The Transfer Pricing Audit: 2026 Transfer Pricing Guide – Part 2

A Practical Guide to Canadian Transfer Pricing examines the full transfer pricing lifecycle, from pricing and documentation through to audits, disputes, and cross‑border relief.

Explore other chapters in the guide:

Transfer Pricing Audit Considerations

Requests for Contemporaneous Documentation

A transfer pricing audit will commence with the issuance of an initial contact letter, wherein the CRA will inform the taxpayer that it is under audit and request for copies of the taxpayer’s contemporaneous documentation. Separate requests for contemporaneous documentation will be issued to the taxpayer for each taxation year or fiscal period under audit. If, during the course of the audit, the auditor uncovers additional transactions which it was not initially aware of, the auditor must issue a request for contemporaneous documentation for these previously unknown transactions.

Contemporaneous documentation must be provided within 30 days after a written request is issued, or else the taxpayer will be deemed not have made reasonable efforts to determine arm’s-length prices. Once the auditor receives the contemporaneous documentation, the auditor must issue an acknowledgement letter to the taxpayer, confirming receipt of the documentation.

Failure to provide contemporaneous documentation in accordance with the 30 days timeframe will result in the CRA imposing a transfer pricing penalty on the taxpayer’s total transfer pricing adjustment at the end of the audit. Failure to provide the information will also result in the auditor using other means to obtain the contemporaneous documentation, including:

• information and/or documentation requests;
• foreign-based information and/or documentation requests; and,
• compliance orders.

The Tax Court of Canada (“TCC”) has consistently held that taxpayers are required to provide full and complete information to the Minister upon a request for contemporaneous documentation. The TCC has been routinely skeptical of contemporaneous documentation provided to the CRA that is rushed, incomplete, or insufficiently reviewed and has held that in such circumstances that the taxpayer has failed to demonstrate sufficient reasonable efforts so as to avoid the transfer pricing penalty.

As such, it is imperative for taxpayers to seek knowledgeable professional guidance to ensure that their contemporaneous documentation meets the requirements of subsection 247(4) and ensure that if arm’s length prices are reassessed by the Minister, they are not subject to a transfer pricing penalty.

Written Audit Queries and Functional Interviews

During the course of a transfer pricing audit, the CRA auditor may request that certain key personnel of the taxpayer under audit conduct a “functional interview” with the CRA’s audit team. Alternatively, the CRA will issue written queries with specific questions for the taxpayer to answer. The CRA views functional interviews and written queries as key methods for obtaining and verifying information related to the transactions under audit. The information submitted to the CRA during the audit process is ultimately used by the CRA in determining the arm’s-length nature of the transactions under audit and/or the proper quantum of the transactions under audit.

Functional interviews may be helpful to both the taxpayer and the CRA, particularly as they can streamline the lengthy written query portion of the audit process. Taxpayers can use functional interviews as an opportunity to ascertain what issues the CRA audit team is particularly interested in and to positively frame the characterization and methodologies of the transactions under audit.

From the CRA’s perspective, the CRA audit team can obtain a better appreciation of the taxpayer’s business and establish a positive relationship with the representatives of the taxpayer under audit. Although the audit process is adversarial by nature, the best possible outcomes are obtained where both sides can work together cordially. This also reduces the risk of being assessed any non-automatic penalties by the CRA audit team if any contraventions of section 247 of the Act are determined.

In 2019, the FCA in Canada v. Cameco Corporation¹ concluded that the CRA could not compel oral interviews in the course of transfer pricing audits. The audit powers in subsection 231.1(1) of the Act were amended, effective December 15, 2022, to require a taxpayer or any other person to give the CRA all reasonable assistance, to answer all proper questions and to answer questions orally and in writing.

Best Practices to Protect Taxpayers

The following are some best practices that a taxpayer may want to consider:

• Ask for interview questions up front from the CRA to better prepare for any CRA interviews.
• Carefully consider who is the right person to be interviewed and who has the appropriate knowledge.
• Prepare the interviewee to ensure that answers are accurate.
• Explain the process to the interviewee. Answers to the CRA can be used against the taxpayer.
• Obtain the services of a court reporter to transcribe the interview so that there is no dispute about what was said, and so that the interviewee has an opportunity to review and correct answers.

