Transfer Pricing Handbook Guidance on the OECD Regulations

by Feinschreiber, Robert; Kent, Margaret

• ISBN13: 9781118347614
• ISBN10: 1118347617
• Edition: 1st
• Format: Hardcover
• Copyright: 2012-09-11
• Publisher: Wiley

Summary

This book provides explanations of how countries apply the OECD Guidelines to tax businesses that conduct their endeavors in more than one country. Businesses have many facets. It is these facets that expose them to multiple taxation. For example, such a business may divide the manufacturing of its products between two countries, assemble the product in a third country, sell the product in countries four and five, and guarantee or fix any defective product in a sixth country. All six countries have an interest in taxing the share of profits attributable to the work or services done within its borders. A business that is not aware of all of its exposure to each country's taxing policy may find itself paying more in taxes that the share of profit it generates. The OECD seeks to reduce the risk of business taxation in multiple countries. It is in the interests of businesses to know what the worldwide Guidelines are, and to what point these Guidelines might differ from country to country so as to plan for the least amount of taxes a country can impose. The book is a comprehensive guide for companies doing business globally; a guide for companies to properly price their goods and services for global markets; provides defenses for transfer pricing audits; provides standards for creating comparables that multijurisdictional tax administrations will accept; guides documentation requirements and timing issues; and creates awareness against inadvertently becoming a permanent establishment..

Author Biography

Robert Feinschreiber (Key Biscayne, FL) is an attorney with Feinschreiber and Associates. He has had numerous career highlights (e.g., member of the litigation team for the first Asian transfer pricing case (Toyota)). In addition, he is a consultant with the United Nations (Brazil, China, and Russia). Feinschreiber is on the editorial board of Wolters Kluwer - CCH, and Thomson - RIA. He has written over 25 books and is the co-editor of Corporate Business Taxation Monthly (CCH). He speaks at numerous conferences in the United States and Asia.

Margaret Kent (Key Biscayne, FL) is an attorney with Feinschreiber and Associates. She focuses on law and international taxation. She has been involved in a number of international transactions (i.e., structured the termination of the $2 billion per year aid from Russia to Cuba; structured transfer pricing in Latin America: Argentina, Chile, Colombia, Costa Rica, and Venezuela). Kent is also the co-editor of Corporate Business Taxation Monthly (CCH).

Table of Contents

PART I: BASIC TRANSFER PRICING STANDARDS 1

Chapter 1: Introduction 3

Control 4

Tax Havens 5

Complexities 5

Chapter 2: Arm’s Length Principle 7

General Explanation of the Arm’s Length Principle 8

Formal Statement as to the Arm’s Length Principle 10

Comparability Considerations 11

Rationale behind the Arm’s Length Principle 11

Compensation Issues 12

Applying the Arm’s Length Principle to Contribution Analysis 13

Oligopolistic Conditions 14

Transactions That Independent Enterprises Would Not Undertake 15

Administrative Burdens of the Arm’s Length Principle 15

Maintaining the Arm’s Length Principle as the International Consensus 16

Rejection of Alternative Transfer Pricing Approaches 17

Notes 18

Chapter 3: Arm’s Length Range 19

Single-Figure Approach to the Arm’s Length Range 19

Reliability Requirement 20

Comparability Considerations 20

Consequences of Applying More Than One Transfer Pricing Method 21

Selecting the ‘‘Most Appropriate Point’’ in the Range 22

Extreme Results: Comparability Considerations 23

Notes 24

Chapter 4: Safe Harbor Simplification 27

Safe Harbor Burdens and Benefits 28

Defining ‘‘Safe Harbor’’ 29

Scope of the Safe Harbor Provisions 30

How Arbitrary Are the Safe Harbor Provisions? 31

Factors Supporting the Use of Safe Harbors 31

Problems That Safe Harbors Present 33

Multiple Jurisdictions 39

Possibility of Opening Avenues for Tax Planning 40

Statistical Data and a Safe Harbor Example 40

Undertaxation 41

Safe Harbor Principles 41

Equity and Uniformity Issues 41

Recommendations as to the Use of Safe Harbors 42

Safe Harbors as Surrender of the Tax Administration’s Discretionary Power 43

Flexible Practices 43

Country-Specific Practices 44

Comprehensive Example 44

Notes 45

Chapter 5: Modifying Safe Harbor Simplification 47

The Study 47

Eleven Specific Transfer Pricing Measures 48

Notes 55

Chapter 6: Global Formulary Apportionment 57

Profit Split Methodologies 58

Global Dealing 58

Attack on Global Formulary Apportionment 58

Impact of the Arm’s Length Principle 59

Comparing Global Formulary Apportionment with the Arm’s Length Principle 60

Double Taxation 60

Lack of a Common Accounting System 61

Factor Selection 62

Transitional Issues 62

Economic Issues 62

Impact of Exchange Rate Movements 63

Compliance Costs and Data Requirements 63

Valuation Difficulties 64

Separate Entity Approach versus Global Formulary Apportionment 64

Bilateral Tax Treaties 65

Members of the Multinational Group Excluded from Global Formulary Apportionment 65

