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PROGRAMME
PUBLIC CONSULTATION ON TRANSFER PRICING DISCUSSION DRAFTS
12-14 NOVEMBER 2012
OECD CONFERENCE CENTRE
2 RUE ANDRÉ PASCAL, PARIS 16TH, FRANCE
MONDAY 12 NOVEMBER
08:30-09:30 REGISTRATION
09:30-10:00 OPENING REMARKS AND GROUND RULES
Speakers:
Michelle LEVAC, Chair of Working Party No. 6
William MORRIS, BIAC
10:00-11:00 I: DISCUSSION DRAFT ON TRANSFER PRICING SAFE HARBOURS
Speakers: Page No.
Patricia LEWIS, Caplin & Drysdale ............................................................................................................... 6
- The general approach of the Discussion Draft
- The usefulness of bilateral safe harbours
Michael HECKEL, True Partners Consulting
- The optional nature of safe harbours for taxpayers and the provisions on
rebuttable presumptions;
- The specific OECD proposals for bilateral MOUs
An THEEUWES, Tax Executives Institute ................................................................................................... 10
- The usefulness of bilateral safe harbours; and
- The proposed guidance on unilateral safe harbours
11:00-11:30 Refreshment Break
11:30-13:00 II: SECRETARIAT REQUEST FOR COMMENTS ON TIMING ISSUES
Speakers:
Duncan NOTT, BDO .................................................................................................................................... 14
- The arm’s length price-setting and the arm’s length outcome-testing approaches;
- The need for further direction on year-end adjustments or “true ups”
Brigitte BAUMGARTNER, Plansee Group Services GmbH ...................................................................... 19
- The relative merits of the arm’s length price-setting and the arm’s length
outcome-testing approaches
Matthew WALL, MDW Consulting Inc. ...................................................................................................... 24
- The determination of transfer prices when valuation is uncertain
- Paragraphs 171 – 178 of the Discussion Draft and Examples 20 – 22
Jutta MENNINGER, BSH/PwC ................................................................................................................... 31
- The determination of transfer prices when valuation is uncertain
13:00-14:30 Lunch break
Page 1 of 180
MONDAY 12 NOVEMBER (CONT’D)
14:30-15:15 III: GENERAL DEFINITIONAL APPROACH FOR INTANGIBLES
Speakers:
Jennifer RHEE, Richter Consulting ............................................................................................................. 38
- The definition of intangibles in Section A of the Discussion Draft
Vanessa DE SAINT BLANQUAT, MEDEF ............................................................................................... 45
- General definitional approach for intangibles
Anne QUENEDEY, SALANS ...................................................................................................................... 49
- Intangibles: the relevance of property law definitions, accounting definitions
and separate transferability
15:15-16:00 IV: CATEGORIES OF INTANGIBLES
Ronald VAN DEN BREKEL, Ernst & Young ............................................................................................. 54
- The usefulness of the concept defined as “D.1. (vi) Intangibles”
Wendy NICHOLLS, Grant Thornton UK ................................................................................................... 60
- Should the Discussion Draft distinguish between Routine vs. Unique and
Valuable Intangibles?
16:00-16:30 Refreshment Break
16:30-18:00 V: TREATMENT OF GOODWILL AND WORKFORCE IN PLACE
Speakers:
Caroline SILBERZTEIN, Baker & McKenzie ............................................................................................. 65
- The treatment of goodwill (and related examples in the Annex)
Agata UCEDA, International Tax Centre, Leiden ....................................................................................... 70
- The treatment of goodwill (and related examples in the Annex)
Laurence DELORME, A3F ......................................................................................................................... 74
- The Discussion Draft provisions on assembled workforce
Page 2 of 180
TUESDAY 13 NOVEMBER
09:30-10:15 VI. DOES THE DISCUSSION DRAFT FOCUS TOO HEAVILY ON RESTRAINING ABUSIVE
BEHAVIOUR?
Speakers:
Georg GEBERTH, BIAC ............................................................................................................................. 79
- Does the Discussion Draft focus too heavily on restraining abusive behaviour?
James PHILLIPS ........................................................................................................................................... 83
- Does the Discussion Draft focus too heavily on restraining abusive behaviour?
10:15-11:00 VII: DOES THE DISCUSSION DRAFT PLACE TOO MUCH EMPHASIS ON PROFIT SPLIT
APPROACHES?
Speakers:
Gary SPRAGUE, Treaty Policy Working Group ......................................................................................... 88
- Does the Discussion Draft place too much emphasis on profit split approaches?
Arnaud LE BOULANGER, CMS Bureau Francis Lefebvre ....................................................................... 93
- Does the Discussion Draft place too much emphasis on profit split approaches?
11:00-11:30 Refreshment Break
11:30-13:00 VIII: INTANGIBLES: ENTITLEMENT TO INTANGIBLE RELATED RETURNS
Speakers:
Alison LOBB and John HENSHALL, Deloitte ........................................................................................... 98
- The treatment of risk and control of risk, including the consistency of the draft with
Chapter IX of the TPG
Linda FERNANDEZ, Transfer Pricing Discussion Group ....................................................................... 103
- The general usefulness of the intangible related return concept and its definition
13:00-14:30 Lunch
14:30-16:00 IX: INTANGIBLES: ENTITLEMENT TO INTANGIBLE RELATED RETURNS (CONTINUED)
Speakers:
Catherine SCHULTZ, National Foreign Trade Council ........................................................................... 108
- The role of registrations and contractual arrangements;
- Disregard of transactions, registrations and contracts
Kate NOAKES, Fidal International Direction .......................................................................................... 111 - Compensation for marketing activities performed by associated enterprises related to
the development, enhancement, maintenance or protection of Intangibles,
including examples 3 through 8
Ian BRIMICOMBE, AstraZeneca .............................................................................................................. 114 - Entitlement to intangible related returns: The importance of performance of
important functions and control
16:00-16:30 Refreshment Break
Page 3 of 180
TUESDAY 13 NOVEMBER (CONT’D)
16:30-18:00 X: OPTIONS REALISTICALLY AVAILABLE AND PERSPECTIVES OF THE PARTIES
Speakers:
Isabel VERLINDEN, PriceWaterhouseCoopers ....................................................................................... 130 - Options realistically available and perspectives of the parties and example 19
Carol Doran KLEIN, USCIB ..................................................................................................................... 136
- Options realistically available and perspectives of the parties and example 19
Patrick BRESLIN, Bates White, LLC ........................................................................................................ 140
- Options realistically available and perspectives of the parties and example 19
WEDNESDAY 14 NOVEMBER
9:30-11:00 XI: INTANGIBLES: USE OF FINANCIAL VALUATION TECHNIQUES
Speakers:
Jochem QUAAK and Dick DE BOER, Duff & Phelps .............................................................................. 145
- The relevance of accounting valuations and purchase price allocations
for transfer pricing purposes
Richard GINSBERG, Canadian Institute of Chartered Business Valuators ............................................. 150
- Use of financial valuation techniques and expressly adopting a standard of value
Emmanuel LLINARES, NERA Economic Consulting ............................................................................... 161 - Use of financial valuation techniques for transfer pricing purposes
11:00-11:30 Refreshment Break
11:30-12:45 XII: DETERMINING ARM’S LENGTH ROYALTY RATES FOR LICENSING TRANSACTIONS
Speakers:
Brian CODY, KPMG ................................................................................................................................. 167
- Determining arm’s length royalty rates for licensing transactions and
comparability standards for intangibles
Ednaldo SILVA, RoyaltyStat LLC ............................................................................................................. 173
- Use of information from databases
David JARCZYK, ktMINE ........................................................................................................................ 177
- Intangibles: comparability standards and use of information from databases
12:45-13:00 CONCLUDING REMARKS
Speakers:
Michelle LEVAC, Chair of Working Party No. 6
William MORRIS, BIAC
13:00 ADJOURN
Page 4 of 180
SESSION I
DISCUSSION DRAFT ON TRANSFER PRICING SAFE HARBOURS
Speakers:
Patricia LEWIS, Caplin & Drysdale
Michael HECKEL, True Partners Consulting
An THEEUWES, Tax Executives Institute
Page 5 of 180
1
November 12, 2012
-- Safe Harbours -- Comments on
OECD Discussion Draft
Patricia Gimbel Lewis
Caplin & Drysdale One Thomas Circle, N.W. Washington, DC 20005
O: 202.862.5000 F: 202.429.3301
plewis@capdale.com
www.caplindrysdale.com
Page 6 of 180
2
-- Safe Harbours -- General Approach of
Discussion Draft
#1
BILATERAL TRANSFER
PRICING SAFE HARBOURS
Acute Taxpayer and Government
Resource Considerations
Treaty-Based Desires to Respect Arm’s Length Standard, Minimize Double
Taxation, and Increase Certainty
Concern with Potential Adverse
Selection
MOUs
#2 UNILATERAL
SAFE HARBOURS, WITH MAP
Page 7 of 180
3
Particular Usefulness of Bilateral Safe Harbours
Test-drive solutions
Emulate arm’s length result via government negotiation;
reduce adverse selection
Efficiently multiply benefit
Minimize double taxation risk
Enhance compliance
Increase government revenues
Enable customized MOUs for specific-country situations
Reduce impediments to cross-border enterprise
Eliminate inadvertent Permanent Establishment exposure
MOU = Many Ought to Use
Overall: A+
Page 8 of 180
4
Suggested Enhancements
1. Make MOUs simpler and broader o Rough justice
o Anti-abuse rule
2. Provide model MOU for Headquarters/centralized services;
tackle “benefit” aspect
3. Reduce adverse selection potential via advance election or
multi-year requirement
4. Include dynamic safe-harbor updating mechanisms
5. Permit post-year-end adjustments
6. Preclude or limit safe harbors for transactions with tax havens
7. Combine with short-cut APA process for unclear cases
********
Page 9 of 180
1
OECD Public Consultation
Safe Harbours for Transfer Pricing
Paris, 12-14 November 2012
Represented by Anna Theeuwes and Alexander Koelbl
Page 10 of 180
2
TEI welcomes the Draft’s focus on using safe harbours for non-
entrepreneurial, routine tasks; such an approach will make taxpayer
transfer pricing compliance less burdensome
TEI agrees that the use of safe harbours should be optional (i.e.,
taxpayer may use the arm’s length principle or a safe harbour)
tax authorities should not treat a safe harbour as a rebuttable
presumption of the “correct” arm’s length price
TEI recommends working with ranges for safe harbours
Coordination with the Timing Issues Draft, TEI recommends:
that IP valuation should be done ex ante
that any ex post approach approved in the Guidelines be used only in
conjunction with safe harbour rules, and that taxpayers be permitted to
select either the safe harbour or the standard arm’s length approach
Safe Harbours – General considerations
Page 11 of 180
3
OECD should promote the use of safe harbour rules for interest rates,
low value-added services, and shared services
Unilateral safe harbour:
Set in local legislation - easy for member states
Helpful for businesses - for centralised activities out of a country
Bilateral safe harbour:
Set in tax treaty – not so easy for member states
Complex to manage given the multinational character of MNE transactions
OECD should not encourage the use of bilateral memorandum of
understanding (MOUs) too complex to manage given the multinational
character of MNEs transactions.
Multilateral safe harbour:
Basis to be range in OECD commentaries – member states to translate in
DTT or local legislation
Supportive of development of international standards - This would promote
uniformity across MOUs, further decreasing transfer pricing compliance
costs and disputes
Safe Harbours – Type of Safe Harbour
Page 12 of 180
SESSION II
SECRETARIAT REQUEST FOR COMMENTS ON TIMING ISSUES
Speakers:
Duncan NOTT, BDO
Brigitte BAUMGARTNER, Plansee Group Services GmbH
Matthew WALL, MDW Consulting Inc.
Jutta MENNINGER, BSH / PwC
Page 13 of 180
TIMING ISSUES RELATING TO TRANSFER
PRICING Overview
OECD Consultation
DUNCAN NOTT - BDO
8 November 2012
Copyright © November 12 BDO LLP. All rights reserved. Page 14 of 180
TIMING ISSUES RELATING TO TRANSFER PRICING
Overview
Ex ante pricing
• In advance of /
contemporaneous with
transaction date
• Based on historic data,
forecasts and
expectations
• Reflecting functions,
assets and risk at the
transaction date
• Pricing policy
implemented in
management accounts
Timing issues relating to transfer pricing
Page 2
Transaction
date / start
date
Financial
period end
Tax return
filing date
Post hoc pricing
• Set either at the period
end of on preparation
of the tax return
• Based on more recent
historic data and
market and project
data since start date -
reflects actual events
not forecasts
• Implemented through
true ups / transfer
pricing adjustments
Page 15 of 180
TIMING ISSUES RELATING TO TRANSFER PRICING
Practical problems
Key areas for consideration
The existence of two approaches to price setting – ex ante and post hoc – can give
rise to practical problems, including:
• Nature of information regarding potentially comparable transactions that may
be relied upon
• Taxpayer initiated adjustment and whether/how these will be respected by
different taxing authorities
• Use and impact of post-transaction date developments
• Application of these circumstances to transfers of intangibles of highly uncertain
valuation and the ability to assume the existence of a post-transaction risk
sharing mechanism
Timing issues relating to transfer pricing
Page 3
Ex post
Greater flexibility Ex ante
Third party approach
Page 16 of 180
TIMING ISSUES RELATING TO TRANSFER PRICING
Comments and areas for discussion
Clear theory
• Clarifying terms
- Using ex ante pricing over a period of
years – can a forward looking standpoint
be maintained?
• Does a ‘hybrid’ approach exist in
practice?
• Usefulness of ex ante approach for
profit based methods
• Extent (or limit) of incidence of price
adjustment clauses in third party
situations
• Expressing a preference for ex ante or
post hoc pricing in the Guidelines
Timing issues relating to transfer pricing
Page 4
Effective practice
• Clarity on what is appropriate available
information for ex ante pricing
• Identifying a reasonable level for
contemporaneous documentation of ex
ante pricing
• When and how to interpose
retrospective pricing adjustment
- A place for bad business decisions in
transfer pricing policy?
