Tag Archives: Transfer Pricing

Comments on Draft Additional Guidance on Attribution of Profits to a Permanent Establishment

14 September 2017

The BMG has made a submission on Attribution of Profits to a Permanent Establishment in response to the OECD Discussion Draft.

Summary

A major motivator in initiating the entire BEPS project was to end BEPS motivated planning by centrally managed groups. Such planning often attributes sales to zero or low-taxed entities and separates sales through fragmentation from related core functions such as marketing, order fulfilment, and customer support performed by other group entities. Under Action 7 of the BEPS project some modest changes were agreed, so that in defined circumstances a non-resident entity could now be found to have a taxable presence (permanent establishment – PE) in a country in which it makes sales. The current proposals aim to clarify how profits should be attributed to such a PE.

We agree that attribution of profits depends on an analysis of the functions performed by the PE, but in our view this must not be done in isolation. A holistic approach should be adopted, which considers all the activities carried out in the country by the relevant entities in conjunction. Where a multinational chooses to carry out itself activities such as marketing, sales, order fulfilment, and customer support, it does so in order to take advantage of the synergies so created, thereby giving the customer a seamless experience and itself (i.e., the group) a significant market advantage. Hence, it is the cumulative importance of all group activities that should be considered when evaluating the value which is created in the country.

Due to this cumulative importance, our view is still that article 7 should be applied prior to article 9, since this would result in both better focus by taxpayers and tax authorities, and a practical reduction in the resources needed by both tax authorities and taxpayers for compliance.

A holistic approach will also lead in some circumstances to a different transfer pricing method being the most appropriate method. In particular, where such related functions are performed by highly integrated associated entities and are viewed holistically, the profit-split method is likely to prove more appropriate than one-sided methods.

A holistic approach is also important since the DD is meant to apply to all versions of article 7 of the model convention, and whether or not a state has accepted the changes adopted by a majority of OECD states in 2010, described as the authorized OECD approach (AOA). While the AOA has some merits, it has been used to further exacerbate a fragmented approach to the attribution of profits, which (along with the independent entity principle in general) has been a principal enabler of BEPS. Adoption of the holistic approach which we suggest could, we believe, allow some of those helpful features of the AOA to be retained, while ensuring that BEPS structures are not allowed to continue due to a narrow interpretation applying the independent entity principle to an entity which is not even legally separate.

Our Specific Comments section includes a number of concrete suggestions to make the DD more internally consistent and effective in its application.

Comments on the Draft Revised Guidance on Profit Splits

14 September 2017

The BMG has made a submission on the Draft Revised Guidance on Profit Splits.

This discussion draft (DD) offers a rewrite of Section C in Part III of Chapter II of the Transfer Pricing Guidelines. Such a rewrite is overdue, as there has not been a comprehensive re-examination of the profit-split method (PSM) since it was included in the Guidelines in 1995.

This DD is written in a much clearer way than the existing section and we welcome the effort that has been made. However, we regret that the opportunity has not been taken to develop and extend the PSM to make it easier to use. In our view this would be the most effective way forward to achieving the central mandate of the BEPS project, to ensure that multinationals are taxed ‘where economic activities occur and value is created’.

In these comments we provide a specific approach that would allow easy use for tax authorities and taxpayers alike. The principal reason for this is that solely objective factors (e.g. personnel, assets, etc.) are used to apportion profits. This approach would ignore internal group-controlled and tax-motivated arrangements such as intercompany contractual terms. It would also dispense with the need for subjective value judgments, greatly reducing the potential for conflict and uncertainty.

Presentation to the Inclusive Framework on BEPS

The BMG participated in the plenary meeting of the Inclusive Framework on BEPS, held in The Netherlands on Thursday 22 June.

Francis Weyzig representing the Group made a presentation, based on a short document, circulated in advance to participants in both English and French.

 

Hard-to-Value Intangibles

The BMG has submitted comments on a further discussion draft from the OECD relating to transfer pricing of hard-to-value intangibles.

The transfer of intangible property rights to related entities is one of the main techniques used by multinational enterprises (MNEs) to avoid taxes through base erosion and profit shifting (BEPS). Such assets are especially hard to value if they are transferred at an early stage, since their income-generating potential will be speculative, although best known to the firm itself. The three examples in the discussion draft all involve a transfer of such rights that have been only partially developed. Specifically, the examples involve a patented pharmaceutical compound that is partially through its clinical trials.

Although the draft still claims to apply the fiction of the arm’s length principle, it allows for transfer pricing adjustments based on actual outcomes, due to “information asymmetry” and its negative effects. Our comments support this approach, and propose some specific ways to strengthen it further.

The European Commission’s Proposals for a Common and Consolidated Corporate Tax Base

The BMG has now published its comments on the CCCTB  – the European Commission’s proposals for Common Corporate Tax Base, and for a Common Consolidated Corporate Tax Base.

The CCCTB adopts a sound approach to taxation of multinationals (MNEs), by treating them in accordance with their business reality as unitary firms. It aims to identify the tax base of the whole corporate group, disregarding internal transactions between the affiliates, and to apportion the taxable profit according to factors reflecting the firm’s real activity (sales, assets, employees) in each country. In our view, this is the most effective way to end both competition between states to offer tax incentives, and tax avoidance by MNEs shifting income between affiliates to minimise tax.

