On 6 June 2012, the OECD published the first discussion draft for the revision of chapter VI of its transfer pricing guidelines.
Chapter VI of the OECD transfer pricing guidelines deals with the transfer pricing aspects of intangibles. The OECD’s intention is to create clearer and better international guidelines with respect to the transfer pricing treatment of intangibles. The OECD welcomes suggestions from transfer pricing practitioners through asking for comments from such professionals. RSM has certainly used this opportunity to share its practical experience with transfer pricing and intangibles and to help further improve the practical application of the transfer pricing guidelines.
For many companies intangible property (IP) represents a large portion of their market value.
The allocation of IP within a multinational’s group is one of the most important factors for determining the allocation of taxable profits within a multinational group of companies. In order to reduce their overall effective tax rate, many multinational companies attempt to locate their IP in low-tax jurisdictions. Needless to say, tax authorities around the world often intend to counteract such movements.
For many multinational companies the transfer pricing treatment of their IP therefore offers major opportunities as well as risks. This is once more pointed out by the OECD discussion draft.
Although it is noted that the discussion draft is open to comments and that its contents are already applied by transfer pricing practitioners, the OECD has provided more clarity with respect to several items such as:
- What constitutes IP and what does not? Although the document does not contain a definitive list of items that constitute IP, examples include: 1) Patents, 2) Know-how and trade secrets, 3) Trademarks, trade names and brands, 4) Licenses.
- In determining the ownership of IP for transfer pricing purposes (and entitlement to the related returns), the factual conduct of a group, the availability of staff with relevant education/background and authorisations are of particular importance, as well as the financial strength of a group company. When a group company is merely the legal owner of the IP and lacks (several) of the aforementioned characteristics, the IP and the related returns will not be allocated to that group company for transfer pricing purposes.
- Which transfer pricing methods can be used to determine the arm’s length pricing for any transactions involving the use or transfer of intangibles?
For the use of IP (e.g. through a license), the OECD discusses various pricing methods such as a Profit Split Method, a Comparable Uncontrolled Price Method and methods (such as the Transactional Net Margin Method) which first determine an appropriate pricing for other functions of a group (e.g. sales, manufacturing, etc.) and then allocate the remaining profit to the IP owner.
With respect to the determination of the arm’s length price for the transfer of the IP the OECD devotes special attention to the use of financial valuation methods such as the Discounted Cash Flow method (DCF-method). The OECD is concerned about the use of financial projections that are extended beyond the horizon where a company can reliably forecast its profitability. Furthermore, the OECD instructs taxpayers to use discount rates that are tailored to reflect the risks associated with the discounted cash flows.
The OECD points out that intangibles normally have finite lives. Although some intangibles may have indeterminate lives, this does not mean they are expected to produce non-routine returns indefinitely.
The deadline to provide the OECD with comments closed on 14 September 2012. The transfer pricing practitioners and scholars who provided comments will be invited to participate in an OECD discussion taking place in Paris in November.
Hopefully, the final revision of Chapter VI of the OECD transfer pricing guidelines will provide more clarity, especially with respect to the methodology to be used to calculate the price for the use or transfer of IP (once it has been recognised that such a transaction has occurred). RSM will continue to actively contribute to these discussions.
For further information please contact
T +1 949 255 6541
Guido van Asperen
Senior Tax Manager
T +31 23 5300 426
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