• Enabling the ‘right kind’ of true up
• Creating transparency for tax
authorities without increasing
administrative burden on business
Reflecting the outcome of these areas in the Guidelines
Page 17 of 180
DUNCAN NOTT Director - Transfer Pricing
BDO LLP
+44(0)20 7893 3389 (DDI)
+44(0)780 580 8969 (Mobile)
+44(0)20 7893 2418 (Fax)
duncan.nott@bdo.co.uk
Page 18 of 180
1
Timing issues: The relative merits of arm’s length price-setting and the arm’s length outcome-testing approaches
LL.M. Brigitte Baumgartner International Tax Manager Plansee Group
October 2012
Page 19 of 180
Plansee Group 2
Plansee Group Example
Hardmetals
& Tools
High Performance
Materials
Tungsten
& Powders
Kolkata
Tianjin
Vista
Franklin
Towanda
Warren
Gabrovo
Hitzacker
Lechbruck
Liezen
Reutte
Alserio Seon
St. Pierre en Faucigny
Biel
Niederkorn
Empfingen
Livange
Mamer
Bruntál
Esashi
Sakura
Sales companies
and sales partners
in 50 countries
Mysore
Shanghai
Tamsui
Wugu Zhangzhou Xiamen
Seoul
Page 20 of 180
Plansee Group 4
Certainty: We want to know if we are doing things right! Clarity on: when should be the ex post approach acceptable and
appropriate and adjustments (timing & consequences on VAT and Customs)
Simplicity: regarding the applicability of TPG
Minimization: of possible disputes with the tax authorities and double taxation issues
Examples
Page 22 of 180
Working Party No. 6
Public Consultation on the Transfer Pricing Discussion Drafts 12 - 14 November 2012
OECD Conference Centre, Paris
The determination of transfer prices when valuation is uncertain
Presentation by: Matthew Wall CA CBV
MDW CONSULTING INC.
Page 24 of 180
MDW CONSULTING INC. Page 1
Draft Paragraphs 171 - 178(currently Paragraphs 6.28 - 6.35)
Draft Examples 20 - 22 give More Guidance needed
clearer meaning and purpose to restrict the use of hindsight for
to Paragraphs 171 - 178 "exceptional circumstances"
Draft Examples 20 - 22 Draft Paragraphs 3.67 - 3.71(currently Annex to Chapte VI) (currently Paragraphs 3.67 - 3.71)
Certain changes (e.g., Examples) and more Guidance (e.g., Paragraphs 3.67 - 3.71)
needed to mitigate the risk of misunderstanding, misuse and dispute.
1
2 3
Page 25 of 180
Paragraph 171 – 178 of the Intangibles Draft
• Information should be both relevant and reliable for arm’s length pricing. This might be information at the time of the transaction, in the year of the transaction, or at the year-end or tax filing.
Example Product A Product B
Transfer price at the time of the transaction $13.50 $10.00
Transfer pricing adjustment in the year of the transaction 1.50 5.00
Transfer price at the year-end or tax filing $15.00 $15.00
• More Guidance is needed to restrict the use of information after the year-end or tax filing for “exceptional circumstances only” to avoid the potential for misuse, dispute and double taxation.
MDW CONSULTING INC. Page 2
Page 26 of 180
MDW CONSULTING INC. Page 3
Key Facts and Assumptions Ex. 20 Ex. 21 Ex. 22
a) Fundamental change in the facts? Yes Yes Yes
b) Foreseeable at the time of the agreement? No No No
c) Following third party terms and conditions? Yes No No
OECD Guidance per Discussion Draft
d) Example adjusts the royalty payment? No Yes Yes
e) Example uses a price adjustment clause? No Yes Yes
f) Example uses hindsight? No Yes Yes
SUMMARY CHART of EXAMPLES 20 - 22 from the Intangibles Draft
(This chart is for discussion purposes only and does not reflect MDW's views or comments.)
Page 27 of 180
Hindsight
The Tax Court of Canada has many cases that consistently state each case must be decided based on the facts and circumstances at the time without the benefit of hindsight.
... the Court must not second-guess the business judgment of the taxpayer ... should not use the benefit of 20-20 hindsight to substitute its judgment for the taxpayer’s judgment ...
... the determination ... was made not with the benefit of hindsight. When expenditures are being incurred by a person, that person does not know what the future will hold. Expenses should not be denied simply because a person, with the benefit of hindsight, made a poor business decision.
... This is easy to say in hindsight but not reasonable ...
MDW CONSULTING INC. Page 4
Page 28 of 180
Recommendation
Please consider the following guidance to be included: a) A tax administration’s examination of a controlled transaction ordinarily should be
based on the transaction actually undertaken by the associated enterprises as it has been structured by them, using the methods applied by the taxpayer insofar as these are consistent with the methods described in Chapter III.
b) If the contractual arrangements between the related parties include a price adjustment clause or other terms that require the use of information after the fiscal year or tax filing of the transaction, the tax authority should then be allowed to consider and use this information as it relates to the contractual arrangements.
c) If the economic substance of a transaction differs from its form, the tax authorities should then be allowed to consider the actual facts and circumstances (i.e., not assumptions) involving independent enterprises in the same or similar circumstances, and compare this to a transaction between related parties.
d) In other than the exceptional circumstances described above, information after the fiscal year or tax filing of the transaction should not be used to determine or adjust the arm’s length price of a controlled transaction.
MDW CONSULTING INC. Page 5
Page 29 of 180
References
For further details, please consider:
a) MDW’s comments on the OECD’s Discussion Draft on Intangibles.
b) MDW’s comments on the OECD’s Discussion Draft on Timing Issues.
c) Contacting the presenter at:
Matthew Wall CA CBV MDW Consulting Inc. 416.737.2276 mwall@transferpricingservices.ca
MDW CONSULTING INC. Page 6
Page 30 of 180
OECD - WP 6 - Special Session on the Transfer Pricing Aspects of Intangibles
Paris, November 12, 2012
www.pwc.de
Dr. Jutta Menninger
Page 31 of 180
PwC
Determination of Transfer Prices when valuation is uncertain: What is “highly uncertain”?
• Current Discussion Draft on Intangibles (DDI): paragraphs 171 - 178
• Par. 171 DDI: When valuation of intangible property at the time of the transaction is highly uncertain. See par. 9.87 TPG
• Par. 9.87 TPG: Transaction of an intangible when it does not have an established value (e.g. pre-exploitation).
• Several disciplines (economics, physics, natural science) provide support, how to deal with risk and uncertainty via statistical tools.
• Valuation practice uses methods like the Monte Carlo Simulation:
- Sensitivity analysis to understand the effect of uncertainty,
- Numerical estimation of probability distribution,
- Random number generators with certain statistical properties.
2
November 2012
Page 32 of 180
PwC
Determination of Transfer Prices when valuation is uncertain: Steps to deal with high uncertainty
• Par. 172 DDI: In determining the anticipated benefits, financial valuation techniques, particularly those based on the discounted value of projected cash flows, may be helpful tools.
• Par. 173 DDI: Shorter-Term agreements or price adjustment clauses
• Par. 174 DDI: Renegotiation of pricing agreements by mutual agreement of the parties
• Par. 175 DDI: The arrangements that would have been made in comparable circumstances by independent enterprises should be followed without using hindsight.
3
November 2012
Page 33 of 180
PwC
Determination of Transfer Prices when valuation is uncertain: Suggested changes to DDI
• Define, what is meant by “highly uncertain”.
• Introduce statistical tools as a means to deal with risk and uncertainty, e.g. in par. 172 and maybe also in example 21.
• In most cases performing a sensitivity analysis based on statistical tools should be sufficient to determine a reliable transfer price at the time of the transaction.
• Alternatively the taxpayer might be allowed to agree a price adjustment clause at the time of the transaction; although it should be noted, that in third party transactions this is not very often the case.
4
November 2012
Page 34 of 180
PwC
Contact WP/StB Dr. Jutta Menninger Partner Transfer Pricing and Valuation Services PwC Munich, Bernhard-Wicki-Str. 8 Phone: +49 89 5790-6400 E-Mail: jutta.menninger@de.pwc.com
5
November 2012
Page 35 of 180
Thank you…
© 2011 PricewaterhouseCoopers AG Wirtschaftsprüfungsgesellschaft. Alle Rechte
vorbehalten. In diesem Dokument bezieht sich "PwC" auf die PricewaterhouseCoopers
Aktiengesellschaft Wirtschaftsprüfungsgesellschaft, Frankfurt am Main, die eine
Mitgliedsgesellschaft der PricewaterhouseCoopers International Limited (PwCIL) ist. Jede der
Mitgliedsgesellschaften der PwCIL ist eine rechtlich und wirtschaftlich selbständige
Gesellschaft.
Page 36 of 180
SESSION III
GENERAL DEFINITIONAL APPROACH FOR INTANGIBLES
Speakers:
Jennifer RHEE, Richter Consulting
Vanessa. DE SAINT BLANQUAT, MEDEF
Anne QUENEDEY, SALANS
Page 37 of 180
WWW.RICHTERCONSULTING.COM
Public Consultation with the OECD Definitional Aspects of Intangibles
Paris
November 12 - 14, 2012
Page 38 of 180
OECD Invites Comments on the Scoping of its Project on
Intangibles - 2010
• Need for a clear definition and criteria of “intangibles” for transfer pricing purposes:
– Accounting, legal, economic, or transfer pricing definition.
• Categorization of intangibles:
– “Soft” vs. “hard” intangibles;
– Routine vs. non-routine intangibles;
– Legally vs. non-legally owned intangibles.
• Further guidance on specific types of intangibles:
– Marketing intangibles;
– Know-how and trade secrets.
1 Page 39 of 180
The Scoping Document on Intangibles is Released by the
OECD - 2011
• Specific areas identified for further work in terms of definitional aspects related to intangibles:
– Usefulness of language related to payment for transfers of “something of value” from Chapter IX;
– Relevance and usefulness of accounting, financial valuation, and legal definitions;
– Factors to consider in determining whether or not an intangible is used or transferred:
• Future economic benefits;
• Legal protection;
• Separate transferability.
– Relevance and usefulness of the categorization of intangibles:
• Routine and non-routine intangibles;
• Marketing and trade intangibles.
2 Page 40 of 180
OECD Releases a Discussion Draft on the Transfer
Pricing Aspects of Intangibles - June 2012
• Definition in the Discussion Draft:
– “The word “intangible” is intended to address something which is not a physical asset or a financial
asset, and which is capable of being owned or controlled for use in commercial activities.”
• No reliance on accounting or legal definition of an intangible;
• Legal protection and separate transferability being not necessary conditions for an intangible;
• Distinguish intangibles from market conditions;
• No attempt is made towards the categorization of intangibles;
• A general list of illustrations is provided to give further guidance on identifying intangibles.
3 Page 41 of 180
Comments Provided by the Public on the Discussion
Draft - September 2012
• Majority of the respondents, who provided comments on the definition, see it as too broad and not
precise enough.
4
Too broad, 42%
Good as is, 9% Too narrow, 5%
No comment, 44%
The definition of intangibles is
Page 42 of 180
Comments Provided by the Public on the Discussion
Draft - September 2012
• Major areas of concern of the public with respect to the definition of intangibles:
– An intangible is defined as “something”, and not as an “asset” or as a “property”;
– Transferability of an intangible;
– Legal and/or contractual protection of an intangible.
• Other concerns:
– Categorization of intangibles;
– Goodwill and going concern as intangibles;
– Assembled workforce viewed primarily as non-intangible;
– Group synergies.
5 Page 43 of 180
Questions
• Does the Discussion Draft achieve the objectives established in the scoping document?
• Does the definition of intangibles assist in the following:
– Identify when an intangible asset has been transferred between related companies; or
– Identify the existence of an intangible asset in determining intercompany pricing?
6 Page 44 of 180
General definitional approach for intangibles
Vanessa de Saint-Blanquat
OECD – 12th November 2012
Page 45 of 180
2
Why is a clear definition of intangibles necessary in the area of transfer pricing?
Key concerns:
1. Intangible assets resulting from a subjective view (ex-post analysis, vague definition, valuation, related return, residual profit split …) a) will create intangibles that might not be internationally recognised as such
b) contradicts the aim of the OECD TP Guidelines that transaction and its price can only be determined if its nature is previously and clearly identified
c) creates insecurity for both taxpayers and tax administrations + increases double taxation risks
2. Solution should be based on simple definition and formal process
3. Objective : to protect administration and MNE’s interests (proper allocation of profits & facilitating business economic activities)
Page 46 of 180
What is an asset? What is an intangible? What is an intangible asset?
ASSET
Recognised by legal, contractual or accounting principles and subject to
ownership, control and transferability
INTANGIBLE
3 cumulative factors : protection (ex ante or ex post),
functions (creation, maintenance and management),
costs
INTANGIBLE ASSET
Meets both criteria of an intangible and an asset
(all assets are not intangibles and all intangibles are not assets)
3
Not an asset if not transferrable (excluded : “something”)
Not an intangible if only “right of income”, added-value or expense
Page 47 of 180
What about in practice?
