E The OECD Transfer Pricing Guidelines:

1. Consideration of the methodologies in the Guidelines 3

Comparability Analysis (chapter 1)

Relevant for all 3 transactional methods

5 factors

Transactional Methods (chapter 2 part 2)

These methods look at gross profit

Comparable Uncontrolled Price (CUP)

Often difficult to obtain

Can "reasonably accurate adjustments" be made?

Resale Price Method (aka Resale Price Minus, RPM)

Limited use: distribution models where the distributor ads little or no value other than distribution (buy/sell)

Starting point is final consumer price and then deduct a suitable gross margin

Often gives rise to practical issues with ERP systems etc.

Cost Plus Method (CPM)

Useful when there is no comparable sale - e.g. intermediate product

Most common for specific services or contract manufacturing

Transactional profit methods (chapter 2 part 3)

These methods look at the net profit on a transaction. The guidelines give examples of where it may be appropriate - where each party makes valuable and unique contributions or where the parties are engaged in highly integrated services

Transactional Net Margin Method (TNMM)

Involves a comparison of Earnings Before Interest and Tax (EBIT) as a ratio of Sales

Step 1: compare EBIT/sales over a number of years
Step 2: calculate working capital differences (R+I-P)/Sales [Receivables -Inventory - Payables]

Step 3: Notional interest must be calculated on working capital difference and reduced from the EBIT/sales ration of the company with more working capital

Profit Split Method (PSM)

Aims to split the total profit earned on a transaction between all the group companies involved using an equitable formula

Step 1: identify the profit to be split

Step 2: split those profits on an economically viable basis that approximates the division of profits that would be anticipated in an arm's length situation

Popular in IP situations and with companies where there is a high degree of vertical integration (raw materials - processing - finished product - e.g. Pharma, automobiles, telecoms)

(comparable profits method - US, Canada)

Not OECD recommended

Operating profit of a company is compared to operating profit of comparable companies

Operating profit/sales ratios compared
It is popular because it is easy for the IRS to apply and because it is a broad brush approach it is more popular for APAs

2. Practical application of the methodologies and the resolution of 3

transfer pricing disputes

TP disputes can involved in one of 2 ways

Mutual Agreement procedure of the treaty (Art 25 OECD)

The EU Arbitration Convention (if both are EU)

MAP (Art 25)

Must be made to the country in which you are tax resident within 3 years from the first notification of the action resulting in taxation. ("reasonably prudent person" would have realised he was being subjected to double taxation)

Weaknesses:

The tax authorities are not required to involve the taxpayer
Poor decisions due to incomplete information/understanding
Taxpayer needs to co-operate fully, make available information etc. While in theory information provided should be confidential, taxpayers may be wary that tax authorities might use it in the future.

Many treaties do not have the arbitration provision in which case the countries only need to "endeavour to resolve" - i.e. there may be no resolution

3. Valuation of intangibles 3

4. Cost sharing/contribution arrangements 3

5. Intra-group services 3

6. Documentation 3

	Created by floughnane almost 10 years ago

Principles of International Tax Law (Transfer Pricing and Thin Cap rules) Note on Transfer Pricing Notes, created by floughnane on 08/05/2014.

Transfer Pricing Notes