Transfer Pricing and Corporate Taxation: Problems, Practical Implications and Proposed Solutions

198 Pages·2009·2.377 MB·English

by  Elizabeth King (auth.)

Transfer Pricing and Corporate Taxation
Elizabeth King
Transfer Pricing
and Corporate Taxation
Problems, Practical Implications
and Proposed Solutions
123
ElizabethKing
BeecherConsulting,LLC
9BeecherRoad
Brookline,MA02445
USA
www.beecherconsultinggroup.com
ISBN:978-0-387-78182-2 e-ISBN:978-0-387-78183-9
DOI:10.1007/978-0-387-78183-9
LibraryofCongressControlNumber:2008937177
(cid:2)c SpringerScience+BusinessMedia,LLC2009
Allrightsreserved.Thisworkmaynotbetranslatedorcopiedinwholeorinpartwithoutthewritten
permission of the publisher (Springer Science+Business Media, LLC, 233 Spring Street, New York,
NY10013,USA),exceptforbriefexcerptsinconnectionwithreviewsorscholarlyanalysis.Usein
connection with any form of information storage and retrieval, electronic adaptation, computer
software,orbysimilarordissimilarmethodologynowknownorhereafterdevelopedisforbidden.
The use in this publication of trade names, trademarks, service marks, and similar terms, even if
they are not identified as such, is not to be taken as an expression of opinion as to whether or not
theyaresubjecttoproprietaryrights.
Printedonacid-freepaper
springer.com
ForElla,anextraordinaryperson
andawonderfuldaughter
Acknowledgements
I have worked with many people—clients, attorneys and international examiners,
fellow transfer pricing economists and others—over the years, all of whom have
contributed greatly to my understanding of the issues addressed in this book. I
thank all of these individuals for their professionalism, their willingness to share
theirknowledge,andtheirfriendship.Iwouldalsoliketothankseveralpeoplefor
their extremely helpful and insightful comments on this manuscript. Confidential-
ityconstraintspreventmefrommentioninganyonebyname.Finally,myprofound
thankstoMarianneBurge,inmemoriam,forhermentoringandpersonalfriendship.
USA ElizabethKing
vii
Contents
1 Introduction .................................................. 1
PartI EconomicandAccountingRatesandConceptsShould
NotbeConflated
2 Economicvs.AccountingProfitRates............................ 7
3 OverviewandCritiqueofExistingTransferPricingMethods ....... 11
3.1 ComparableProfitsMethodandTNMM....................... 11
3.1.1 DescriptionofCPMandTNMM ...................... 12
3.1.2 CircumstanceswhenCPMandTNMMAreApplied...... 14
3.1.3 UnderlyingEconomicRationale....................... 14
3.1.4 CritiqueofEconomicReasoning ...................... 15
3.1.5 SummaryandPracticalImplications ................... 17
3.2 ResalePriceandCostPlusMethods .......................... 17
3.2.1 Circumstances when Resale Price and Cost Plus
MethodsApply .................................... 18
3.2.2 DescriptionofResalePriceandCostPlusMethods....... 19
3.2.3 UnderlyingEconomicRationale....................... 19
3.2.4 CritiqueofEconomicReasoning ...................... 20
3.2.5 SummaryandPracticalImplications ................... 21
3.3 ComparableUncontrolledPriceMethod....................... 22
3.3.1 DescriptionofComparableUncontrolledPriceMethod ... 22
3.3.2 UnderlyingEconomicRationale....................... 23
3.3.3 CritiqueofEconomicReasoning ...................... 23
3.3.4 SummaryandPracticalImplications ................... 26
3.4 ServicesCostMethod ...................................... 26
3.4.1 DescriptionofServicesCostMethod................... 27
3.4.2 RationaleforServicesCostMethod.................... 28
3.5 ProfitSplitMethods........................................ 29
3.5.1 ResidualProfitSplitMethod.......................... 29
3.5.2 ComparableProfitSplitMethod....................... 31
ix
x Contents
3.5.3 SummaryandPracticalImplications ................... 32
3.6 ProposedCost-SharingRegulationsandCoordinatedIssuePaper.. 32
3.6.1 IncomeMethod..................................... 35
3.6.2 AcquisitionPriceMethod ............................ 36
3.6.3 MarketCapitalizationMethod ........................ 36