An intangible that is not an
asset
A company owns an intangible and licenses it to its subsidiary, which sells and commercialises the goods or services developed by its parent company. The subsidiary indeed contributes to local market development and needs to earn sufficient margin to reflect this, but does not “co-own” its parent’s intangible because it solely plays a normal role in the value chain
An asset that is not an intangible
If a company restructures its business and ceases to carry out an activity that is transferred to another company in the group (eg: a local company is closed as another company handles its activity with more synergies at a regional level from another country), some assets may be transferred from one company to the other, but such transfer of assets does not imply the transfer of an intangible
4
Process : 2 step analysis 1. Does an intangible exist? (according to the aforementioned definition) 2. How is it included in the TP policy ? (according to economic & functional analysis)
Page 48 of 180
Intangibles : the relevance of property law
definitions, accounting definitions and
separate transferability
Anne Quenedey
Partner
Email : aquenedey@salans.com
12 November 2012
Page 49 of 180
Relevance of property law definitions
Most detailed comments not in Part A “Identifying Intangibles” (paragraph
7) of the Discussion Draft but in Part B “Identification of Parties Entitled to
Intangible Related Returns” (paragraphs 30 to 36)
What is already acknowledged in the Discussion Draft:
Intangibles protectable under intellectual property registration systems
Intangibles legally protected via unfair competition legislation or other
unforceable laws or by means of employment contracts
“There may also be intangibles whose use is not protected under any
applicable law” (paragraph 32)
However : “Because legal registrations and relevant contracts form the
starting point for an analysis of which members of an MNE group are
entitled to intangible related returns, it is good practice for associated
enterprises to document in writing their decisions to allocate significant
rights in intangibles […].” (paragraph 36)
Page 50 of 180
Relevance of accounting definitions
“Intangibles that are important to consider for transfer pricing purposes
are not always recognised as intangible assets for accounting purposes.”
(paragraph 6)
Comments on the example of research and development costs:
Research and development costs are not always booked as an asset for
accounting purposes (paragraph 6)
Not all research and development expenditures produce or enhance an
intangible (paragraph 10)
accounted : YES = INTANGIBLE
R & D
accounted : NO
accountable : YES = INTANGIBLE ?
accountable : NO
Page 51 of 180
Relevance of separate transferability
Discussion Draft:
“while some intangibles may be identified separately and transferred on
a segregated basis, other intangibles may be transferred only in
combination with other business assets. Therefore, separate
transferability is not a necessary condition for an item to be characterised
as an intangible for transfer pricing purposes.” (paragraph 7)
“It may sometimes be difficult or impossible to segregate or separately
transfer the various intangibles contributing to brand value.” (paragraph
19)
“It is generally recognized that goodwill and ongoing concern value
cannot be segregated or transferred separately from other business
assets.” (paragraph 21)
Transferability separate or not is a necessary condition
Page 52 of 180
SESSION IV
CATEGORIES OF INTANGIBLES
Speakers:
Ronald VAN DEN BREKEL, Ernst & Young
Wendy NICHOLLS, Grant Thornton UK
Page 53 of 180
Discussion Draft on Intangibles
OECD Public Consultation 12 November 2012
Ronald van den Brekel, Ernst & Young
Page 54 of 180
Introduction
► Section D.1.(vi) Intangibles: ► An intangible (i) that is not similar to intangibles used by or
available to parties to potentially comparable transactions, (ii)
whose use in business operations (e.g. in manufacturing, provision
of services, marketing, sales, or administration) is expected to yield
greater future economic benefits than would be expected in the
absence of the intangible, and (iii) whose use or transfer would be
remunerated in dealings between independent parties, will be
referred to as a Section D.1.(vi) intangible.
► Unique and valuable intangibles vs. routine intangibles in
context of comparability
► Relationship with profit split
Page 56 of 180
Use of having a definition of a unique and valuable intangible
► Welcome attempt to clarify “unique and valuable”
► DD par 121: “only where the intangibles in question can be clearly and distinctly identified and where the intangibles are manifestly section D.1.(vi) intangibles.
► Relationship with “unique and valuable contributions”
► Comparability ► 1) tested party = “routine” function -> avoid (routine) rejection of
comparables
► 2) tested party = intangible owner -> proposed concept might lead to (routinely) rejecting CUT’s
Page 57 of 180
Points of attention
► Concept
► Avoid “artificially” splitting an intangible into several “micro
intangibles” or otherwise “unbundling” or “atomizing” intangibles
► To distinct between unique/valuable and routine. However: risk
that comparability factors by “backdoor” are promoted to
intangibles -> to be clarified
► Definition in draft
► Replace by more natural term
► Subjective and circular -> to be further elaborated
Page 58 of 180
Ernst & Young
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© 2012 EYGM Limited.
All Rights Reserved.
This publication contains information in summary form and is therefore intended for general guidance only. It is not
intended to be a substitute for detailed research or the exercise of professional judgment. Neither EYG Limited nor any
other member firm of the global Ernst & Young organization can accept any responsibility for loss occasioned to any person
acting or refraining from action as a result of any material in this publication. On any specific matter, reference should be
made to the appropriate advisor.
Page 59 of 180
© 2012 Grant Thornton UK LLP. All rights reserved.
Categorisation of Intangibles: Should the Discussion
Draft Distinguish Between Routine vs. Unique and
Valuable Intangibles?
Wendy Nicholls
Partner, Head of Transfer Pricing
Grant Thornton UK LLP
Page 60 of 180
© 2012 Grant Thornton UK LLP. All rights reserved.
Routine vs Non-routine: not helpful; not clear; not useful?
• Are 'routine' intangibles something that protects the business from competition
but do not create super profits?
• If so, 'routine' intangibles are presumably assets or rights used in the ordinary
course of business, for example brought into being by
'normal' levels of expenditure on marketing (by distributors) or
know-how that is widely available in the market (by a manufacturer or
service provider)
• Our (and some other contributors') views are that intangibles must be capable of
separate transferability for a consideration
• Hence, we do not consider that most 'routine' intangibles would be intangibles
and the distinction would be moot
• The Draft suggests 'separate transferability is not a necessary condition...' (para
7) but does seem to agree that the routine vs non-routine distinction is not
necessary and the approach should 'not turn on these categorisations' (para 13)
Page 61 of 180
© 2012 Grant Thornton UK LLP. All rights reserved.
Routine vs Non-routine: are they terms used by business?
• Is a 'routine' intangible actually an intangible at all?
• Is it an arbitrary distinction? Are these terms used by businesses?
• Is there a 'bright line' between what is routine and what is not?
• Does one extra euro of marketing spend require the parties to share the
intangible related returns? Is that consistent with third party behaviour?
• We agree not all intangibles, even unique ones, are valuable (consider all the
redundant patents that gather dust on shelves) or consistently maintain that
value throughout their lives.
• We also agree that the distinction between valuable intangibles (which would
generate extra profit potential and which one might be able to sell) and other
intangibles is vital to get the transfer pricing right
• The concept of 'unique and valuable' is therefore a helpful distinction (see para
128 regarding profit split and para 2.109). Distinguishing the term 'unique and
valuable' reduces the need for inclusion of the term 'routine'.
Page 62 of 180
© 2012 Grant Thornton UK LLP. All rights reserved.
Routine vs Non-routine: suggested way forward
• Whilst para 13 suggests that WP6 has not relied on the routine vs non-routine
distinction, references are made to it in para 108 (residual profit split), para 148
(financial projections) and again in para 166 (useful life)
• If, as we and presumably WP6, believe, the routine vs non-routine distinction is
arbitrary, tends towards over simplistic assumptions and does not add clarity to
the analysis of who should get 'intangible related returns', then these
inconsistent references should be removed
• In conclusion:
We agree with WP6's view that there should not be a distinction between
routine and non-routine intangibles
We consider that the distinction between 'unique and valuable' intangibles
and other intangibles is vital to get the transfer pricing right
Further guidance on comparability is needed in this area (especially
qualitative factors) and work is required to make the wording in the Draft
more internally consistent
Page 63 of 180
SESSION V
TREATMENT OF GOODWILL AND WORKFORCE IN PLACE
Speakers:
Caroline SILBERZTEIN, Baker & McKenzie
Agata UCEDA, International Tax Centre, Leiden
Laurence DELORME, A3F
Page 64 of 180
BAKER & MCKENZIE GLOBAL TRANSFER PRICING AND GLOBAL TAX
POLICY GROUPS
Goodwill and transfer pricing
OECD consultation, 12-14 November 2012
Caroline Silberztein, Partner
caroline.silberztein@bakermckenzie.com
Page 65 of 180
Need clear definition(s) for an "important and monetarily
significant" TP intangible: different words for fundamentally
differing concepts (not a mere question of “context”):
Name Proposed definition Reference
Goodwill Portion of the purchase price, paid in
the context of an acquisition of an
entire business, which is not allocable
to any identified asset of said
acquired business
Accounting
Going concern A business or activity which is not
about to be liquidated
Accounting
Common law
goodwill
Clientele, activity Legal
Profit potential Expected future profits / losses Not an intangible asset but
a concept used for
valuation purposes; see
Glossary and TPG 9.66
Reputational
characteristics
Reputational characteristics of
otherwise existing assets
Comparability factors
2
Page 66 of 180
Examples could be improved if it was made clear
what notion they are referring to:
– Example 13 : “… over the years of its operation in branch form,
Ilcha developed substantial goodwill and ongoing concern value
in country B. The transfer of the going business to Company S…
implicitly conveys the value of that continuing goodwill to
Company S” => Valuation of assets transferred in combination?
– Example 14: Whether Company S is or is not ”entitled to
intangible related returns associated with goodwill in respect of
Product Y created through the advertising costs it has borne.”
=> Product-related marketing intangible?
– Example 15: “Depending on the facts, a substantial portion of the
value described in the purchase price allocation as goodwill of
Company T may have been transferred to Company S together
with the other Company T intangibles… may have been retained
by Company T.” => Premium paid above identified asset value? 3
Page 67 of 180
Goodwill (accounting definition, “survaleur”) may
arise from a number of factors, for instance:
– Intangible assets which are not identified or are specifically allocated
to goodwill for accounting purposes
– Control premium paid by the acquirer,
– Premium to exclude competitors from the acquisition
– Premium paid because of anticipated synergies with the
acquirer's other assets or activities (may or may not materialise)
– Over-optimistic evaluation by an acquirer who has imperfect
information on the assets and liabilities of the acquired entity
(as is always the case in arm's length acquisitions)
– Etc.
Goodwill should therefore not be assumed to systematically
correspond to the value of assets of the acquired entity;
Goodwill value may or may not disappear, depending on the
facts and circumstances of each case.
4
Page 68 of 180
BAKER & MCKENZIE GLOBAL TRANSFER PRICING AND GLOBAL TAX
POLICY GROUPS
Thank you for the opportunity to share
our views and contribute to the debate
on this important OECD project.
Page 69 of 180
Goodwill definition Accounting: purchase price minus fair market value of assets
Psychology (buyer): bigger ego of the CEO -> bigger goodwill
Commercial/Legal: good reputation, clientele and established (assembled) well run business
Other languages: fondo de comercio (well established, synergies of the business)
Etymology: hope that "good will" come and several religious meanings
Synergy and established/assembled business common factor in all definitions
In all cases the concept has an objective/intrinsic component and (often more dominant) subjective/external component
Date of presentation Insert filename here 1 Page 70 of 180
Goodwill measurement Value, like beauty, is in the eye of the beholder
Aggregate value of assets vs. sum of separate tangibles and intangibles (definition in draft par. 20) ~ what is the difference to synergies?
If all intangibles assets are already identified and valued AND synergies, market circumstances, assembled workforce and other factors are considered in the comparability analysis: is there anything left?
Is there really anything left?
Most likely not, but if there is, that must be "goodwill"
Proposition: goodwill for transfer pricing purposes as the synergies resulting from having certain Functions Risks and Assets established
Date of presentation Insert filename here 2 Page 71 of 180
Why does it matter? For transfer pricing purposes goodwill matters primarily when
buying/selling assets intercompany: is there any goodwill? where? how do we account for it?
Possible scenarios: When selling going concern (full business): what happens to goodwill?
When selling only some fixed or intangible assets whereas rest of the business stays: what happens to goodwill?
When selling a combination of Functions Risks and Assets ("FRAs") while some FRAs stay locally: what happens to goodwill?
Date of presentation Insert filename here 4 Page 73 of 180
The OECD public consultation on the Discussion Drafts on issues related to Transfer Pricing Safe Harbours, Timing Issues and Intangibles
The OECD Conference Centre, Paris
12-14 November 2012
Discussion Draft (« DD ») on Intangibles Provisions on Assembled Workforce
Laurence Delorme
Page 74 of 180
Assembled Workforce in DD Section A paragraphs 25 & 26, and section D paragraph 124
Comparability factor
impacting arm’s length price for services
(25) Existence of a uniquely qualified/experienced employee group may affect arm’s length price for services provided or goods produced
(26) Transfer of an existing assembled workforce may provide a benefit to the transferee by saving it expense/difficulty of hiring and training new workforce
(26) Transfer or secondment of isolated employees does not, in and of itself, constitute the transfer of an intangible
(124) Comparability adjustments may be required for matters such as assembled workforce. While such factors may not be intangibles (within meaning of section A.1.), they can nevertheless have important effects on arm’s length prices in matters involving the use of intangibles.
Intangible
capable of being transferred for a price
(26) Contractual rights and obligations MAY be intangibles within meaning of section A.1, so that a long term contractual commitment to make available the services of uniquely qualified employees MAY constitute an intangible
(26) As a factual matter, a transfer or secondment of employees MAY result in the transfer of valuable know-how or trade secrets for which compensation MAY be required in arm’s length dealings.