Building a Record: Documenting Interactions with the CRA

Throughout the course of the transfer pricing audit, it would be prudent for the taxpayer to document all interactions with the CRA, maintain records of all correspondence (sent to and received by the CRA), and take notes during over-the-phone or in-person discussions with the CRA.

An “audit record” prepared and maintained by the taxpayer will be a helpful resource, especially in an expansive transfer pricing audit, in the event that additional questions are posed by the CRA, a discrepancy between what was provided and what was received arises, or if there is a need to refer back to earlier items on follow-up submissions to the CRA.

Best Practices to Protect Taxpayers

The following are some best practices that a taxpayer may want to consider:

• Any meetings or discussions with the CRA should be followed up with a written follow-up to ensure that discussions are memorialized.
• A taxpayer should keep an itemized list of what documents or information have been provided to the CRA to avoid miscommunication.
• A taxpayer should keep a chronological timeline of interactions with the CRA, as this may be useful for interest or penalty relief.
• Any extension requests should be in writing.

Conclusion of the Audit

At the end of a transfer pricing audit, the CRA will issue one of two letters: (i) a letter confirming that the CRA has completed its review and that no adjustments will be made; or (ii) a proposal letter, wherein the CRA will propose to adjust the taxpayer’s income and issue a reassessment to that effect.

Where the CRA issues a proposal letter, the CRA will essentially be proposing to adjust the quantum or nature of the transactions under audit. The proposed adjustment will effectively be made to achieve a measure of the taxpayer’s income, in the CRA’s opinion, to be more consistent with the outcome of a transaction between arm’s length parties. A taxpayer will have the opportunity to provide written and/or documentary submissions disputing the CRA’s proposed reassessment. After a review of the representations, the CRA will either withdraw or confirm the proposed reassessment and close the audit.

Understanding CRA Audit Powers in a Transfer Pricing Audit

General Audit Powers

The CRA has a broad set of audit powers at its disposal. Generally, the CRA may compel information from a taxpayer that is not protected by solicitor-client privilege, compel the production of documents from a taxpayer that are not protected by solicitor-client privilege, and compel the provision of foreign-based information. The CRA generally sends these requests by way of a letter; i.e., an audit query notifying the taxpayer that it must respond to the information request. The letter will provide a specific timeframe within which to provide the information or documentation requested.

What can the CRA Request?

The CRA can request documents and information and require any person to answer questions orally and in writing, “in any form specified.” This may create an additional burden for a taxpayer, as the CRA may ask for organizational charts, tables, excel sheets, etc., whether they currently exist or not. In the event documentation is requested by the CRA which does not exist, the taxpayer would be required to produce said document pursuant to the CRA’s request. The CRA can also request information about third parties, including “unnamed persons”, subject to certain conditions and safeguards. In a transfer pricing audit, the CRA will always request for the taxpayer’s contemporaneous documentation for the purposes of verifying the taxpayer’s transfer pricing obligations under section 247 of the Act.

Canadian courts have repeatedly held that there is a low expectation of privacy for business records relevant to determining tax liability, as Canada has a self-assessment and self-reporting tax system. As such, in absence of documents to which solicitor-client privilege has attached (documents made by the taxpayer’s legal representative(s)), a taxpayer under audit will generally be compelled to produce the documentation and information requested.

There are also several ways in which the CRA can access foreign-based information. For example, the Minister can require a person resident in Canada or a non-resident person carrying on business in Canada to provide any foreign-based information or document, subject to certain conditions, under subsection 231.6(2) of the Act. However, section 231.6 cannot be read as the only process for obtaining documents from abroad. For example, information stored on foreign servers, but accessible from Canada, has been held not to constitute foreign-based information and can thus be sought as domestic information under subsection 231.2(1) as opposed to subsection 231.6(2).

Information Requested from Foreign Jurisdictions

Foreign jurisdictions may ask the CRA for a Canadian resident’s tax information, or to issue a requirement to obtain information from a Canadian resident, pursuant to a Tax Treaty or Tax Information Exchange Agreement. Canada has Tax Treaties or Tax Information Exchange Agreements with most countries around the world. As such, attempts to hide information via offshoring will generally be frustrated by either the CRA or the tax authority of the foreign jurisdiction in question.