OECD’s Rejection of Non–Arm’s Length Methods 66

Safe Harbors 66

Notes 67

PART II: TRANSFER PRICING METHODOLOGIES 69

Chapter 7: Transactional Profit Split Measures 71

Transactional Profit Split Method Concepts 72

Strengths and Weaknesses of the Transactional Profit Split Method 73

Availability of Comparables in Applying the Transactional Profit Split Method 74

Importance of Functional Analysis in Applying Transactional Profit Split Methods 74

Transactional Profit Split Method Weaknesses 75

Applying Transactional Profit Split Methods 76

Guidelines Profit Splitting Approaches 77

Determining the Combined Profits to Be Split 79

Actual Profits versus Projected Profits 80

Different Profit Measures When Applying the Transactional Profit Split 81

How to Split the Combined Profits 82

Reliance on Comparable Uncontrolled Transactions Data 83

Allocation Keys 83

Reliance on Internal Data 86

Conclusions as to Transactional Profit Split Methods 88

Notes 89

Chapter 8: Profit Split Illustrations 91

Three Basic Assumptions 91

Three Residual Profit Split Alternatives 92

Commentary 96

Notes 97

Chapter 9: Residual Profit Split Examples 99

Presumptions and Preconditions 99

Essential Factual Pattern Conflict 100

Functional Activities 100

Selecting Transfer Pricing Approaches 101

Applying the Residual Profit Split Approach 101

Drafters’ Disclaimer 104

Contribution Approach 104

Notes 105

Chapter 10: Transactional Net Margin Method 107

Initial TNMM Considerations 107

How the Transactional Net Margin Method Works 108

TNMM Reliability 109

Strengths of the TNMM 110

Weaknesses of the TNMM 111

Applying the Comparability Standard to the TNMM 112

Database Issues: The Audio Player Example 114

Impact on the Arm’s Length Range 114

Selecting the TNMM 115

Selecting the Net Profit Indicator 115

Exclusion and Measurability 120

Cases in Which Net Profits Are Weighted to Sales 120

Cases in Which Net Profits Are Weighted to Costs 121

Cases in Which Net Profits Are Weighted to Assets 123

Berry Ratios 124

Other Guidance 126

TNMM Examples 126

How the OECD Views the TNMM 128

Notes 128

Chapter 11: Selecting Profit Indicators 133

Illustration 1 134

Illustration 2 136

Illustration 3 138

Notes 139

Chapter 12: Selecting Transfer Pricing Methods 141

When Can a Business Apply a Multisided Transfer Pricing Method? 142

When Should a Business Not Apply a Multisided Transfer Pricing Method? 144

PART III: COMPARABILITY ANALYSIS 147

Chapter 13: How Comparability Analysis Works 149

Determining When Transactions Are Comparable 149

Factors and Comparability 152

Functional Analysis 155

Economic Circumstances 161

Business Strategies 162

Return on Investment 164

Recognizing the Actual Transactions Undertaken 165

Associated Enterprises and Independent Enterprises: In Contrast 167

Alternatively Structured Transactions 167

Losses 168

Multinational Enterprises 168

Implementing Business Strategies 169

Impact of Governmental Policies 170

Notes 173

Chapter 14: Comparability Techniques 177

General Comparability Guidance 177

Typical Comparability Processes 179

Broad-Based Analysis of the Taxpayer’s Circumstances 181

Controlled Transaction and Choice of a Tested Party 181

Comparable Uncontrolled Transactions 188

Selecting or Rejecting Potential Comparables 193

Additive Approach 193

Comparability Adjustments 196

Arm’s Length Range 199

Notes 202

Chapter 15: Timing and Comparability 205

Timing of Origin 206

Timing of Collection 206

Valuation That Is Highly Uncertain 207

Data from Years Following the Year of the Transaction 208

Multiple-Year Data 208

Compliance Tools 210

Notes 210

PART IV: ADMINISTRATIVE APPROACHES 213

Chapter 16: Transfer Pricing Audits 215

Transactional Profit Split Method 216

Simultaneous Tax Examinations and Transfer Pricing 216

Tax Arrangements 217

Potential Levels of Cooperation between Tax Administrations 218

Examples 220

Notes 224

Chapter 17: Monitoring the Guidelines 227

Understanding the Monitoring Process 228

Method Selection 228

Specific Monitoring Processes 229

Working Party No. 6 Peer Reviews 229

Three Peer Review Levels 230

Peer Review Selection Criteria 231

Difficult Case Paradigms 231

Biennial Members of Tax Examiners 232

Business Community Involvement 233

Business Industry Advisory Committee 233

Business’s Role in Contributing to the OECD 235

Peer Reviews and the Business Community 235

Business Community’s Updates on Legislation and Practice 236

Role of the U.S. Council for International Business 236

Notes 237

PART V: ADVANCED OECD ANALYSIS 239

Chapter 18: Documentation Requirements 241

