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Archive for the ‘Transfer Pricing’ Category

Cost-Sharing Post TCJA | The Fiona Show sponsored by Crossborder AI Solution for Transfer Pricing

Posted by William Byrnes on April 14, 2020

Cost-sharing arrangements are subjective at best—even by transfer pricing standards. Over the years, major tech-companies like Xilinx, Amazon, Altera, and now Facebook, have all been victims of their own interpretations of cost-sharing regulations that have been written, re-written, modified, and in some cases, grandfathered to previous or even temporary versions. And that’s all not to even mention the Tax Cuts and Jobs Act. So, does the world have a right to be a little perplexed? We’d say so.

Listen to our recorded webinar in front of a live audience of transfer pricing counsel from large U.S. MNEs representing 10 major industries.  The webinar explores the mis-understood history of cost-sharing, the impact of Covid-19 on stress testing intra-group risk allocation amongst its global value chain, and the likely impact of the TCJA on future cost-sharing arrangements.

Episode 41: Cost-Sharing Post TCJA

Interested in tax risk management, technology, and analytics?  Check out what Texas A&M is doing this Summer International Tax Risk Management Summer Zoom Courses May 18 – July 3 interested in transfer pricing and tax risk management? Check out Texas A&M’s transfer pricing courses


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U.S. IRS Data for Country-by-Country Reports, Tax Year 2017 and 2016

Posted by William Byrnes on December 20, 2019

Six new tables presenting data from Form 8975, Country-by-Country Report, and Form 8975 Schedule A, Tax Jurisdiction and Constituent Entity Information, are now available on SOI’s Tax Stats Web page. The tables present data from the estimated population of corporate and partnership returns filed for Tax Year 2017. Five tables display the number of filers, revenues, profit, income taxes, earnings, number of employees, and tangible assets. The first three tables are classified by major geographic region and selected tax jurisdiction. The fourth table is classified by major industry group, geographic region, and select tax jurisdiction. The fifth table is classified by effective tax rate of multinational enterprise subgroups. A sixth table displays number of constituent entities classified by major geographic region, selected tax jurisdiction, and main business activities.

Country-by-Country Report: Tax Jurisdiction Information

Data Presented: Number of Filers, Revenues, Profit, Income Taxes, Earnings, Number of Employees, Tangible Assets

Classified by: Major Geographic Region and Selected Tax Jurisdiction
Tax Years: 2017 | 2016
Classified by: Major Geographic Region and Selected Tax Jurisdiction with Positive Profit Before Income Tax
Tax Years:  2017 | 2016
Classified by: Major Geographic Region and Selected Tax Jurisdiction with Negative or Zero Profit Before Income Tax
Tax Years: 2017 | 2016
Classified by: Major Industry Group, Geographic Region, and Selected Tax Jurisdiction
Tax Years: 2017 | 2016
Classified by: Effective Tax Rate of Multinational Enterprise Sub-groups
Tax Years: 2017 | 2016

Country-by-Country Report: Constituent Entities

Data Presented: Number of Constituent Entities

Classified by: Major Geographic Region, Selected Tax Jurisdiction, and Main Business Activities
Tax Years: 2017 | 2016

William Byrnes’ 4th Edition of his industry-leading Practical Guide to U.S. Transfer Pricing treatise was published on December 19, 2019 by Matthew Bender LexisNexis.  William Byrnes is the author or co-author of nine Lexis titles and an advisory board member of Law360’s International Tax journal.

William Byrnes’ completely revised 4th Edition Practical Guide to U.S. Transfer Pricing (2020) has been expanded to 2,000 pages of analyses and practice notes, 47 chapters divided over six parts: Part I: U.S. regulatory analysis, application of transfer pricing methods, and jurisprudence; Part II: OECD; Part III: United Nations; Part IV: European Union; Part V: Industry topics; and Part VI: Country practice and tax risk management. Professor Byrnes brings together 50 of the industry’s eminent transfer pricing counsel, economists, and financial accountants to provide a comprehensive two-volume “go-to” resource for tax risk management.

William Byrnes explained, “I am fortunate to be able to call upon and work with the industry’s leading transfer pricing professionals from firms such as Alston, Covington, Pillsbury, Jones Day, McDermott, Duff & Phelps, Miller Chevalier, PwC, KPMG, and multinational companies like Vertex and Veritas.” Sixty contributors add subject matter expertise on technical issues faced by tax and risk management counsel.