Inversely, it is worth noting that the CRA may authorize auditors to travel abroad in order to obtain taxpayer information housed in a foreign jurisdiction. The CRA audit manual provides certain requirements that an auditor has to meet in order to be able to conduct an audit outside Canada. Generally, however, the auditor needs to obtain approval from the tax authority of the other jurisdiction in order to conduct an audit outside of Canada.

Consequences for Failing to Comply

The consequences for failing to comply with the CRA’s information requests are harsh. The CRA apply to the Federal Court for a compliance order. Failure to comply with such an order can result in consequences, including contempt of court.

Proposed Legislative Changes

The Department of Finance has proposed legislative amendments which will give the CRA additional audit powers. These include the ability to issue a notice of non-compliance and to impose potential penalties.

Under the proposed amendments, the CRA could issue a notice of non-compliance if a person fails to comply with a requirement (i.e. under sections 231.1, 231.2 and 231.6) without judicial authorization and without the need to apply for a compliance order under section 231.7. Under the proposed regime, a taxpayer who wants to dispute the compliance order has the burden of applying for review of the notice, first through the CRA and, if unsuccessful, through the Federal Court.

The notice of non-compliance also carries consequences that can catch related parties by surprise. While a notice of non-compliance is outstanding, the normal reassessment period of the taxpayer and each person that does not deal at arm’s length with the taxpayer will be suspended for any taxation year to which the notices relate.

The proposed amendments would also introduce new penalties. While a notice of non-compliance is outstanding, a penalty of $50 will apply each day, up to a maximum of $25,000.

If the CRA has successfully obtained a compliance order against a taxpayer, there will be a penalty equal to 10% of the total tax payable by the taxpayer in respect of the taxation year(s) to which the order relates and applies only if the taxpayer had tax owing in excess of $50,000 for any one taxation year in respect of the compliance order.

Another proposed change is that the CRA could also seek a compliance order for the failure to comply with a requirement for foreign-based information or documents, whereas it can currently only seek a compliance order with respect to the CRA’s general and domestic audit powers. Currently, if a taxpayer does not provide foreign-based information or documents, that information or documents cannot be relied on by the taxpayer in court.

Given the proposed amendments, it will be even more imperative for a taxpayer to consult legal counsel in order to assist with a transfer pricing audit in order to avoid any potential delay or error which could lead to the imposition of the new penalties.

Protecting Lawyer-Client Privilege

What is solicitor-client privilege?

In Canada, solicitor-client privilege or lawyer-client privilege attaches to communications that are made for the purpose of giving or receiving legal advice. Only the client can waive privilege. In order to be subject to privilege, the communication must be intended to be confidential. Client information is presumed to be protected by solicitor-client privilege while in the hands of a lawyer in its capacity as legal adviser. But purely business or policy-related advice is not privileged, even if provided by a lawyer.

How to preserve privilege?

In order to preserve privilege, it is important to be aware that privilege can easily be waived. For example, in Canada there is no accountant-client privilege. When information is shared with accountants, privilege is generally waived, subject only to limited exceptions. Further, a legal opinion should not be shared with related parties that are not subject to a retainer as such sharing may be a waiver of privilege.

As transfer pricing looks at transactions with non-arm’s length parties, it is important to consider how to protect privileged information when several related parties are involved. For example, retainer agreements can help support a privilege claim, although they are not determinative. It will also be helpful to include all related parties on the same retainer so that it is clear that legal advice is being sought on behalf of all related entities, and thus, it will be easier to assert privilege. Furthermore, care should be taken not to share privileged documents widely within a corporate group.

As a general rule, documents seeking or containing legal advice should be labeled “privileged” in the subject line.

No accounting privilege in Canada

As different countries have distinct types of privilege, it is important to be aware of possible differences. For example, a related party from a jurisdiction in which accountant privilege exists may inadvertently share information with a Canadian accountant, where accountant privilege does not exist. To avoid such situations, it is important to be aware of the differences between jurisdictions and, if necessary, engage foreign counsel to seek advice.

Anticipating a reassessment?

Explore how objections, appeals, and litigation can unfold, and what to consider at each decision point — see Chapter 3: Domestic Avenues of Relief.

Footnote

1 2019 FCA 67.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.