12 November 2012 A3F Association Française des Femmes Fiscalistes 2 Page 75 of 180
Business comments (1/2)
• Ambiguities in DD
(i) what is meant under “transfer of an assembled workforce”, and
(ii) whether “assembled workforce” qualifies as an intangible (within the meaning of section A.1 of the DD), or comparability factor (paragraph 124)
• Clarifications needed
Circumstances when “a long term contractual commitment to make available the services of
uniquely qualified employees may constitute an intangible”
– Employer entitled to claim compensation from an employee, based on e.g. unfair competition legislation or labour law, employment contract restricting employee’s freedom (non compete, non disclosure agreement, star athletes’ contracts)
– Where this is the case based upon legal rights and obligations, transaction to be valued would relate to know-how and trade secrets themselves (or to value provided in the contract), and not to group of employees
• Clarifications and practical guidance needed
– How in practice to undertake comparability adjustments for differences in factors such as assembled workforce
12 November 2012 A3F Association Française des Femmes Fiscalistes 3 Page 76 of 180
Business comments (2/2)
• Employee secondments (international mobility within MNEs)
– Globalization, division and specialization of labour within MNEs – Economic necessity for cooperation on an international basis => extensive secondment
programs for engineers and management executives – Seconded employees retain employment contract with home office and remain on home
payroll – Service transactions, appropriately compensated with a cost or cost plus method – Skills and expertise as comparability factors only, not intangibles
• Assembled workforce
– Cannot be “owned or controlled” by the employer, hence cannot be sold or licensed independently of the entire business to which the workforce relates, i.e. issue of “transfer of an assembled workforce” arises only as part of a business transfer
– As such, to be considered as business attribute that influence the value of an MNE’s assets, but not to be qualified as an intangible asset
– Assembled workforce is NOT an intangible within the meaning of section A.1 – Assembled workforce can contribute to the development of intangibles (e.g. know-how and
other legally protectable intangibles), and should be taken into consideration in transfer pricing comparability analysis
12 November 2012 A3F Association Française des Femmes Fiscalistes 4 Page 77 of 180
SESSION VI
DOES THE DISCUSSION DRAFT FOCUS TOO HEAVILY ON
RESTRAINING ABUSIVE BEHAVIOUR?
Speakers:
Georg GEBERTH, BIAC
James PHILLIPS
Page 78 of 180
Seite 1/5 November 2012 Georg Geberth (Siemens AG)
Public Hearing on the treatment of Intangible
Assets
12th November 2012
Paris
Does the Discussion Draft focus too heavily on
Restraining Abusive Behaviour?
Page 79 of 180
Seite 2/5 November 2012 Georg Geberth (Siemens AG)
Businesses need a clear Definition of „Intangible“ not driven by Anti-Abuse
The draft definition (« something ») is too vague and clearly driven by
anti-abuse thoughts. Businesses need more clarity.
Foundation of a Definition of Intangibles
• Legal principles
• Accounting Principles
• Contractual arrangements
Possible elements of a definition
• An asset
• Being capable of being owned and controlled
• Separately transferrable
Page 80 of 180
Seite 3/5 November 2012 Georg Geberth (Siemens AG)
Business concerns over Anti-Abuse Language
The draft implicitely focuses on abuse by mentioning numerous times
that legal consequences apply only « where the parties’ conduct is
aligned with contracts » etc.
Examples:
• In total this or a similar wording is being used in at least 13 Paragraphs (29,
35, 37, 38, 40, 41, 42, 44, 46, 48, 55, 66, 180)
• It would be better to have a clear wording, without mentioning the possibility
of an abusive behaviour in all those cases
• Instead, a general clause could be added at the end of the text
Page 81 of 180
Seite 4/5 November 2012 Georg Geberth (Siemens AG)
Instead, Businesses need a clear Allocation Process
The draft does not define a clear and reliable process for the Allocation
of Intangible Assets. Businesses need more certainty.
Allocation of Intangibles:
• Who owns legal protection?
• Who performs functions in relation to the ownership, the maintenance or the
management of the intangible?
• Who incurs costs in relation to the intangible?
• Right to earn income from exploiting the asset
• Right to exclude others from exploiting the asset
• Right to transfer ownership or use of the asset to another owner
Page 82 of 180
Does the Discussion Draft focus too heavily on restraining abusive
behaviour?
Tuesday 13 November
James Phillips Comments are provided in a personal capacity only
Page 83 of 180
• The purpose of the OECD Guidelines should be to provide a common and objective framework, acceptable to both businesses and tax administrations, multilaterally, to help reduce the risk, and the incidence, of double or less than single taxation.
• The purpose of the OECD Guidelines is not to provide, or substitute for domestic, anti-avoidance or anti-abuse guidance or legislation.
• Unfortunately, the general tone of the current draft, no doubt a reflection of governments under domestic political pressure to increase tax yields from MNEs, seems to emphasise a preconception of, certain, tax administrations that the OECD Guidelines are an avoidance tool used by multinationals to avoid taxation which is their due.
• Whilst it may seem self-evident, it does bear repeating that MNEs are just as worried about double taxation as Tax Administrations and their governments are about less than single taxation, and this dynamic can impact investment decisions.
• This is most particularly true at the interface between Developed and Emerging Economies and intangibles are a frequent source of concern on such issues.
Introductory comments
Page 84 of 180
• The organisation and structuring of IP by an MNE is often done for wholly legitimate business reasons and it should not be seen as some form of automatic indication of aggressive tax planning.
• It is best practice for businesses to ensure strong control, which can often mean centralised control, of all of their high-value assets and this is even more true of intangible assets which are at particular risk of being exploited in an unauthorised manner.
• Businesses are required to respect the arm’s length principle, including for their intangibles - it is not a choice and correct transfer pricing is, in nature, a compliance obligation.
• Whilst profit splits for intangibles may superficially appear tempting, their current emphasis in Chapter VI is likely to generate serious unwanted consequences, particularly in relation to materially higher compliance burdens and costs for MNEs and significantly greater incidences of double taxation.
• Chapter VI, once finalized, should strive to continue the OECD’s solid track record in guiding Tax Administrations and MNEs alike in their interpretation of Article 9, particularly in such a difficult topic area as intangibles.
Introductory comments
Page 85 of 180
• The OECD Guidelines and Chapter VI must therefore continue to be fundamentally based around what independent parties would do in unrelated transactions – i.e., they must reaffirm the pre-eminence of the arm’s length principle in the context of the transfer pricing of intangibles.
• More specifically, the Guidelines should focus around their primary and founding purpose – to provide an acceptable structure for taxpayers and tax administrations to work within in order to help avoid double and less than single taxation and, by so doing, allow international trade to grow and do its part to help rebuild the world economy.
• Using the OECD Guidelines other than for determining the arm’s length principle is to render the consensus weakened for increased international trade which has been so important in helping deliver economic growth, and reducing global poverty, over the last 20 years.
• The current financial crisis will, eventually, pass - it is far from historically unique. If, however, an additional long-term impact of the Great Recession is to retrench cross-border trade by reducing opportunities for profitable gain via the institutionalisation of double taxation, its legacy will be even more negative than it already is.
Introductory comments
Page 86 of 180
SESSION VII
DOES THE DISCUSSION DRAFT PLACE TOO MUCH EMPHASIS ON
PROFIT SPLIT APPROACHES?
Speakers:
Gary SPRAGUE, Treaty Policy Working Group
Arnaud LE BOULANGER, CMS Bureau Francis Lefebvre
Page 87 of 180
TREATY POLICY WORKING GROUP
Does the Discussion Draft Place Too Much
Emphasis on Profit Split Approaches?
OECD WP6 Consultation, 12-14 November 2012
Gary D. Sprague, Partner (gary.sprague@bakermckenzie.com)
Holly E. Glenn, Principal Economist (holly.glenn@bakermckenzie.com)
Page 88 of 180
Discussion Draft Does Place Too Much Emphasis
on Profit Split Approaches
– Under the most reliable method requirement of the TPG, a method other than
the PSM normally is the most appropriate method to apply to many
transactions involving rights in or use of intangibles.
– All other methods (except CUP) are based directly on comparable entities
which themselves own and exploit the important intangibles necessary for
their business.
Comparable distribution entities may own client lists, operate in fast growing
markets, employ an experienced sales force, and have experience in branded
goods distribution.
Comparable manufacturing entities may own process technology, employ a
skilled workforce, and own highly sophisticated production assets.
Comparable R&D entities may employ highly skilled engineers, have deep
expertise in the industry, and have a long track record of developing successful
products.
– “Comparable” does not mean “identical”. It means no material differences, or
that material differences can be addressed with “reasonably accurate
adjustments”. TPG 1.33.
– Assuming reliable comparables (with comparability adjustments when
needed), a one-sided method is appropriate in most cases and a CUP method
also normally is more reliable than a PSM.
2 Page 89 of 180
Existing TPG Guidance on Selection of Methods
Normally Can Apply
– One-sided methods normally should apply when local entity is not making
unique contributions. TPG 2.59, 3.18, 3.19.
TPG 2.109 refers expressly to contract manufacturing and contract service
activities.
– The use of intangibles that are normal to the function is not a reason to use a
two-sided method. TPG 2.60.
Examples: distribution of branded goods, deployment of experienced
development team, manufacturing using process intangibles.
We agree with DD para. 87 on this point.
– Comparability adjustments can be made as necessary. TPG 2.68.
Example: adjustments can account for differences in technology in product,
barriers to entry, growing market share, etc. TPG 2.72.
– The TPG provide additional tools to increase reliability.
Use of the arm’s length range. TPG 2.73.
Choice among different possible net profit indicators. TPG 2.76.
3 Page 90 of 180
Discussion Draft Should Focus on Reliability
– PSM frequently is an appropriate method when exploitation and further
development rights are transferred, as both sides to the transaction typically
are making unique and valuable contributions.
– PSM is not the most appropriate method when reliable comparables exist to
used a one-sided method.
Use of PSM, usually without comparable data, generally requires economically
complex and frequently controversial assumptions.
Fact that a group is profitable or that “something of value” may exist in an
entity’s business is not a principled reason to employ PSM.
PSM will also require loss sharing, if method is applied consistently.
– Recommendations:
Discussion Draft should acknowledge cases where one-sided methods normally
are appropriate.
Further guidance could be provided on comparability factors and on use of
comparability adjustments to improve reliability of one-sided methods in
transactions involving the use of intangibles.
Further guidance could be provided in TPG 3.38 and 3.39 for cases where
availability of local comparables is limited.
Paras. 128, 136 and 141 should be reconsidered.
4 Page 91 of 180
TREATY POLICY WORKING GROUP
Thank you for the opportunity to share our
views and contribute to the debate on this
important OECD project.
Page 92 of 180
|
OECD – Public consultation on transfer pricing discussion
drafts - Intangibles
Does the Discussion Draft Place Too Much Emphasis
on Profit Split Approaches?
Arnaud Le Boulanger, CMS Bureau Francis Lefebvre
Partner, Chief Economist
13 November 2012
OECD Conference Centre, Paris
Page 93 of 180
|
Does the Discussion Draft Place Too Much Emphasis on
Profit Split Approaches?
– Many commentators (more than 25) discuss in their response the fact that
the discussion draft places too much emphasis on Profit Split approaches, or
at least present drawbacks of this method that may not be sufficiently
addressed in the document
• Why do respondents largely appear to express the same general comments?
• Recommendations to better balance the merits and drawbacks of the Profit Split
method compared to others
13/11/2012 2 Page 94 of 180
|
Why do so many respondents believe that the discussion
draft places too much emphasis on Profit Split approaches?
– The proposed guidelines set quite significant restrictions to the use of
any methods…
– Standards required for comparability purposes have been raised again to a level
that may disregard the concept of reasonableness expressed in Chapter I of the
OECD Guidelines
– The draft includes a very interesting discussion on valuation techniques.
However, the draft is largely focused on the drawbacks of these methods and on
the degree of subjectivity required to apply them
– Other methods, such as some one-sided ones as the TNMM, are not specifically
discussed in the draft
– … except to the use of the Profit Split method
13/11/2012 3 Page 95 of 180
|
Recommendations to better balance the merits and
drawbacks of the Profit Split method compared to others
– Does the Discussion draft miss some drawbacks of the Profit Split method?
• Is this really a method that unrelated parties would use for intangibles?
– Unrelated parties only rarely share any information regarding their profits, in transactions involving strategic assets such as intangibles
– In what circumstances would unrelated parties use it for intangibles?
– How to minimize possible debates between taxpayers and tax administrations over Profit Split approaches when applied to transactions involving intangibles?
• In our experience, Profit Split methods that create less debates between taxpayers and tax administrations are generally those based on allocation keys using obvious, quantitative data readily available such as costs or workforce.
• Is this applicable to transactions involving intangibles?
13/11/2012 4 Page 96 of 180
SESSION VIII
INTANGIBLES:
ENTITLEMENT TO INTANGIBLE RELATED RETURNS
Speakers:
Alison LOBB and John HENSHALL, Deloitte
Linda FERNANDEZ, Transfer Pricing Discussion Group
Page 97 of 180
© 2012 Deloitte LLP. Private and confidential.
The treatment of risk and control of risk, including the consistency of the draft with Chapter IX TPG
Revision of Chapter VI Special Considerations for Intangibles
WP6 Public Consultation
13 November 2012
John Henshall, Partner, Deloitte
Page 98 of 180
© 2012 Deloitte LLP. Private and confidential.
Recognition of the arm’s length principle • Intangible property rights are commercial assets; a form of monopoly granted
by law.
• The arm’s length principle requires that MNEs follow what happens between
unrelated parties according to IP laws and commercial practice.
• The Guidelines need to help MNEs and tax authorities to understand what
happens between unrelated parties and how to gather evidence to show
compliance with the arm’s length principle. The level of functional control
required is therefore that which an independent party would be expected to
have in comparable circumstances.
• Where comparable data exists to show the allocation of risk associated with
intangible-related activity, this is the best material that MNEs and tax authorities
can provide to evidence compliance with the arm’s length principle. If such
evidence is available, and comparability adequately assessed, then compliance
with the arm’s length principle has been satisfied.
• Where such third party evidence is not available, then, as for functions, the
guidance should take into account the allocation of risk when allocating
intangible related returns. In that case, is there consistency with Chapter IX?
2 OECD WP6 Public Consultation Nov. 2012 Page 99 of 180
© 2012 Deloitte LLP. Private and confidential.
Consistency with Chapter IX (Business Restructuring) • Inconsistency can arise between Chapter VI and Chapter IX only if the
guidance in either one would lead to a non-arm’s length result.
• Per Chapter IX the examination of risks should start with the contractual
arrangements between the parties. The three additional questions that should
be asked also apply to intangibles: ‒ Is the allocation of risks in the controlled transaction arm’s length?