3.6.4 Critique ........................................... 37
3.7 GlobalDealingRegulationsandNotice94–40.................. 41
3.7.1 CircumstancesinWhichtheProposedGlobalDealing
RegulationsandNotice94–40Apply .................. 41
3.7.2 Description of Notice 94–40 and Proposed Global
DealingRegulations ................................ 43
3.7.3 UnderlyingEconomicRationale....................... 45
3.7.4 CritiqueofFormularyMethod ........................ 45
3.7.5 SummaryandPracticalImplications ................... 48
PartII AlternativeandSupplementaryApproachestoTransferPricing
4 SomeAlternativeApproachestoTransferPricing ................. 51
4.1 ModifiedComparableUncontrolledPriceMethod .............. 53
4.2 NumericalStandards ....................................... 54
4.3 RequiredReturnonDebtandEquityCapital ................... 55
4.3.1 RequiredReturnonEquity ........................... 56
4.3.2 CostofDebt ....................................... 60
4.3.3 Non-CashChargesandInvestment..................... 61
4.3.4 DataRequirements.................................. 61
4.3.5 Summary.......................................... 61
4.4 JointVenture-BasedProfitSplit .............................. 62
4.5 FinancialorTangibleAsset-BasedProfitSplit.................. 63
4.6 FranchiseModel........................................... 63
4.7 Summary................................................. 64
PartIII CaseStudies
5 IntercompanySaleofDiamonds................................. 67
5.1 SummaryofKeyFacts ..................................... 68
5.1.1 HistoricalDominanceofDeBeers..................... 68
5.1.2 TheDeclineofDeBeers’RoleandtheEmergenceof
ParallelPrimaryMarkets ............................ 69
5.1.3 Producers’ and Sightholders’ Branding and Design
DevelopmentInitiatives ............................. 72
5.1.4 PricingDynamics:Primary,SecondaryandRetailMarkets 75
5.1.5 FunctionalAnalysisofFP,ISandUSS ................. 77
5.2 TransferPricingIssues ..................................... 79
Contents xi
5.3 AnalysisUnderExistingRegime ............................. 79
5.3.1 FP’sIntercompanySalesofRoughStonestoIS.......... 80
5.3.2 IS’SalesofGenericPolishedStonestoUSS ............ 81
5.3.3 IS’PricingofProprietaryPolishedStonesSoldtoUSS ... 85
5.4 AnalysisUnderAlternativeRegime........................... 85
5.4.1 FP’sIntercompanySalesofRoughStonestoIS.......... 85
5.4.2 IS’SalesofNon-ProprietaryPolishedStonestoUSS ..... 86
5.5 Comparison .............................................. 88
6 IntercompanySaleofMedicalDevices ........................... 89
6.1 SummaryofKeyFacts ..................................... 89
6.1.1 BusinessUnitA:In-HospitalMonitoringSystems........ 90
6.1.2 BusinessUnitB:OutpatientMonitoringDevices......... 91
6.2 TransferPricingIssues ..................................... 93
6.3 AnalysisUnderExistingRegime ............................. 93
6.3.1 FS’SalesofTangiblePropertytoUSP ................. 93
6.3.2 USP’sSalesofTangiblePropertytoFS................. 95
6.4 AnalysisUnderAlternativeRegime........................... 98
6.5 Comparison .............................................. 99
7 PerformanceofIntercompanyServices...........................101
7.1 SummaryofKeyFacts .....................................102
7.2 TransferPricingIssues .....................................104
7.3 ValueofCustomerRelationships.............................104
7.3.1 DecliningAveragePrices ............................106
7.3.2 RapidRatesofTechnologicalChange ..................108
7.3.3 EstablishedCustomerRelationships ...................109
7.4 AnalysisUnderExistingRegime .............................110
7.4.1 ApplicationofBestMethodRule......................110
7.4.2 ApplicationofSelectedMethod:CRMServices .........111
7.4.3 ApplicationofSelectedMethod:R&DServices .........112
7.5 AnalysisUnderAlternativeRegime...........................113
7.6 Comparison ..............................................114
