties – what consequences does it entail?

In transactions between related parties, it is not only the amount of remuneration that matters, but also the other terms and conditions of the transaction. Tax authorities analyse the entirety of the arrangements, including payment terms and methods, as well as any contractual penalties. 

This is confirmed by a judgment of the Voivodeship Administrative Court in Białystok1, which indicated that long-term deferral of payment, particularly without any remuneration in the form of interest, may lead to the transaction being challenged as not being at arm’s length. 

There is, however, good news for taxpayers. A mere finding by the authorities that the terms of a transaction are non-arm’s length is not sufficient to adjust taxable income. Tax authorities must base their decisions on the relevant provisions and conduct a thorough analysis of the evidence. 

How long can you wait for payment? The tax authorities draw the line 

The dispute concerned a real estate sale transaction between related parties. Under the agreement, the payment for the property was split into two instalments. 

In practice, however, the parties repeatedly postponed the payment deadline by signing subsequent amendments. As a result, the Company granted the related party an almost 9-year payment term without charging or claiming any interest. 

The first-instance authority concluded that the Company should recognise income from accrued but unpaid interest in the amount of nearly PLN 2 million. 

At the same time, the Company granted the same related party a loan, the repayment term of which was also extended. In addition, although interest was charged, it was in fact paid only after several years. By contrast, in transactions carried out by the Company with unrelated parties, the grace period for interest payments ranged from 6 to 18 months. 

Consequently, the authority also added to the Company’s income the value of interest in the amount of over PLN 30,000, which had not been received in the audited year. 

Key error of the first-instance authority – incorrect legal basis 

The Director of the Tax Administration Chamber (DIAS) overturned the decision of the authority and referred the case back for reconsideration. 

According to DIAS, the authority incorrectly determined the tax consequences and failed to apply transfer pricing regulations. Instead, it relied on provisions relating to interest. 

The Company appealed the decision; however, the Voivodeship Administrative Court agreed with DIAS. It held that the authority’s analysis of the evidence was insufficient. 

To effectively challenge the arm’s length nature of the transaction, the authority will need to carry out a comprehensive analysis of its terms, rather than focusing solely on “accrued interest”. 

Conclusion – it is not only the price that matters 

This case clearly demonstrates that in transactions between related parties, it is not only the price that matters. All terms of the transaction are crucial, including payment terms and methods, as well as potential contractual penalties. 

In practice, this means that it is necessary to: 

• • analyse and set transaction terms at arm’s length, not only in terms of remuneration itself, 

• • compare transaction terms with internal data, i.e. verify whether arrangements applied to related parties are consistent with those applied to unrelated parties, 

• • properly document and justify any changes to agreed arrangements, 

• • consider introducing protective provisions, such as contractual penalties, 

• • avoid multi-year extensions of payment terms without economic justification or appropriately document the inclusion of such arrangements in the transaction price. 

In summary, merely setting and receiving remuneration at an arm’s length level may not be sufficient to protect a transaction from being challenged by the tax authorities – the key factor is the assessment of the overall terms and conditions.