‒ Does the conduct conform to the contractual allocation?
‒ What are the consequences of the risk allocation?
• The impact of the allocation of risk, and conduct of the parties, is decided for
independent parties by IP law. Chapter VI must respect that position under the
arm’s length principle.
• Commercial court cases around the world provide one source of evidence of
how third parties should agree the impact of risk and activity allocation on the
right to enjoy a return from intangibles. This material should be used when
available to provide factual evidence of arm’s length behaviour, and in particular
takes into account the relative bargaining power of the parties.
• See for example • Jay-Lor International Inc et Al v Penta Farm Systems Ltd et Al 2007 FC358,
• Allied Signal Inc v Dupont Canada Inc (1998) 78 CPR (3d) 129,
• Uniloc USA Inc v Microsoft Corp., 632 F.3d 1292 (Fed. Cir. Jan 4, 2011) and
• Meridian International Services Limited v Richardson &ors (08) EWCA Civ 09
3 OECD WP6 Public Consultation Nov. 2012 Page 100 of 180
© 2012 Deloitte LLP. Private and confidential.
Treatment of risk if no arm’s length evidence available
• Relevant (but not conclusive) factors to consider in determining whether
arrangements are arm’s length are
• functional control of and capability to undertake risks; and
• financial capacity to bear the associated risks; and
• commercial “reality” of the transaction, including evidence of arm’s length behaviour in
a commercial setting or dispute.
This is consistent with Paragraph 9.22 of Chapter IX:
• It is only in the absence of comparable transactions evidencing the consistency
with the arm’s length principle of the risk allocation in a controlled transaction
that the examination of which party has greater control over that risk is relevant;
• In such circumstances, the examination of which party would have greater
control over the risk “...can be a relevant factor”, meaning both that it need not
be a relevant factor and that even if it is, it is not the only (or determinative)
factor; and
• The financial wherewithal to bear risk is also a relevant but not determinative
factor.
4 OECD WP6 Public Consultation Nov. 2012 Page 101 of 180
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Page 102 of 180
Topic: Entitlement to Intangible-
Related Returns Under DDI
Transfer Pricing Discussion Group (“TPDG”) Founded and Chaired by Steven Hannes,
McDermott Will & Emery
Presentation for TPDG by Linda H. Fernandez, J.D.
Eli Lilly
OECD Business Consultation on 2012 Discussion Draft on Transfer Pricing For
Intangibles (“DDI”) November 12-14, 2012
Page 103 of 180
2
Return Entitlement
• TPDG supports DDI’s introductory statement: where relevant registrations and contractual arrangements align with the conduct of the parties, the party entitled to use the intangible (and exclude others from using it) is the party entitled to intangible returns.
• TPDG strongly disagrees with (a) the DDI’s extreme “expectation” that entity claiming entitlement to returns from intangibles will perform, through its own employees, the important functions for development, enhancement, maintenance and protection of intangibles and (b) the DDI’s proposed requirement that the entity “control” important functions.
• TPDG’s objections to the “expectation” and control requirement.
– Inconsistent with third party conduct in the marketplace; an inappropriate, theoretical substitute for the arm’s length standard’s traditional reliance on facts.
– Third parties are often hired to provide services related to intangibles (R&D, marketing, and so forth); the hiring party does not control the services provider.
– Inconsistent with principles of OECD’s Transfer Pricing Guidelines (“TPG”) allowing outsourcing, whereby hiring party has capacity to decide to put its capital at risk.
– Conflicts with the fact-based and commercially-realistic standard in the DDI (e.g., Example 11) and OECD TPG for return entitlement for intangibles that are licensed.
• TPDG’s other objections to DDI’s “control” proposal.
– “Control” is not defined nor easily definable; it is not an administrable standard.
– A hiring party does not “control” a third party service provider, but it does have the capacity and expertise to enter into the contract and to bear its own risks.
Page 104 of 180
3
Return Entitlement
• Issue of Risk – The hiring party bears risks on discovery, development, enhancement, etc., but the service
provider has its own risks & opportunities.
– The OECD TPG need to clarify and recognize the different types of risk borne by the hiring
party and the service provider.
• TPDG Proposals
– The legal or contractual owner of the intangible asset that bears risks and owns opportunities should be entitled to claim intangible returns for tax purposes.
– Outsourcing of functions related to intangible discovery, development, enhancement, etc. by an “informed hiring party” with financial capacity and expertise should not jeopardize its ownership of intangibles or its entitlement to intangible-related returns.
– To the extent the intangible owner outsources many or most functions related to discovery, development, enhancement, etc., its status as intangible owner entitled to returns can be questioned by the tax authority, but the taxpayer will have the opportunity to establish as a fact that it is an “informed hiring party.” In other words, that it has the financial capacity and expertise to agree to a budget or other contractual terms with the service provider as well as to determine that the contract’s terms are followed.
Page 105 of 180
4
Return Entitlement
• Concluding TPDG Observations
– Chapter VI should use fact-based approaches anchored in the marketplace for determining entitlement to intangible related returns for both licensed intangibles and intangibles that are discovered, developed, enhanced, etc. by way of services performed by others, whether related or unrelated.
– In general, OECD TPG for intangibles (and other) pricing should avoid the DDI’s proposed reliance on speculation and theories about how either the related parties or unrelated parties “should” or “would” structure transactions or otherwise behave. Chapter VI should consistently rely on the related parties’ facts and the facts of the chosen comparables.
– Courts make decisions based on facts, not theories of behavior. Tax authorities should do the same to determine entitlement to intangible-related returns.
– The OECD TPG should consistently emphasize that before rejecting transactions or companies as “insufficiently reliable” to be used (perhaps with adjustments) as “comparables” in connection with intangibles (and other pricing matters), one must consider the relative (un)reliability of the theoretical alternatives (e.g., almost all profit splits of the residual).
* * *
Page 106 of 180
SESSION IX
INTANGIBLES:
ENTITLEMENT TO INTANGIBLE RELATED RETURNS
(CONTINUED)
Speakers:
Catherine SCHULTZ, National Foreign Trade Council
Kate NOAKES, Fidal International Direction
Ian BRIMICOMBE, AstraZeneca
Page 107 of 180
Goals of Guidance
• Conceptually sound and principled: conforms to the arm’s length principle
• Clear: can be administered by tax authorities and complied with by MNEs
• Objective: leads to predictable results and thereby avoids uncertainty and disputes
Page 108 of 180
Role of Registrations & Contractual Arrangements
• Rights to intangible property typically arise from registrations and contractual arrangements
• At arm’s length, persons with the legal right to use (and exclude others from using) intangible property can derive significant expected returns from such rights. Actual returns from intangible property may be disproportionate to the costs of obtaining or developing the rights.
• In an associated enterprises setting, the arm’s length principal therefore requires that legal rights under contractual or other legal arrangements serve as a starting point for the functional analysis. Further, such rights typically attract the residual returns from the use of the intangible property given that the returns from other related assets or functions (such as R&D, marketing, or other intangible development functions) likely are easier to benchmark.
Page 109 of 180
Disregard of Transactions, Registrations and Contracts
• The arm’s length principle requires that legal and contractual arrangements, which govern the allocation of risk and the ownership of assets, be respected except in rare and unusual circumstances
• Rare and unusual circumstances include only where the conduct of associated enterprises is not consistent with the transaction or contractual arrangements
• The functions performed by associated enterprises may be consistent with a broad range of potential legal or contractual arrangements and therefore will usually not be reliable as the primary basis for determining the return for an individual intangible
• A standard that permits tax authorities to disregard legal or contractual arrangements when it believes that parties at arm’s length “would have” structured their arrangements in a different manner would not be consistent with the arm’s length principle, would be impossible to administer on a uniform basis, would substitute the administrative judgment of the tax authorities for the business judgment of the taxpayer, and would lead to increased uncertainty and disputes
Page 110 of 180
Compensation for Marketing activities -
Paragraphs 49-51 of the OECD Draft on
Intangibles and Examples 3-8
Kate Noakes, Partner – FIDAL
International Direction, Paris.
Page 111 of 180
The existing paradigm Is it still fit for purpose? What needs to change?
Reward follows functions, assets (including IP) and risks – so far so good - what
is wrong with this picture?
Often used with broad comparables data to set operating profit margin targets
(resale price) or cost plus service fees for broad categories of entities with no IP
related reward to the Marketeer, little if any to the Limited Risk Distributor (lower
part of the range), and some for the Full Risk Distributor (higher part of the
range).
Functions, Assets, Risks
Reward
Marketeer
Limited Risk
Distributor
Full Risk
Distributor
Page 112 of 180
Issues to consider
Is the existing paradigm is too simplistic?
Easy to understand, apply and defend on one level, but it is potentially
unsophisticated – where in the range to target? – how to make proper
comparison with third party IP use/risk given lack of transparent
information?
Potentially ignores marketing/brand related IP development functions
and risks; changes to IP and its use over time; exclusivity of
contractual arrangements; length of contract; stage of market
development; global versus local marketing and brand development
AND the very difficult questions of how to factor these into price
setting, cost reimbursement by brand owner and so on
In practice, will we end up changing anything?
When are royalties appropriate and when is profit split appropriate?
Page 113 of 180
OECD WP 6
Ian Brimicombe
Group Head of Tax and Treasury
13 November 2012
Entitlement to Intangible Related
Returns: The Importance of
Performance of Important Functions
and Control
Page 114 of 180
Performance of Important Functions and
Control
• Identify important functions
• Assess whether a function creates valuable intangibles
• Performance of functions
• Risk and cost
• Control
• Where are the fault lines for transfer pricing related to
intangibles?
•Draft discussion document on intangibles
2
Page 115 of 180
Identify Important Functions
• Understanding the taxpayer business – at a group level
• Activities
• Build and Run spend (balance sheet and P/L)
• Products/Services and component parts
• Markets
• Risks within the group’s control
• Dynamics and trends – growth and decline of products, markets, technologies, brands
• Global functions and organisational structure
• People, capabilities and culture
• M&A activity
• Value drivers (intangibles; barriers to entry etc)
• Taxpayer contracts
• A division of responsibilities, activities, risks, costs of each party
• Relate this division between related parties to the group picture
• Assess the taxpayer entity in the group context for relative assessment
3
Page 116 of 180
Assess whether a function creates valuable
intangibles
• Commercial expenditure / activity does not necessarily create
an intangible or valuable intangibles
• Manufacturing tablets – comparable know-how
• Sales force – commoditised know-how (not uniquely qualified)
• AZ logo – value?
• Not all intangibles deserve separate compensation or premium
returns
• Normal returns may well apply e.g. Patent administration
• Look for economically significant intangibles in the context of
the global business under review
• R&D
• Brands
• Licenses
4
Page 117 of 180
Performance of functions
• An understanding of the division between entities of the
functions that generate economically significant intangibles
is critical to the transfer pricing analysis
• What do we mean by performance of function?
• Conduct and contractual alignment is very important (walking the talk)
• No need to physically perform the function
• Arrange under its control via independent or associated parties (outsourcing)
• Retained capability and expertise needed to exert control and risk/cost bearing
are key indicators of performance of a function that may entitle returns on
intangibles
5
Page 118 of 180
Risk and cost
• Bearing risk
• Incurring cost and the financial capacity to meet downside risks
• Being subject to volatility of possible outcomes of an investment decision
• Risk and cost are relatively simple to align to a legal entity structure i.e. a
potential fault line in transfer pricing
• Financial capacity to invest and bear risk is necessary but not sufficient and
does not on its own equate to performance of a function
• Alignment of costs, risks, competent risk management and control / decision
making = functional performance and entitlement to returns on valuable
intangibles
• Service providers also have risk – failure to deliver service, negligence, stock
mismanagement, foreign exchange, specific performance metrics etc but would
not be entitled to an intangible return
6
Page 119 of 180
Control
• Control means capacity/capability to make decisions on investment and
associated risk management
• How far does a principal have to control the risks associated with the
development, enhancement, maintenance and protection of the
intangibles?
• A rigid interpretation i.e. 100% of control must reside in the party claiming
an intangible return would be inconsistent with third-party commercial
behaviour in outsourcing arrangements
• Day to day control of local operational risks PE’s
• Concept of an “informed hiring party” is an appropriate threshold for
control
• Hiring of experts should not necessarily give rise to a shift in control /
intangibles
7
Page 120 of 180
Control
• MNC control framework not necessarily aligned to legal
entity structure
• Governance framework – committees / other bodies
• Group delegation of authority and accountability
• Cascade of authority may be made by global function (R&D, Commercial,
Manufacturing) .....
• .....results in geographical spread of individual accountability and committees
made up of personnel from many countries (who move around)
• Control not singly determinative of intangible ownership
• See appendix
8
Page 121 of 180
Where are the fault lines for transfer pricing
related to intangibles?
• What functions generate economically significant
intangibles?
• Lack of alignment between the operation of global
business functions and legal entity boundaries
• Non-discrete legal entity functional performance
• Legal entity separation of function and risk/cost bearing
• Complexity of control framework in MNC’s
• Does the discussion draft resolve these issues?
9
Page 122 of 180
Draft discussion document on intangibles
• Makes some excellent points:
• Market conditions are not intangibles
• Requires identification of relevant / economically significant intangibles
• Performance and or control must be aligned with contractual assignment
• Ensuring services rendered are appropriately rewarded
• Entitlement to returns on intangibles needs to be informed by market practice
• Points to be clear on
• Physical performance of a function is not necessary (para 40 “It is expected....”)
• More guidance to identify MNC associates that are retained to perform functions and are
not entitled to a return on intangibles e.g. Marketer / distributor
• Are there marketing intangibles or not?
• Reflect acknowledgement that degrees of control and risk exist in service providers
• Leads to a question of comparability
• Does the taxpayer’s contractual arrangement reflect the bargain that would have been struck
between unrelated parties under the same economic conditions?
