Legal Alert – The OECD Revision of the Special Considerations for Intangibles
On 6 June 2012, following a process which started in 2010, OECD published an interim draft, Revision of the Special Considerations for intangibles in Chapter VI of the OECD Transfer Pricing Guidelines and Related Provisions, concerning the transfer pricing aspects of intangibles. The purpose of the draft is to provide guidance specially tailored to determining arms length legal conditions for transactions that involve the use or transfer of intangibles. In a nutshell, when determining the arms length principle, a transaction is evaluated on the basis of whether it conveys economic value from one associated enterprise to another.
According to the draft, intangible is something that is capable of being owned or controlled for use in commercial activities. Intangible benefit can derive from a variety of items, including but not limited to patents, know-how and trade secrets, trademarks, trade names and brands. However, the definition of intangible is open for interpretation and needs to be evaluated on a case-by-case basis. For example, contractual rights and obligations may be recognized as intangibles and thus a commitment to make available the services of a particular group of uniquely qualified employees may constitute an intangible.
Intangible transactions are either used by one or both parties in connection with the sales of goods or performance of services without the transfer of the intangibles; or they are transactions whereby rights in intangibles or intangibles themselves are transferred. Neither legal ownership nor the bearing of costs related to intangible development entitles an entity within an MNE group to retain the benefits or returns linked to intangibles as such. Instead, a party should perform and control important functions related to the development, enhancement, maintenance and protection of the intangibles, and bear and control the associated risks and costs.
The draft places considerable weight on finding the proper and correct valuation technique and e.g. discourages the use of financial valuation techniques based on the cost of intangible development. These are valuation techniques which are used to estimate the value of intangibles based on the cost of intangible development plus a return, i.e. calculating and allotting appropriate R&D costs and adding a certain mark-up.
The draft currently awaits written comments which are to be provided by mid-September 2012. The draft is not a consensus draft and has already caused debate among industry professionals. E.g. the proposed accepted valuation techniques could affect a large number of valuations and companies. A public consultation on the draft is expected to be held during the week of 5 November 2012.
The draft is also incomplete in its scope and does not address several key issues and topics related to intangibles such as necessary modifications to cost contribution arrangements, transfer pricing of e.g. market specific advantages, location-based advantages and corporate synergies. These are anticipated in future. Even in its current form, however, the draft highlights the need for a detailed evaluation of the existing transfer pricing valuation techniques. Similarly, a review of the definition of intangible property for transfer pricing purposes is recommended.