Introductory Issues and Burden of Proof 241

Guidance on Documentation Rules and Procedures 242

Useful Information for Determining Transfer Pricing 244

Summary of Recommendations on Documentation 245

Notes 245

Chapter 19: Intangible Property 247

Basic OECD Intangible Property Provisions 247

Future Intangible Property Developments 248

Arm’s Length Intangible Property Issues 249

OECD Intangible Property Developments 249

Soft Intangibles 250

Highly Uncertain Valuation Issues 250

Steps That an Independent Enterprise Might Undertake to Resolve Uncertainty 251

Tax Administrator’s Response 253

Timing Considerations 254

OECD Highly Uncertain Valuation Examples 254

What the OECD Should Do Now 259

Notes 260

Chapter 20: Service Arrangements 263

Overview 263

Scope of Intragroup Arrangements 264

Shareholder Activities and Stewardship Activities 267

Adjusting to the Form of the Arm’s Length Consideration 270

‘‘On Call’’ Services 270

Evaluating ‘‘On Call’’ Services 271

Determining an Arm’s Length Charge for the Intragroup Service 272

Including Service Costs in the Transfer of Goods 275

Double-Taxation Risks 276

Examining the Actual Use of the Services 276

Calculating the Arm’s Length Consideration 276

Applying Transfer Pricing Methods 277

Functional Analysis 278

Business Strategies: Profits for the Service Provider 278

Applying the Cost-Plus Method for Intragroup Services 279

Cost-Benefit Issues and Safe Harbor 280

Intragroup Service Examples 281

Specialized Services 283

Multinational Service Enterprises 283

Specialized Service Industries 284

Applying the Transactional Profit Split Method to Services 284

Notes 285

Chapter 21: Cost Contribution Arrangements 289

Overview 289

Cost Contribution Arrangement Criteria 291

Mandatory CCA Arm’s Length Requirements 296

Applying an Applicable Allocation Key 300

Tax Treatment of Contributions and Balancing Payments 302

Entry, Withdrawal, and Termination of a Cost Contribution

Arrangement 306

Recommendations for Monitoring and Structuring

Cost Contribution Arrangements 309

Documentation 310

Notes 312

Chapter 22: Business Restructuring 315

Special Risk Considerations 316

Compensation for Undertaking the Restructuring 318

Postrestructuring Remuneration 321

Recognition of the Actual Transactions Undertaken 323

Notes 325

PART VI: PUTTING THE GUIDELINES TO WORK 327

Chapter 23: Malaysia-Singapore Allocation Keys 329

Importance of Allocation Keys 329

When the Transactional Profit Split Method Is the

‘‘Most Applicable’’ Transfer Pricing Method 330

Specialized Services 331

Applying the Transactional Profit Split Method 332

Four Allocation Key Categories 333

Key Functions 333

Selecting Potential Allocation Keys 334

Selecting among Allocation Keys 336

‘‘Strong Correlation’’ Standard 337

Allocation Keys 337

Transfer Pricing Strategies 342

Notes 343

Chapter 24: China-Taiwan Trade 345

Taiwan and China: A History Lesson 345

Tax Considerations 348

Transactional Profit Split Method Criteria 352

APA Process 355

Notes 356

Chapter 25: Reverse Engineering the Transfer Pricing Process 357

Transactional Profit Split 358

Simultaneous Tax Examinations and Transfer Pricing 358

Tax Arrangements 359

How the Reverse Engineering Transfer Pricing Process Works 367

Functional Analysis Considerations 369

Transactional Profit Split Method 370

Success Parameters to the Reverse Engineering Process 370

Synergistic Activities 371

Undertaking Multijurisdictional Production Processes 372

Engaging in Extensive R&D Activities 373

Dealing in Unique Intangibles 374

Participating in a Cost Contribution Arrangement 374

Creating or Providing Specialized Services 375

Distributions of Generic Goods or Standardized Goods 376

Contract Manufacturers and Contract Service Activities 377

Planning 377

International LP Gas Companies Face Multinational Tax Claims 377

Multinational Service Enterprises 379

Notes 380

PART VII: CONNECTING TRANSFER PRICING AND PERMANENT ESTABLISHMENT 383

Chapter 26: Permanent Establishment Parameters 385

OECD’s Permanent Establishment Provisions 386

Overall Tax Considerations 388

OECD Approach to Determine Permanent Establishment 389

Hong Kong Applies the OECD Permanent Establishment Provisions 389

Common Law Permanent Establishment Criteria 391

Declining Businesses 394

‘‘Preparatory to’’ and ‘‘Auxiliary from’’ Exemptions 395

Will the OECD Approach Prevail? 395

Notes 396

Chapter 27: Focus on Permanent Establishment 397

Background Considerations 398

Twenty-five Proposed Changes 398

Notes 413

About the Authors 415

Index 417