8 ReplicationofInternet-BasedBusinessModel.....................115
8.1 SummaryofKeyFacts .....................................115
8.1.1 USP:BusinessDevelopmentGroup....................116
8.1.2 USP:AccountManagementGroup ....................116
8.1.3 USP:MarketingGroup ..............................117
8.1.4 USP:InformationTechnologyGroup ..................117
8.1.5 USP:CustomerService..............................117
8.1.6 USP:Legal ........................................118
8.1.7 USP:Finance,Tax,InternalAuditandBack-Office.......118
8.1.8 FS................................................118
8.2 TransferPricingIssues .....................................118
xii Contents
8.3 AnalysisUnderExistingRegime .............................119
8.4 AnalysisUnderAlternativeRegime...........................120
8.5 Conclusions ..............................................123
9 SaleofAssetswithEmbeddedIntellectualProperty ...............125
9.1 SummaryofKeyFacts .....................................125
9.2 TransferPricingIssues .....................................129
9.3 AnalysisUnderExistingRegime .............................129
9.4 AnalysisUnderAlternativeRegime...........................132
9.4.1 USS’EstimatedCostofEquityCapital.................133
9.4.2 EstimatedValueofUSS’EquityCapital ................133
9.4.3 CostofDebt .......................................134
9.4.4 Required Return on Capital Assuming Statutory
TaxRateApplies ................................... 134
9.4.5 Adjustments to Reflect Loss Carryforwards,
OtherFirm-SpecificFactors.......................... 135
9.5 Comparison ..............................................135
10 ProvisionofCDNServicestoThirdParties .......................137
10.1 SummaryofKeyFacts .....................................137
10.2 TransferPricingIssues .....................................140
10.3 AnalysisUnderExistingRegime .............................140
10.4 AnalysisUnderAlternativeRegime...........................141
10.5 AdditionalAnalysisUnderAlternativeRegime .................143
10.6 Comparison ..............................................144
11 GlobalTradingofCommodities .................................145
11.1 SummaryofKeyFacts .....................................145
11.1.1 DescriptionofNaturalGasMarkets....................145
11.1.2 DescriptionofAluminaandAluminumMarkets .........147
11.1.3 CoreAssetsandSkills...............................148
11.1.4 RecentDevelopmentsandTheirEffectontheRelative
ImportanceofCoreAssetsandSkills .................. 151
11.1.5 EffectsofDevelopmentsonTradingActivities...........153
11.1.6 DivisionofLaborandRisksAmongGroupMembers.....154
11.2 TransferPricingIssues .....................................155
11.3 AnalysisUnderExistingRegime .............................155
11.4 AnalysisUnderAlternativeRegime...........................156
11.5 Comparison ..............................................160
12 DecentralizedOwnershipofIntellectualProperty .................161
12.1 SummaryofKeyFacts .....................................162
12.2 TransferPricingIssues .....................................164
12.3 AnalysisUnderExistingRegime .............................165
Contents xiii
12.3.1 Assuming USP and FS Act to Maximize Their
IndividualProfits................................... 165
12.3.2 AssumingFSandUSPActasJointVenturePartners .....166
12.4 AnalysisUnderAlternativeRegime...........................171
12.4.1 KeyTermsofJVAgreements.........................172
12.4.2 SummaryofQualitativeObservations ..................173
12.4.3 QuantitativeAnalysis................................174
12.5 AnalysisUnder2005ProposedCost-SharingRegulations ........175
12.5.1 IncomeMethod.....................................176
12.5.2 MarketCapitalizationMethod ........................179
12.6 Comparison ..............................................179
PartIV Conclusions
13 ConcludingObservations.......................................183
Index .............................................................187