In our view, however, the aim should be to create a level playing field in relation to tax on corporate profits not only within the EU but worldwide. Unless this is done, EU member states will continue to compete with each other to offer tax preferences to MNEs from outside the EU. They will also continue to be vulnerable to tax competition from jurisdictions not covered by the CCCTB (including the UK, after Brexit). The CCCTB can and should be recast so that it attributes to the EU as a whole a portion of the worldwide profits of MNEs reflecting their actual activities within the EU, as well as allocating that profit among EU states, using the same criteria.

We also propose a ‘compensation mechanism’, in case another country (e.g. the US) adopts the alternative which has been proposed for a destination-based cash-flow tax with a ‘border adjustment’.

We also warn against the 2-stage approach proposed by the Commission, and criticise the proposed ‘super-deduction’ for R&D expenditures, and the so-called Allowance for Growth and Investment. As some business groups have also argued, it is better to define the tax base broadly, allowing scope for cuts in the rate (which are already taking place), than to build in selective and distorting special allowances.

16 May 2017

Revised Guidance on Profit Splits

The BMG has made a Submission to the OECD Consultation on its draft revisions to the Transfer Pricing Guidelines concern the Profit Split Method.

General Remarks and Summary

We applaud the continued interest of the OECD and Working Party 6 in its work to make the profit-split approach a more viable and important tool in intercompany pricing.

In this submission we propose the development and use of defined allocation keys and weights to apply the profit-split method to actual profits of common business models (see Appendix). In our comments to the specific questions we point out that the examples in the discussion draft assume, without explicitly saying it, that the various business units of a multinational enterprise (MNE) are normally independently managed, albeit with common ownership and some top-level management over policy and direction. In contrast to this assumption, we believe that most MNEs operate as centrally-managed unitary businesses performing core functions and using intangible property in multiple countries. We therefore suggest that it is appropriate to apply the profit-split method to actual profits in these cases. Nevertheless, if Working Party 6 takes a different view, due to their belief that some level of integrated risk sharing is required for application to actual profits, the profit-split method with defined allocation keys and weights could be applied to anticipated gross profits or other measure appropriate for the specific business model. Whether our recommended approach or this alternative is chosen and inserted into the Guidelines, it would greatly simplify things for taxpayers and tax authorities alike.

Presentation to the Enlarged Framework on BEPS of the OECD Committee on Fiscal Affairs

A presentation was made on behalf of the BEPS Monitoring Group by Professor Kerrie Sadiq, to the first meeting of the Enlarged Framework of the OECD Committee on Fiscal Affairs, in Kyoto (Japan) on 29 June 2016. The outline of this presentation is here.

Submission on Transfer Pricing Treatment of Cost Contribution Arrangements

The BMG has submitted its comments on the proposals under the BEPS Project Action 8 for Revisions to Chapter VIII of the Transfer Pricing Guidelines on Cost Contribution Arrangements.

Summary

This report consists of a draft revised chapter of the OECD Transfer Pricing Guidelines, with no indication of the changes made, or explanation of the reasons or intended effects, which makes the issues effectively inaccessible to all except the insider community of practitioners. This along with several other reports will result in extensive revisions and additions to the Guidelines, but it will be a piece-meal patch-up, incoherent and in some respects contradictory. The revised text could be adopted and have effect around the world, even in countries outside the OECD and G20, without the need for adoption by states. We therefore recommend that it should be regarded as only provisional, and a more fundamental reconsideration should be begun, in conjunction with the UN Tax Committee.

There can be good reasons for MNEs to share within the group the costs of activities which benefit various parts. However, such collaborative arrangements within MNEs are generally coordinated administratively, and are very different from contractual arrangements negotiated between genuinely independent enterprises each with its own separate business. Based on the mistaken starting point that CCAs between related parties should be treated as if they had been negotiated by independent ones, the proposals in this draft are contradictory and imprecise, difficult to administer, and in their present form would be ineffective in preventing MNEs from using CCAs for BEPS purposes. The suggestion that contributions should be priced according to the value of the benefits and not normally on their costs will again lead tax authorities into the quagmire of searching for non-existent comparables or estimating hypothetical values. On the other hand, it accepts that costs should usually be shared by applying an appropriate allocation key, and aims to prevent inappropriate outcomes by allowing subsequent adjustments to valuations and introducing the requirement that participants in a CCA must have the ‘capability and authority to control’ risks.

We support these proposals, as necessary measures to check CCAs from being used for profit-shifting, and indeed suggest that they should be strengthened. We nevertheless deplore the increased complexity which is needed to make the Guidelines effective, due to the adoption of a mistaken approach. In view of the many tax planning mechanisms available to MNEs for fragmenting activities and attributing functions to different entities, separating supposedly routine activities, such as contract manufacturing or distribution, from supposedly high-value functions such as design, financial services, or IP management, to allow MNEs also to plan allocation of joint costs without considering apportionment of profits is a continued encouragement to BEPS behaviour.

 

Summary of BMG Comments on BEPS Action Plan Proposals

This Summary is based on BMG submissions prepared by various of our members up to March 2015.

Overall, we consider that some of the OECD proposals could provide a more effective basis for MNE taxation, especially those which have moved towards treating them on a more realistic basis as unitary firms. Others will increase complexity and rely on detailed and intrusive audits and subjective judgments, and hence be difficult to administer especially by developing countries, exacerbating the likelihood of conflicts.

Presentation at the Regional Meeting in Lima

The BMG was represented by Veronica Grondona at the regional meeting for Latin America and the Caribbean on the BEPS process, organised by CIAT and the OECD, in Lima (Peru) on 28th February.

She made a presentation based on a paper in Spanish which was also circulated to meeting participants. It includes comments both on the BEPS process in general, and some more specific discussion of technical details, based on submissions made by the Group.