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NRA regarding Cash Pooling between associated parties

January 7, 2013

Circular No 26-E-113/14.09.2012 of the National Revenue Agency (NRA) reveals the viewpoint of the revenue authorities on issues raised by a Bulgarian joint-stock company regarding the treatment under the Corporate Income Taxation Act (CITA) and the Value Added Tax Act (VATA) of the so-called “Cash Pooling” system for short-term inter-company financing.

According to the description of the case, the Cash Pooling is intended to be a system of bilateral agreements between a leader X of the Cash Pooling and participants in the Cash Pooling where all companies are Bulgarian companies of the X group. The participants will provide their own available funds to the leader X which deposits the funds in banks or provides them to other participants in the Cash Pooling which need financing. The ultimate purpose of the Cash Pooling is to achieve short term provision of funds as the counter receivables and liabilities between the leader and the respective participant shall be accumulated and offset in one common current account.

The Cash Pooling has many advantages to all companies of the X group including: minimization of expenses, flexibility and promptness of the financing; opportunity for receiving higher interest rates on considerable funds accumulated in one place; optimization of the credit risk and increase in the liquidity of the group companies; improved working capital position.

Hidden distribution of profits

According to the revenue authorities, the Cash Pooling agreement does not need to contain explicit wording describing the conditions for settlement of the liabilities in a way as to eliminate the possible risk of recharacterization of the interest income as hidden distribution of profits. Even in case such paragraphs are formally included, the revenue authorities are entitled to apply the hidden profit distribution provisions under CITA if it is evident that the relations between the parties are subject to such conditions. It is recommendable the agreement to include explicitly defined maturity period for credit and interest settlement.

Transactions between associated parties

In general, the arm's length principle introduced by Art. 15 of CITA stipulates that the tax profits of two associated companies having commercial and financial relations shall be determined on the basis of conditions applicable between independent parties under comparable circumstances. In this connection, ideally the price of the transactions between the leader and the participants in the Cash Pooling should be determined on the basis of a similar agreement between independent companies. As far as till present there is no information regarding such agreements between independent parties in the Bulgarian financial practice, the market prices shall be based on a transaction with the most approximate structure and substance for which market price data is available.

In the scheme described by X the available funds provided by the participants bear interest based on overnight deposits interest of several different banks. The income of the leader comprise of its expenses on interests and a mark-up of 1%.

In the opinion of the revenue authorities, the substance of the transactions requires that the price of the funds provided by the leader to the participants is to be determined by applying the “cost plus” transfer pricing method. According to this method the interest accrued by the leader shall be determined on the basis of its interest expenses on the accumulated funds plus a mark-up. As the main function performed by the leader is the management of the cash flows of the participants and not the attracting of deposit funds and granting loans at its own risk, its mark-up should be relatively lower than the mark-up of a person that bears the entire credit risk of the financing (banks for instance). In this respect, the revenue authorities consider that up to 1% added to the interest due on the accumulated funds is an adequate market compensation for the leader and it shall cover the expenses for its functions performed under the Cash Pooling agreement and also include a certain profit margin.

Thin capitalization

There is a possibility for any of the participants in the Cash Pooling system described above to fall under a thin capitalization regulation regime. All expenses of the leader/participants in the Cash Pooling related to the financing received as debt capital are subject to regulation under Art. 43, para 3 of CITA as far as they are not part of the exceptions listed in the said provision.

Exempt supplies

The negotiation, the granting and the management of a credit against consideration (interest) by the person granting the credit is an exempt supply under Art. 46, para 1, item 1 of VATA. In this respect, NRA confirms that for the Cash Pooling system exempt supplies are available in both the cases of a participant providing available funds to the leader against an interest payment and of the leader providing such funds to a participant and, respectively, receiving an interest payment.

Cash Pooling technical support and management service

According to the described background of the Cash Pooling system, it is considered for the leader to assign the technical support and management of the Cash Pooling to a participant or to a third party as the latter service shall be identified and invoiced separately. The revenue authorities are of the opinion that the Cash Pooling technical support and management service falls out of the scope of the exceptions under Chapter IV of VATA. Hence, it is a taxable service supply for which no right to deduction of input VAT is available in accordance with Art. 70, para 1, item 1 of VATA.

Should any questions regarding the information in the present newsletter arise, please do not hesitate to contact us at tel +359 2 9433700, fax +359 2 9433707, e-mail: or at the postal address: 38, Oborishte Str., 1504 Sofia.

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