10
Page 123 of 180
11
Appendix
Extract from presentation made on 9 June 2009:
“Consultation on the OECD Discussion Draft on the Transfer Pricing Aspects
of Business Restructuring”
Page 124 of 180
The nature of decision making in MNE’s (1)
Product
Product family
Portfolio
management
Executive
team
Parent Board In this illustrative example
each group decision making body:
•Has a Global remit;
•Is populated by personnel from many
countries provided by global functions;
•Dynamic remit and constitution;
•Draws on group data to make decisions;
•Is not primarily driven by the allocation
resources to legal entities.
Page 125 of 180
The nature of decision making in MNE’s (2)
Global
Functions R&D, BD Manufacture Marketing/
Selling
Products
Product A Research /
Development
Project
Life Cycle
Management
Post-Launch
Product B
Underpinned by global support functions
e.g. Finance, HR, Legal, CF, Legal entity framework
Strategic Vision and Objectives
Page 126 of 180
The nature of decision making in MNE’s (3)
Marketing &
Selling
R&D Manufacture
Local Board and corporate organisation
Global supporting functions e.g. Finance, HR, legal
Global
Marketing
& Selling
Global
R&D
Global
Manufacturing
Legal entity
Page 127 of 180
Reconciling group behaviour with requirements
of the arm’s length principle (1)
• Given that the nature of “control” and decision making is
at least in part by decisions made by global bodies and
functions focused on global objectives………..
• ……and is a subjective concept………..
• ……its use in formulating a view on arm’s length
behaviour is, in my view, limited.
• Essentially “control” is not necessarily a determining
factor for the allocation of risk in MNE’s.
Page 128 of 180
SESSION X
OPTIONS REALISTICALLY AVAILABLE AND PERSPECTIVES OF THE PARTIES
Speakers:
Isabel VERLINDEN, PriceWaterhouseCoopers
Carol Doran KLEIN, USCIB
Patrick BRESLIN, Bates White, LLC
Page 129 of 180
Draft Chapter VI - Transfer Pricing Aspects of Intangibles OECD Public Consultation Paris, 12 - 14 November 2012 “Options Realistically Available”
Isabel Verlinden: isabel.verlinden@be.pwc.com Andrew Casley: andrew.j.casley@uk.pwc.com David Swenson: David.Swenson@us.pwc.com Irving Plotkin: irving.h.plotkin@us.pwc.com Marios Karayannis: marios.karayannis@us.pwc.com Vivienne Ong: vivienne.junzhao.ong@be.pwc.com
www.pwc.de
Page 130 of 180
PwC
Options Realistically Available (“ORA”): Current IP draft
Current Discussion Draft on Intangibles (Draft Chapter VI):
• Paras. 80 – 84: General remarks
– Mandatory evaluation of ORA to each party for transactions involving the use or transfer of intangibles
– 2-sided approach required
– Lowest price seller accepts vs. highest price buyer willing to pay (i.e. minimum price concept?)
– Assumption: MNE groups seek to optimise resource allocation, at least on an after-tax basis
– If prices is consistent with ORA of each parties (i.e. mismatch in prices), to consider:
o Recharacterisation / Non-recognition of transaction? (Para 1.65 TPG)
o Comparability adjustment? (Para 9.34 – 9.38 TPG)
o Indemnification? (Para 9.122 TPG)
o Adjustment of conditions of transaction?
• Paras. 126 and 139: Determining the arm’s length price when comparables cannot be identified
• Example 19
• Reference to Paras. 9.59 – 9.64 TPG, Paras. 1.34 and 2.122 TPG.
2
November 2012
Page 131 of 180
PwC
OECD Transfer Pricing Guidelines: Chapter IX
• Para. 9.59: Parties will only enter into the transaction if no alternative is clearly more attractive.
• Para 9.60: Non- recognition vs. adjustment of conditions of transaction
• Para. 9.62: Examples for ORA (termination of contract)
- Stop using the function, or internalise it,
- Engage a more efficient provider, Or
- Seek more lucrative opportunities.
• Para. 9.63: Sound commercial reasons only at the level of the MNE group are not enough, i.e. the remuneration needs to be at arm’s length from the perspective of each of the restructured entities.
• Para. 9.64: ORA is not intended to create a requirement for taxpayers to document all possible hypothetical ORA.
OECD Transfer Pricing Guidelines: Chapters I, II and III
• Para. 1.34: Link between ORA (Para. 9.59) with Chapter III (comparability assessment)
- Are there any economically relevant differences (e.g. level of risks involved)?
• Para 2.122: Use of the profit split method (residual analysis)
- Lowest price seller accepts vs. highest price buyer willing to pay Replication of bargaining power between 3rd parties?
3
November 2012
Options Realistically Available (“ORA”): Current TPG
Page 132 of 180
PwC
• Non-recognition of transactions or structure
– OECD TPG § 1.64 – 1.69: Recharacterisation / Non-recognition only in the case of
Economic substance of a transaction differs from its form
Structure practically impedes the tax administration from determining an appropriate transfer price
– Generally accepted that associated enterprises are able to make a greater variety of contracts and arrangements than independent enterprises
– Viewpoint:
Clarify that ORA should not become a test for recharacterisation / non-recognition, but should rather, seek to achieve a balance with business reality
Limit the application of ORA only to transactions involving transfer of intangibles (and not extended to simple transactions involving the “use of” / licensing of intangibles)
Limit the application of ORA to identify “sensible” options and not impose unnecessary burden of proof for taxpayers to consider all possible options
• Analysing / Reconciling each various ORA
– Best method rule (US) / Most approach method (OECD): Different TP methods apply to each ORA - How to reconcile?
– How to ensure consistency in determining which ORA is the best option? Perspectives (transferor vs. transferee vs. group) often do not match.
– How to account for differences at both perspectives (e.g. application of discount rates, risk factors)?
– Viewpoint:
Guidance requested on practical application of ORA (currently unclear)
4
November 2012
Points for discussion
Page 133 of 180
PwC
Example 19 – Points of attention
• Insufficient information on functional and risk profile of parties involved Leads to lack of clarity in:
– Selection of TP methodology: How to determine that the Discounted Cash Flow as the best method / most appropriate method?
– Use of critical assumptions (e.g. useful life of IP, discount rates, tax rates): How to select them?
• Use of after-tax income i.e. How to reconcile the use of after-tax income to determine pre-tax transfer prices
• Reality check
– Group vs. individual perspectives: In practice, group considerations / taking into account group benefits or synergies also feature prominently in decision making processes. ORA should take such considerations into account.
– Complexity of real-life situations: The example shows straight forward options, which may not adequately take into account unforeseeable situations in practice (e.g. Changing market business conditions or business drivers) that groups cannot control
• Viewpoint:
– Clarify facts of the example
– Provide step-by-step guide to readers through the various decision points envisaged in the example (e.g. Choice of TP methodology, critical assumptions used, ORA)
5
March 2011
Page 134 of 180
Options Realistically Available, Perspectives of the Parties and Example 19
November 13, 2012, United States Council for International Business
Page 136 of 180
Realistically Available Alternatives • Principles of paragraphs 9.59 through 9.64 should be applied
• Best available alternative
• Respecting the transaction vs. determining the price taking into account alternatives
• Risk profiles of the parties
• Options that may be hypothetically available vs. those that are realistically available
• Cost approach, downplayed by the Discussion Draft, is often the “reasonable alternative” for many intangibles
Page 137 of 180
Perspectives of the Parties
• How would unrelated parties account for relative tax advantages or disadvantages faced by the transferee following the transfer in determining the arm’s length price?
• Unrelated parties would not know their tax positions and generally would assume a uniform statutory rate as a way of recognizing that cash flows are subject to tax.
• Use of post-tax framework is inconsistent with the rest of the OECD Guidelines
Page 138 of 180
Example 19 – Residual Value • Example adopts the simplifying assumption that all non-
routine profit is attributable to IP. Residual valuation approaches are not helpful in determining ALP for licensed IP.
• CM structure or other cost savings are not relevant to IRR.
• Licensees earn non-routine returns for risk involved in licensing and developing
• Licensees may use local IP to enhance value of licensed IP
• Example 19 relies on many key, but potentially unrealistic, assumptions
– Country X has “reasonable alternative” to continue as manufacturer at $600
– Pervichnyi has “reasonable alternative” to continue as IP developer
Page 139 of 180
Business consultation on the OECD
Discussion Draft
Chapter VI of the OECD Guidelines on Transfer Pricing
November 13, 2012 Patrick Breslin, Bates White LLC
Options Realistically Available, Perspectives of the Parties and Example 19
Page 140 of 180
Options realistically available (e.g. para. 80 – 83)
2
• Independent parties compare alternatives in making decisions to invest, approve
projects or conclude transactions
Necessary in order to maximize value or benefits and/or minimize related costs
Rational commercial behavior: seek best value at best price (e.g. para. 1.34)
Opportunity costs (benefits) have real effects on prices
Hypothetical examples provided in various comments:
e.g. Strategic benefits, Risks of outsourcing, “Freed up” resources for other projects
e.g. Capital budgeting decisions, rent/lease vs. buy decisions, comparison shopping
• No action is taken if the only available alternatives make one worse off
e.g. Outsourcing risks loss of control of valuable intangibles (e.g. trade secrets)
e.g. NPV of a project is negative (or IRR < Opportunity cost of capital)
November 13, 2012 Patrick Breslin, Bates White LLC Page 141 of 180
Illustrating options realistically available
3
• Typical arm’s length transactions involve 2 parties, each with at least 2 options
Both parties will compare their available options (e.g. Example 19)
Deals conclude at a point between
a) the minimum acceptable value to the seller and
b) the maximum price acceptable to buyer, when b exceeds a
Values a and b result at least in part from each party’s other available options
NPV puts the parties’ expected income on a comparable basis
Market prices (e.g. acquisitions) also result from the NPV analyses of two parties
Market price and NPV are conceptually connected (e.g. share price of a stock)
• Topics on options realistically available
Is the issue already fully covered in Chapter IX (e.g. 9.59 – 9.64)?
Administrative burden: e.g. exhaustive searches for alternatives (3.81 and 9.64), available data
Realistic options in presence of risks?...hypothetical analyses?...uncertain outcomes?
Other topics?
November 13, 2012 Patrick Breslin, Bates White LLC Page 142 of 180
Topics and issues: Example 19
4
• Commentary regarding Example 19:
Useful depiction of arm’s length behavior based on the separate views of each party
Some concerned that the financial analysis:
Reduces attention to facts and circumstances, functional analysis, and non-financial drivers (see p. 126)
Implies use of NPV as a “primary method” rather than high level check on comparability
Discounted cash flow (DCF) disregards the transaction as structured
Is too detailed or too simplified as an example, data availability issues highlighted
Applies an after tax analysis to a tax question
Residual value fully attributes to intangibles (in contrast with para.108)
Some propose variations in assumptions about the two party analysis with respect to:
Risk profiles and discount rates, other marketplace comparables, other options available
Allocation of location savings (lower costs and tax benefits) to seller questioned
• Other financial analysis topics regarding realistic options:
Risk (e.g. “risk free” and risk-adjusted discount rates; probabilities of outcomes)
Control (e.g. over risks, resources, strategy)
Financial capacity and required returns of investors
Rights to returns and benefits under realistic scenarios
Other topics?
November 13, 2012 Patrick Breslin, Bates White LLC Page 143 of 180
SESSION XI
INTANGIBLES:
USE OF FINANCIAL VALUATION TECHNIQUES
Speakers:
Jochem QUAAK and Dick DE BOER, Duff & Phelps
Richard GINSBERG, Canadian Institute of Chartered Business Valuators
Emmanuel LLINARES, NERA Economic Consulting
Page 144 of 180
The Relevance of Financial Reporting related
Valuations for Transfer Pricing Purposes
Prepared for the public consultation on the discussion draft of chapter VI ofthe OECD Transfer Pricing Guidelines
12-14 November 2012
OECD Conference Centre, Paris
Jochem QuaakTel +31 20 851 5159jochem.quaak@duffandphelps.com
Dick de Boer
Tel +31 20 851 5195
dick.de.boer@duffandphelps.com
November 14, 2012
Page 145 of 180
Arm’s length Principle versus Fair Value measurement
Duff & Phelps 2November 14, 2012
Arm’s Length PrincipleAuthoritative statement stems from Article 9 of theOECD MTC: In essence the ALP states that transfers ofgoods or services should be made at market prices set byreference to what independent parties would have paidunder similar circumstances
Separate entity approach
All options realistically available and two sidedapproach
Comparability analysis on the basis of the 9-stepapproach
Sufficient reliability of comparable data
Most appropriate transfer pricing method
Fair ValueDefinition: “The price that would be received to sell an asset or
paid to transfer a liability in an orderly transaction between
market participants at measurement date”
Willing buyer and willing seller
Highest and best use
Economic analysis to understand valuedrivers, risks, market and industrycircumstances, etc.
Fair Value hierarchy regarding quality of input
Valuation techniques
Conclusion: Large similarities between the Arm’s Length Principle and Fair Value definition
Page 146 of 180
Valuation techniques
Duff & Phelps 3November 14, 2012
The OECD Guidelines describe five methods for determining
arm’s length prices. The five methods are:
Comparable Uncontrolled Price
Resale Price Method
Cost Plus Method
(Residual) Profit Split Method
Transactional Net Margin Method
As included in IFRS 13, the three widely used and commonly
accepted valuation techniques are:
Market approach
Cost approach
Income approach
Income approach comes in many forms, e.g.:
» Discounted cash flow method
» Relief from royalty method
» Excess earnings method
Conclusion: Various valuation techniques show large similarities with the approved OECD
methods
Page 147 of 180
Overall conclusions
• In our comment letter we advocate that:
Fair Value Measurement as defined in IFRS 13, envisages achieving the same objective as the arm’s length principleas applied in transfer pricing;
Valuation techniques applied under IFRS 13 could be a sound starting point in establishing an arm’s length price forintangible assets; and
The OECD would give more relevance to the role of (valuation) accounting standards and valuation techniques.
