Related party transactions are those between companies and their shareholders, the management, or their business groups. These transactions must take place at real market price, regardless of how the transaction is actually made.

An example of related party transactions is the following: suppose that the sole administrator of a company rents out a property to the company, i.e., a flat in Lanzarote to be used as offices; he cannot rent it for free nor for too expensive of a price; He must rent it at market price. And, if in reality, he is not receiving any income from such rent, the invoice of the rent must be posted at the market price and the rent must be deducted at this market price and the administrator, when declaring his IRPF (income tax), will have to include the income received from the rent, even if he’s not making any money. That’s because this is a related-party transaction. Another common example is someone who has a company, either as a sole partner or with other partners, gives a loan to such company (or on the contrary, accepts a loan from the company); or when a developer sells a flat to its administrator below the market price. Previously, these transactions had no tax implications but, from now on, they will and they’ll be some very important ones.

Under the current law, the partners or the company groups must carry out all transactions between themselves at market price and these must be documented and submitted to the Tax Authorities for inspection.

The market price is that which has been agreed upon by independent people or outside, third party companies.

The related persons or companies will have to keep the documentation establishing the market price of the economic transactions made between them.

The new Law, in place since 19th Feb. 2009, establishes strong penalties for those persons or companies that don’t have the documents clearly detailing the economic transactions amongst themselves and the price of such transactions.

Other examples of related-party transactions are the following:

1. The amount withdrawn from the company by a partner without a written agreement (supposedly, the partner could only receive money by means of the distribution of dividends).

2. A partner adds money into the company’s account (with no capital increase, or loan contract by which the market interest is established)

3. The use of company property without a contract between the company and the partner clearly stating the market price.

4. Services used by the company’s partner and which should be paid to the company at the corresponding market price.

5. The economic relations between the same group’s companies when the prices agreed upon are different from the market price.

6. The economic transactions with companies from the same group on an international level.

7. The transactions made between companies, partners from the same group, partners from another company belonging to the same group, directors or administrators from a company of the same group, spouses, ancestors or descendants of such partners or administrators.

8. Accounts with partners and administrators where the year-end balance has a positive or negative balance.

9. etc.

The tax authority considers that there is economic damage when these related-party transactions are carried out in an attempt to avoid the payment of the corresponding tax or in an attempt of paying a tax lower than that which would be paid under normal market conditions.

The comparability principle. The Tax Authority compares what should be considered the actual market price and what the company actually agreed upon (or didn’t agree upon) as the market price.

According to the Tax Authority, there are many companies using prices different than the normal market prices, so that they pay a lower tax or defer the proper tax amount to be paid later.

This Law also has some international consequences, such as when a company does business with other companies from the same group (same partners) but in different countries.

The correct prices for the wire transfer should be established when there are international economic relations between companies of the same group. The OECD adopts the “arm's length principle”, which means that the related-companies should carry out their transactions under the same conditions that would have been agreed upon by independent parties under current market conditions.

Conclusion: The Tax Authority has created a law by which companies and the persons who have economic relations with their companies must make existing economic transactions at the current documented market price. In case of inspection, there will be very strong penalties for non-documented transactions.