Meeting the challenges of the IBOR transition according to the arm’s length principle



Declining activity in the underlying unsecured bank financing market, coupled with the bank’s attempt to manipulate the interbank lending rate panel, has led global regulators to plan a roadmap for the rate transition. Interbank Offered (IBOR) to Alternative Reference Rates (ARR).

While replacing existing IBORs is one of the most complex issues from a regulatory and financial perspective, multinational enterprises (MNEs) should not underestimate the potential impact of the transition on transfer pricing. , in order to take effective steps to assess the extent of their exposure and formulate an appropriate individual transition plan.


IBORs are benchmark interest rates (available in certain currencies and for certain terms) for unsecured short-term borrowings on the interbank market. These rates are of critical importance in financial markets and serve as benchmarks for trillions of dollars in loans, bonds, derivatives, securitizations and deposits. The reliance on IBORs is also accompanied by the significant number of business-to-business transactions established and regulated for decades on the basis of these benchmarks.

Against this background, starting in 2014, regulators and interested parties stepped up their efforts to strengthen the IBOR system and, where appropriate, to transition from IBORs to ARRs, such as Near Risk Free Rates (RFRs). This process was initiated in response to both instances of attempted manipulation of key IBORs, and the significant decline in activity in the unsecured bank finance market that IBORs are believed to represent.

The transition is expected to be completed by the end of 2021, as the IBOR system will not be guaranteed to market players after that date.

Main characteristics of the alternative architecture

The new RFRs will be structurally different, as they are typically overnight rates based on actual transactions. Therefore, if with the IBOR system, unsecured interbank loan rates are published daily for seven different maturities, new RFRs will be provided only on an overnight basis, necessarily leading to product pricing with a retrospective approach.

Additionally, while setting the IBOR provides market participants with certainty about pricing different maturities at the start of the period, the absence of a forward rate structure and yield curve in the period. the RFR framework will force market participants to assume market risk, as actual pricing will only be available ex post, by composing the day-to-day RFR rates.

In addition, RFRs do not include or imply notional credit or term premium as considered in the IBOR system. The lack of underlying credit transactions for RFRs implies the absence of a dynamic credit component that will likely result in lower benchmarks compared to the previous IBOR system.

The following chart compares the new RFR — Euro Short-Term Rate (€ STR) and the Euro Overnight Index Average (EONIA). (On March 14, 2019, the RFR working group recommended to calculate the EONIA by applying a fixed spread to the € STR instead of continuing to rely on contributions from the banks in the panel. This spread was determined by the European Central Bank at 0.085% based on daily EONIA and pre- € STR data from April 17, 2018 to April 16, 2019.)

Similar results could be obtained by comparing the Euro Interbank Offer Rate (EURIBOR) to the € STR and the London Interbank Offered Rate (LIBOR) to the Sterling Overnight Index Average (SONIA) or the Secured Overnight Financing Rate (SOFR).

Implications of the IBOR transition under the arm’s length principle

The transfer pricing challenges of the IBOR transition are not just about pricing, but also arise from the application of proper analysis that encompasses delineating economic and financial relationships, recognizing precisely delineated transactions, and the selection and application of the most appropriate pricing (transfer) method.

In this regard, a first major technical issue concerns the need to (re) examine inter-company agreements in order to establish whether the IBOR transition modifies the economic and financial relations between the parties and therefore the precisely delimited transaction.

For example, there may be cases where relatively simple changes (e.g. fallback arrangements) can resolve all operational issues, but also cases where the transition may require taxpayers to reassess intercompany agreements in their entirety.

This means that, in the case of a pure lending transaction, a re-examination of the borrower’s debt capacity and a revision of the conditions set out in the agreement should be considered, in order to ensure that the conditions comply with the arm’s length principle.

Given the compound effect of the IBOR transition and the continued influence of the Covid-19 pandemic on business results, it is clear that the characterization of debt can be challenged by tax authorities on the basis of on recent Organization for Economic Co-operation and Development guidelines on transfer pricing in financial transactions.

As part of a tax audit, taxpayers will likely be required to provide documentation explaining changes to intercompany financing arrangements in order to cope with the IBOR transition.

As proposed in the discussion paper “Tax implications of the Inter-Bank Offered Rate reform”Published on August 12, 2021 by the Australian Taxation Office, these changes should in principle be considered at arm’s length if they are consistent with market practice and the most recent recommendations issued by the industry and the body. regulations, compatible with the transition made by the taxpayer from financing agreements by relevant third parties, and limited to the contractual conditions necessary for the implementation of the IBOR transition.

Another important transfer pricing implication resulting from the IBOR transition is how to take into account in a proper transfer pricing analysis the technical differences that exist when comparing IBORs with RFRs. In this regard, internal pricing methodologies and transfer pricing policies should be reviewed in order to avoid any form of base erosion and profit shifting.

In terms of pricing, structural differences should be carefully assessed, also taking into account that RFRs are generally currency specific and have a very different risk profile. These characteristics will have a major impact on the comparability analysis and on the application of the most appropriate transfer pricing method.

In addition, operational challenges may also arise when accessing comparable data which, under current economic circumstances, may not be available, which can therefore negatively affect transfer pricing results.


The IBOR transition is unlikely to be a simple rate replacement, but rather a structural reform of benchmark rates from a business, financial, accounting and tax perspective. In light of the aforementioned potential transfer pricing challenges, MNEs should take effective responsibility for assessing the extent of their exposure to IBOR transition and formulating an appropriate individual transition plan.

In addition, it is important to note that the disruptive nature of the IBOR transition could warrant a complete review of pricing methodologies and approaches adopted not only by MNEs but also by local tax administrations. Indeed, the transition will necessarily require tax authorities to take into account in their transfer pricing analysis the structural differences between IBOR and RFR, such as the value of the credit risk spread, which have never been the subject of discussion in the past, given the practical standard of viewing benchmarks as an expression of an arm’s length price.

This column does not necessarily reflect the opinion of the Bureau of National Affairs, Inc. or its owners.

Marco Striato is Senior Associate in International Taxation and Transfer Pricing at GPBL — Gatti Pavesi Bianchi Ludovici.

The author can be contacted at: [email protected]


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