• A similar and transparent approach would result in lower costs, enhance consistency and mitigate risks on doubletaxation.
Duff & Phelps 4November 14, 2012
The opinions found within this presentation are those of the presenters and do not necessarilyreflect the opinions of Duff & Phelps
Page 148 of 180
Appendix
Duff & Phelps 5November 14, 2012
9-step approach for transfer pricing What would we do for Fair Value Measurement (based on IFRS 13) in
accounting?
Step 1: Determination of years to be covered. Determination of transaction date.
Step 2: Broad-based analysis of taxpayer’s circumstances (factors relevant to the
taxpayer or the environment in which the controlled transactions take place).
Analysis of the relevant factors and circumstances with respect to the financial
reporting related valuation (e.g. PPA), to understand the context and drivers of the
transaction.
Step 3: Understanding the controlled transaction(s) under examination, based in
particular on a functional analysis, in order to choose the tested party (where
needed), the most appropriate transfer pricing method to the circumstances of the
case, the financial indicator that will be tested (in the case of a transactional profit
method), and to identify the significant comparability factors that should be taken
into account.
An entity takes into account the characteristics of the asset or liability being
measured that a market participant would take into account when pricing the asset
or liability at measurement date (e.g. the condition and location of the asset and
any restrictions on the sale and use of the asset) [IFRS 13.11] to understand
functions, risks, value drivers, market circumstances, etc., taking into account
highest and best use of the asset.
Step 4: Review of existing internal comparables, if any. IFRS 13 seeks to increase consistency and comparability in fair value
measurements and related disclosures through a “fair value hierarchy”. The
hierarchy categorizes the inputs used in valuation techniques into three levels. The
hierarchy gives the highest priority to (unadjusted) quoted prices in active markets
for identical assets or liabilities and the lowest priority to unobservable inputs.
[IFRS 13.72]
Step 5: Determination of available sources of information on external comparables
where such external comparables are needed taking into account their relative
reliability.
Step 6: Selection of the most appropriate transfer pricing method and, depending
on the method, determination of the relevant financial indicator (e.g. determination
of the relevant net profit indicator in case of a transactional net margin method).
The valuation technique(s) appropriate for the measurement, considering the
availability of data with which to develop inputs that represent the assumptions that
market participants would use when pricing the asset or liability and the level of the
fair value hierarchy within which the inputs are categorized. Three widely used
valuation techniques are: [IFRS 13.62]
• Market approach • Cost approach • Income approach
Step 7: Identification of potential comparables: determining the key characteristics
to be met by any uncontrolled transaction in order to be regarded as potentially
comparable, based on the relevant factors identified in Step 3 and in accordance
with the comparability factors set forth at paragraphs 1.38-1.63.
An entity shall use valuation techniques that are appropriate in the circumstances
and for which sufficient data are available to measure fair value, maximising the
use of relevant observable inputs and minimising the use of unobservable inputs.
[IFRS 13.61] This relevant data used is dependent on the inputs used in the fair
value hierarchy and valuation technique applied.Step 8: Determination of and making comparability adjustments where appropriate.
Step 9: Interpretation and use of data collected, determination of the arm’s length
remuneration.
Interpretation and use of data collected, calculation of a Fair Value.
Page 149 of 180
Selected Comments on OECD Guidelines Presented by:
Richard Ginsberg CA, CBV
November 14, 2011
Working Party No. 6’s Special Session on the
Transfer Pricing Aspects of Intangibles
Page 150 of 180
Foreward
This presentation contains general information only and none of Deloitte Touche
Tohmatsu, its member firms, or affiliates (“Deloitte”), by means of this
presentation or its publication, rendering accounting, business, financial, tax,
legal, investment or other professional advice or service. Some of the opinions
expressed within this presentation are my own and do not necessarily represent
positions, strategies or opinions of Deloitte, nor The Canadian Institute of
Chartered Business Valuators. This is not an official presentation from Deloitte.
The presentation is for general information purposes only and should not be
considered as a substitute for professional advice and counsel.
OECD TP WP6: Comments on OECD proposed guidelines 2 Page 151 of 180
3 OECD TP WP6: Comments on OECD proposed guidelines
Key Comment Areas
Valuation Standard Financial Reporting Conclusion Introduction Approach
1. Developing a valuation standard
2. Use of financial reporting valuations for Financial Reporting purposes
3. General approach to valuing intangibles
Page 152 of 180
4 OECD TP WP6: Comments on OECD proposed guidelines
Developing a Valuation Standard
Valuation Standard Financial Reporting Conclusion Introduction Approach
There is a significant professional body of knowledge from which to draw valuation
expertise: CICBV ASA IVSC AICPA IASB FASB
Members 1,500 CBVs 2,200 BV
members 67 organizations
3,100 ABVs
(CPAs
accredited in
business
valuation)
NA NA
Valuation
Standards Valuation
Accreditation
Training
Definition of Value
Adopt Create
Defer to a pre-existing Valuation Standard
and/or Definition
Commission valuation profession to develop
an OECD-specific standard
• Fair Value Measurement standard under
IAS13
• Recoverable Amount under IAS36
• CICBV, ASA, IVSC
• Fair market value standard
1 2
Leverage the expertise of these bodies to
either
OECD guidelines should refer to a distinct valuation standard, whether created or adopted
Page 153 of 180
5 OECD TP WP6: Comments on OECD proposed guidelines
Usefulness of Purchase Price Allocations as a Reference
Valuation Standard Financial Reporting Conclusion Introduction Approach
Valuation of intangibles for Financial Reporting can be a useful reference for transfer pricing,
but requires some careful considerations:
Identification basis Financial Reporting Considerations for OECD
Legal/Contractual or
Separable
• Legally or contractually identifiable
• Can be separated
• Goodwill incorporates any residual
premium paid above tangible and
identifiable intangible assets
• A tax reorganization may involve the transfer of assets that are
not yet identifiable for financial reporting purposes (i.e. future
technology development rights, an intercompany contract for
routine or other services), but have value.
• These valuable assets are inherently imbedded in goodwill for
accounting purposes but can be unlocked via an inter-company
reorganization
Finite versus Indefinite
Lived
• Focus on matching principle
• Amortization of „existing‟ assets over their
useful lives
• Indefinite lived assets not amortized but
tested for impairment annually
• A tax reorganization may involves the transfer of assets that
have an indeterminable useful life, that for financial reporting
purposes may be subsumed into goodwill
• An identifiable intangible for financial reporting may only reflect
the amortizable portion of value transferred in a reorganization
Marketplace Participant
• Valuation inputs reflect marketplace
participant assumptions
• Represents an „exit value‟
• Entity-specific synergies included in
goodwill, if at all
• Does not consider value-in-use or value-to-owner, if different
than a marketplace participant
• Entity-specific synergies included in goodwill if paid for
• Entity-specific synergies may not have been paid for, and
therefore, unreported value may exist
Materiality
• Financial statements reflect only the
material intangibles on a consolidated
basis
• Aggregations can occur at an operating
segment level
• Does not consider inter-company
intangibles (I.e. inter-company contracts,
licensing arrangements, etc.)
• Tax reorganizations often involve multiple business units with
disaggregated ownership of intangibles
• Stratifications that may not be relevant or applicable for
financial reporting, may be relevant for transfer pricing
• Inter-company contracts, arrangements, or other intangibles
may be highly relevant
OECD guidelines should neither endorse nor disavow valuation of intangibles for financial reporting
purposes – their usefulness will depend on specific facts and circumstances
1
2
3
4
Page 154 of 180
6 OECD TP WP6: Comments on OECD proposed guidelines
Approach to Intangible Value Measurement
Valuation Standard Financial Reporting Conclusion Introduction Approach
Illustrative Example – Situational Overview
• Assume that an MNE group acquires an independent Company A for a price of 100, out of which
70 is allocated to the value of identified intangible assets and 30 is allocated to goodwill.
• It is assumed in this example that the value of tangible assets is negligible.
• Assume that following the acquisition, the identified intangible assets are transferred from
Company A to an associated Company H and that Company A is converted into a contract
research entity.
• In this new capacity, Company A will continue its research and development activities on behalf of
Company H, with the latter bearing the risk of failure of those activities and being the owner of the
future intangibles that may eventually result from them.
• The question may arise whether the determination of an arm‟s length price for the transfer of
intangibles from company A to H should take into account part or all of the goodwill that has been
recognized for an amount of 30 upon the acquisition of A by the MNE group.
• OECD draft guidelines appear to prioritize a ‘Definitional’ or Bottom-up approach to determining
intangible value – 1) identify and define the intangible; 2) measure the value of that intangible
• Instead, we recommend the prioritization of an ‘Enterprise’ or Top-down approach – 1) measure the
value transferred; 2) allocate that value to separate intangibles
• To illustrate the difference and potential issues to consider, we would like to re-visit the illustrative
example previously presented in November 2011:
Page 155 of 180
7 OECD TP WP6: Comments on OECD proposed guidelines
Definitional or Bottom-Up Approach
Valuation Standard Financial Reporting Conclusion Introduction Approach
Definitional approach is susceptible to overlooking the transfer of undefined intangibles (i.e.: goodwill)
Goodwill
30%
Intangibles
70%
Company A
(Limited Risk Developer)
$30
Company H
(IP Owner)
$70
Company A
Transfer of Intangibles
Company A
Company H
Goodwill
$30
Intangibles
$70
Page 156 of 180
8 OECD TP WP6: Comments on OECD proposed guidelines
Top-Down Approach: Valuation Process
Valuation Standard Financial Reporting Conclusion Introduction Approach
A Top-down approach to the determination of the value allocation between Company A and
Company H as a six step process:
Value of Goodwill
Transferred
Pre-Reorganization
Post-Reorganization
Value of Intangibles
Value Transferred
Company A
Company H
1 Determine the value of Company A prior to
any reorganization
2 Determine the value of Company A on a
proforma basis, post-reorganization
3 Deduct the post-reorganization value of
Company A from the pre-reorganization value
4 Determine the value of any intangibles owned
by Company H on a pro-forma basis
5 Deduct the value of Company H intangibles
from the value transferred
6 Deducted the value of Company H goodwill
from the pre-reorganization goodwill value of
Company A
Value of Goodwill
Pre-Reorganization
Value of Goodwill
Retained
Company A
Page 157 of 180
9 OECD TP WP6: Comments on OECD proposed guidelines
Value Summary
Valuation Standard Financial Reporting Conclusion Introduction Approach
Goodwill
$30
Intangibles
$70
Company A
$17 million
Company H
(IP Owner)
$83 million
R&D Contract
$10 million
Workforce
$7 million
Goodwill
$13 million
Technology
$70 million
Company A
Company A
Company H
Future
Development
Rights
$5 million
Workforce
$8 million
Top-down approach results in $13 million of additional intangible value allocated to Company H
Not captured in
Definitional Approach
Page 158 of 180
10 OECD TP WP6: Comments on OECD proposed guidelines
Key Considerations
Valuation Standard Financial Reporting Conclusion Introduction Approach
1. Create or Adopt a distinct valuation standard of reference
2. Neither endorse nor disavow the valuation of intangibles for financial
reporting purposes
3. Adopt a Top-down approach to value determination for the transfer of
intangibles rather than a definitional approach
Page 159 of 180
11 OECD TP WP6: Comments on OECD proposed guidelines
QUESTIONS? Richard Ginsberg CA, CBV
Deloitte
rginsberg@deloitte.ca
Page 160 of 180
Use of Financial Valuation Techniques for
Transfer Pricing Purposes
Working Party No.6 of the OECD Committee on Fiscal Affairs - Paris
14 November 2012
Pim Fris & Emmanuel Llinares
Special Consultant & Senior Vice President
Page 161 of 180
1
A few preliminary remarks
1. Intangibles definition and valuation (Section A)
– Market valuation (e.g., stock market prices) can reflect intangible identification and valuation that one may not
necessarily be in a position to apprehend (value chain analysis should enable to avoid this)
Risks that Section A of the draft Chapter VI is interpreted too narrowly when following a deterministic approach only
and misses important intangibles. Intangibles should be defined as something “reflecting entitlement to or an expectation of
future profits”
2. The transactions involving intangibles (section C)
– Transfer of intangibles as part of a transfer of a business are not really dealt with by Chapter IX
– The bridge to be made between value an activity / business and value of individual intangibles is to be made more
explicitly in Chapter VI: a transaction C.2.(iv) needs to be added
3. Bridging the gap between individual asset and collective business value creation (section D)
– A satisfactory identification of intangibles should be achieved by looking at these two levels of valuation
– Valuation of individual intangibles and assessment of the relative entitlement thereto of the parties concerned can be
done with help of a Value Chain Analysis (VCA). To this end Chapter I, section D.1 needs to be extended. VCA is too
implicit in the guidance of Chapters I, II and III of the Guidelines
– The recommendation of NERA Economic Consulting in its comments has been to complement the valuation of
individual intangibles by an analysis of the collective value creation of the business concerned
– An assessment of relative entitlement of the different parties involved to the value of the intangibles in the specific case
can be done by means of a bargaining analysis, based on bargaining positions informed by the outcome of a Value
Chain Analysis
Page 162 of 180
2
Commonly used financial valuation
techniques for intangibles
Market comparables (e.g., multiples) approach Can be applied
Method relies on the use of comparable “one shot” transactions (sale of an asset) or inference from
intangibles sensitive stock prices
Main challenge: Comparability of the third party transactions or market data being relied upon –
opportunistic and case- or deal-specific issues need to be identified
Income Based approach Commonly applied
Discounted cash flow method and real options method (when factoring in information access over time)
Starting point (and an important challenge): Modeling of cash flows associated with the intangible
Profit split methods and Comparable Uncontrolled Price / Transaction method are often applied in order
to determine these cash flows
Valuation obtained from Income Based Approach can be “reverse engineered” to infer intangible-related
cash flows and intangible-related transfer prices
Replacement costs Can be applied
Paragraphs 112 and 113 discourage the use of simple return on costs approach
However, return on historical costs does not correspond to replacement costs
When properly applied, the replacement costs approach can provide useful insight on the value of an
intangible (for example when valuing know-how associated with a workforce or in the context of
deriving a bargaining range)
Application of this method notably involves determining the opportunity costs required for a party to re-
develop an intangible of equal value
In (complex?) intangible related valuations, the use of a bargaining range will be helpful
Page 163 of 180
3
The Bargaining Range and
realistically available options
Minimum Intangible Owner Would Accept:
0% or €0
Based on: Added profits from using the intangible and the economic costs of the
next-best alternative
Based on profits from realistically available alternatives
Maximum Intangible User Would Pay:
?% or €? ?% or €?
Bargaining Range
(e.g., royalty rate in % of sales
or “one shot” value)
What are the options realistically available to the transacting parties?
CUPs and or comparable asset transactions can be point of references (not systematically in the range depending on
comparability)
In the absence of reliable comparables, (residual) profit split method and income approaches should enable the estimation of
both ends of the range
Replacement costs (including opportunity costs) approach can be looked at to estimate maximum willingness to pay in some
circumstances
Bargaining theory can be used to narrow the range or determine a transaction price - realistically available options should be
documented whilst the decisions reg arding the transaction are being made Page 164 of 180
Contact Us
© Copyright 2011
NERA Inc.
All rights reserved.
Beijing
Sébastien Gonnet
+86 10 6533 4395
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+1 312 573 2803
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+49 69 133 8532
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+44 20 7659 8500
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+1 416 783 3355
Page 165 of 180
SESSION XII
DETERMINING ARM’S LENGTH ROYALTY RATES FOR LICENSING TRANSACTIONS
Speakers:
Brian CODY, KPMG
Ednaldo SILVA, RoyaltyStat LLC
David JARCZYK, ktMINE
Page 166 of 180
Determining Arm’s Length
Royalty Rates for Licensing
Transactions and
Comparability Standards for
Intangibles
Public Consultation on Transfer
Pricing Discussion Drafts
OECD Conference Centre, Paris
12 – 14 November 2012
Page 167 of 180
© 2012 KPMG International Cooperative (“KPMG International”), a Swiss entity. Member firms of the KPMG network of
independent firms are affiliated with KPMG International. KPMG International provides no client services. No member firm
has any authority to obligate or bind KPMG International or any other member firm vis-à-vis third parties, nor does KPMG
International have any such authority to obligate or bind any member firm. All rights reserved.
1
ANY TAX ADVICE IN THIS COMMUNICATION IS NOT INTENDED OR
WRITTEN BY KPMG TO BE USED, AND CANNOT BE USED, BY A
CLIENT OR ANY OTHER PERSON OR ENTITY FOR THE PURPOSE OF
(i) AVOIDING PENALTIES THAT MAY BE IMPOSED ON ANY TAXPAYER
OR (ii) PROMOTING, MARKETING OR RECOMMENDING TO ANOTHER
PARTY ANY MATTERS ADDRESSED HEREIN.
You (and your employees, representatives, or agents) may disclose to any
and all persons, without limitation, the tax treatment or tax structure, or
both, of any transaction described in the associated materials we provide to
you, including, but not limited to, any tax opinions, memoranda, or other tax
analyses contained in those materials.
OECD - Public Consultation on Transfer Pricing Discussion Drafts
Page 168 of 180
© 2012 KPMG International Cooperative (“KPMG International”), a Swiss entity. Member firms of the KPMG network of
independent firms are affiliated with KPMG International. KPMG International provides no client services. No member firm
has any authority to obligate or bind KPMG International or any other member firm vis-à-vis third parties, nor does KPMG
International have any such authority to obligate or bind any member firm. All rights reserved.
2
Determination of royalties for license arrangements – Licensor’s share not
equal to the entire excess or residual profit earned by the licensee
One of the key reasons that uncontrolled parties enter into licenses is to shift the risk associated
with the exploitation of the intangible from the licensor to the licensee. In return for accepting this
risk, the licensee generally receives a share of any intangible profit arising from the successful
exploitation of the intangible, and may incur losses if it is unsuccessful in exploiting the intangible.
Discussion Draft defines the intangible related return attributable to a particular intangible as “the
economic return from business operations involving use of that intangible after deducting (i) the
costs and expenses related to the relevant business operations; and (ii) returns to business
functions, assets other than the particular intangible in question, and risks, taking into account
appropriate comparability adjustments.” (Paragraph 28)
Consistent with this definition, there are many potential sources of a licensee’s excess or residual
profits/losses besides intangibles and “routine” business functions, including:
– Location savings and other comparability factors identified in the Discussion Draft ;
– Economies of scale or scope;
– Varying levels of capacity utilization across the business cycle; and
– More generally, the realization of risk not associated with intangibles.
The payment made between the licensee and the licensor – royalty – is not equal to total profits
less a routine return, but rather must account for the licensee’s economic contributions and allow
for the opportunity of the licensee earning above (or below) routine returns.
OECD - Public Consultation on Transfer Pricing Discussion Drafts
Page 169 of 180
© 2012 KPMG International Cooperative (“KPMG International”), a Swiss entity. Member firms of the KPMG network of
independent firms are affiliated with KPMG International. KPMG International provides no client services. No member firm
has any authority to obligate or bind KPMG International or any other member firm vis-à-vis third parties, nor does KPMG
International have any such authority to obligate or bind any member firm. All rights reserved.
3
Variety of viable intangible valuation methods exist and may be applied
depending on the particular facts and circumstances of the transaction
Discussion Draft provides some mixed signals on the role of valuation techniques in
evaluating the transfer pricing of intangibles, detailing the application of discounted cash
flow methods to transfer pricing while at the same time indicating that certain valuations
(such as those done for purchase price accounting) have “no” relevance for transfer pricing.
– Techniques used in financial statement analyses, however, are no different in substance
from valuation approaches used in economics and business generally.
– Similarly, the guidance on choosing between the income method and cost method should
emphasize the need to use the method that is most appropriate, given the specific facts.
– Other approaches may be more appropriate than these traditional method depending on
data availability and other considerations.
Residual profit split – Potentially useful, traditional method accepted in the OECD
Guidelines, which deserves additional consideration (i.e., detailed example) in the
Discussion Draft.
So-called “rule of thumb” – An anecdotally-appealing approach that, nonetheless, lacks
empirical rigor.
Whatever valuation methods is employed, it must nonetheless must address issues of asset
life, discount and amortization rates, allocation of excess or residual income to non-
intangibles, data reliability (particularly of financial projections), other similar considerations.
OECD - Public Consultation on Transfer Pricing Discussion Drafts
Page 170 of 180
© 2012 KPMG International Cooperative (“KPMG International”), a Swiss entity. Member firms of the KPMG network of
independent firms are affiliated with KPMG International. KPMG International provides no client services. No member firm
has any authority to obligate or bind KPMG International or any other member firm vis-à-vis third parties, nor does KPMG
International have any such authority to obligate or bind any member firm. All rights reserved.
4
Third-party licensing arrangements can provide invaluable insights into the
evaluation of the arm’s length nature of intercompany transactions
Third-party license arrangements identified on commercial or internally maintained databases are
often disregarded in their entirety due to perceived differences or lack of information regarding
comparability factors, including the exact nature of the intangibles, useful life, stage of
development, and expectation of future benefits.
Such differences notwithstanding, third-party license arrangements should be viewed as:
– A key source of potential information on terms that are common in transactions among
uncontrolled entities – helping to inform whether or not specific types of business arrangements
are arm’s length – and specific information on pricing.
– Particularly helpful when dealing with transactions involving intangibles that are not key drivers
of profits – e.g., licenses of accounting software, the license of relatively routine technology and
knowhow, the license of trademarks that are used to differentiate the goods bearing such marks
from purely generic products, but which do not support unusually high profits.
License arrangements can also provide insights into which of the legal entities (licensor vs.
licensee) is entitled to returns from the use of the intangible property and other salient
considerations, including:
– Payment method and terms (e.g., fixed royalty rate vs. royalties that vary with profit);
– Allocation upon termination of the arrangement of any potential incremental intangible value
created over the course of the license; and,
– Oversight carried out by the licensor over the course of the arrangement.
OECD - Public Consultation on Transfer Pricing Discussion Drafts
Page 171 of 180
The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavour to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation.
© 2012 KPMG International Cooperative (“KPMG International”), a Swiss entity. Member firms of the KPMG network of independent firms are affiliated with KPMG International. KPMG International provides no client services. No member firm has any authority to obligate or bind KPMG International or any other member firm vis-à-vis third parties, nor does KPMG International have any such authority to obligate or bind any member firm. All rights reserved.
The KPMG name, logo and “cutting through complexity” are registered trademarks or trademarks of KPMG International.
Thank You
Brian Cody
Principal
KPMG LLP
+1 312 665 1912
bcody@kpmg.com
Page 172 of 180
The content of these slides is not for public distribution and may not be copied or distributed without the Author’s permission. All Copyrights Reserved.
Use of Information from Databases
OECD Presentation
Ednaldo Silva, Ph.D.
esilva@royaltystat.com
November 14, 2012
Page 173 of 180
The content of these slides is not for public distribution and may not be copied or distributed without the Author’s permission. All Copyrights Reserved.
Databases are integral to transfer pricing administration and taxpayer compliance because they
are the only source of external comparables.
U.S. Treas. Regs. § 1.482-4(c)(4), Example 3, contains a hypothetical case in which the IRS
“uses a database of company documents filed with the Securities & Exchange Commission
(SEC) to identify potentially comparable license agreements between uncontrolled taxpayers.”
Inspired by this example, we started the RoyaltyStat database in 1996 from license agreements
filed with the SEC and launched an interactive website on January 2, 2000. Today, we have over
13,750 unredacted license agreements, and we add about 2,000 new agreements per year.
RoyaltyStat today includes over 2,500 pharmaceutical agreements, over 1,000 medical device
agreements, over 1,000 software agreements, and over 500 computer hardware and
semiconductor agreements. This large number of agreements, which can be used to support
the transfer of intangibles, is substantial compared to the number of publicly-traded
companies used as comparables for the transfer of tangible goods and the provision of
services.
1 Page 174 of 180
The content of these slides is not for public distribution and may not be copied or distributed without the Author’s permission. All Copyrights Reserved.
Some claim the arm’s length principle is impractical because comparables cannot be found.
However, the development and growth of RoyaltyStat and other databases provide evidence
against this claim.
The license agreements in RoyaltyStat can be searched online by industry, agreement type,
description of the intangible (which in RoyaltyStat is a structured and standardized field, not a
product of copy and paste), exclusivity, territory, and other important filters. These agreements
reflect the licensing of intangibles in many countries, including OECD members and
developing countries.
License agreement databases can be used to determine the arm’s length royalty rates for the
majority of intangibles in the marketplace. They can be used also to determine safe harbors as
part of the OECD effort to simplify transfer pricing in routine cases. When comparables
cannot be found to use the CUP method, such as for blockbuster intangibles (e.g., drugs,
software), taxpayers can use the residual profit split method.
2 Page 175 of 180
The content of these slides is not for public distribution and may not be copied or distributed without the Author’s permission. All Copyrights Reserved.
A useful database that can be used to support the transfer of intangibles must contain a full-
copy of each disclosed license agreement, because the intangible property, including all rights
conferred and contractual obligations, must be compared and adjustments can be made where
appropriate, such that an arm’s length royalty rate can be computed in a manner that can
sustain audit scrutiny or controversy.
RoyaltyStat is a dynamic source of information because it’s constantly updated. This database
offer publicly disclosed, verifiable information and can be used to:
1) Find comparable royalty rates and determine safe harbors. Comparables make the
argument for using formulary apportionment less compelling;
2) Provide an alternative to the use of secret comparables;
3) Protect corporate taxpayers against transfer pricing adjustments; and
4) Safeguard tax administrators from making adjustments that can be denied in appeals
or tax court for being “arbitrary, capricious or unreasonable.”
Under the existing arm’s length paradigm, transfer pricing cannot be supported without
comparables, and comparables cannot be found without a reliable database that is constantly
updated by experienced professionals.
3 Page 176 of 180
© Copyright 2012 ktMINE. All rights reserved. W: ktMINE.com
David R. Jarczyk
President & CEO, ktMINE
david.jarczyk@ktMINE.com
Working Party No. 6 Public Consultation
Page 177 of 180
© Copyright 2012 ktMINE. All rights reserved. W: ktMINE.com
The CUP Method…In A Practical Way
Page 178 of 180
© Copyright 2012 ktMINE. All rights reserved. W: ktMINE.com
▲License Agreement Intelligence
− Over 70,000 unredacted and redacted license agreements
− Provides transparency to third-party deal structures, functions performed,
risks assumed, and payment terms
− Example questions:
• Do third parties share significant fluctuation in the foreign exchange rates?
• Would a licensee ever pay to register the licensor's trademark in the licensed
territory?
• How do third parties share rebates?
• Would a licensee bear warranty risk and product liability risk for its territory?
• Would third parties set a royalty rate to increase as the sales of the licensee
increase?
▲Royalty Rate Intelligence
− Over 13,000 unredacted license agreements
− Identifies comparable royalty rates
− Example question: what is a reasonable royalty rate for this situation?
Databases…Global Benchmarks
Page 179 of 180
© Copyright 2012 ktMINE. All rights reserved. W: ktMINE.com
Factors of Comparability
Internal Market Royalty Rates External Market Royalty Rates
Determine Existence of Market Royalty Rates
Assess Comparability
Functions & Risks Born by Licensor vs. Licensee
Rights to Receive Updates & Modifications
Profit Potential Uniqueness of IP Business Relationship Between Licensor &
Licensee
Duration Territory & Field of Use Exclusivity & Restrictions
Interdependent Comparability Factors
Establish Defensible Market Royalty Rates
Page 180 of 180
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