Last chance to join one of the case study teams for TRANSFER PRICING taught live online, using Zoom, by Dr. Lorraine Eden, Prof. William Byrnes, and many industry experts… The courses are for tax attorneys, accountants, or economists and count toward the Texas A&M’s INTERNATIONAL TAX Master degree (taught online).

The class of a maximum of 18 students will be grouped into teams of 3 students each. The 6 teams meet using Zoom to prepare a weekly TP Aggiespresentation to respond to a real-world post-BEPS client study. Then all teams meet together online via Zoom twice each week at 8:00am Dallas time Wednesdays and Sundays to discuss and present the case study solutions. Students are provided without charge textbook materials, videos with PPT, and podcasts, and granted access to a large online law & business database library including Lexis, Bloomberg, IBFD, Kluwer/CCH, Thomson, among many other tax resources.

To apply for the transfer pricing courses and international tax courses, contact Jeff Green, Graduate Programs Coordinator, T: +1 (817) 212-3866, E: jeffgreen@law.tamu.edu or contact David Dye, Assistant Dean of Graduate Programs, T (817) 212-3954, E: ddye@law.tamu.edu. Texas A&M Admissions website: https://law.tamu.edu/distance-education/international-tax  (applications and previous university transcripts must be received by Admissions before Wednesday, January 8th at 5pm Texas time). Note that the university is closed for the holidays from Dec. 20 until Jan. 2, 2020.

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What’s New in the 4th Edition Practical Guide to U.S. Transfer Pricing?

Posted by William Byrnes on December 20, 2019


In this release, Professor William Byrnes launches a new 4th Edition of Practical Guide to U.S. Transfer Pricing, in which chapters have been reorganized, substantially revised and expanded to align the publication to the Tax Cuts and Jobs Act, the 2017 OECD Transfer Guidelines and BEPS, and the 2017 UN Practical Manual.

His new edition has 47 chapters, 1,800 pages of technical, jurisprudence, and regulatory analysis to advise clients from a tax risk management perspective and to mitigate controversy. Order a copy here: https://store.lexisnexis.com/products/practical-guide-to-us-transfer-pricing-skuusSku60720

There are 29 U.S. specific chapters (Part I), 7 OECD/BEPS/EU chapters (Part II, IV), 9 industry-specific chapters (Part V), 2 foreign country chapters (Part VI).

New Country Chapters. India (Chapter 121) and Brazil (Chapter 120).

Financial Industry Chapters. Financial Industry Transfer Pricing Issues (Chapter 92), Determining Arm’s Length Interest (Chapter 93), Defending Intercompany Debt (Chapter 94), Performance Guarantees (Chapter 95).

Business Structuring Chapters. Business Restructuring: U.S. Tax and Transfer Pricing Rules (Chapter 27), Mergers and Acquisitions (Chapter 96), International Strategy for Transfer Pricing Compliance: A Checklist for Multinationals (Chapter 90), Transfer Pricing Aspects of Business Restructurings (Chapter 43).

Hybrid Rules and Transfer Pricing. New Chapter 45.

Cost Sharing casesAmazon and Altera, analyzed in depth and contrasted. see Chapter 13 and Chapter 10.

Tax Cuts and Jobs Act. Revision of U.S. Business Restructuring Chapter 27 includes the impact of GILTI, FDII, BEAT, Transition Tax, on U.S. business’s transfer pricing exposure. BEAT and Service Cost Method are discussed in Chapter 14.

Digital Taxation and Transfer PricingSee new Chapter 44.

Transfer Pricing Review Panel and Transfer Pricing Examination Process Updates. See Chapter 20, Examination and Appeals.

Value Chain Analysis. See Chapter 42, Porter’s Value Chain Analysis Case Study of Amazon; Chapter 97, Value Chain Study of Coffee Industry; Chapter 98, Value Chain Study of the Tobacco Industry.

Taxpayer First Act of 2019. Impact on LB&I Discussed in Chapter 20.

Impact of 2015 APA and Competent Authority Revenue Procedures. Analysis of trends and risks in Chapter 21, APAs and in Chapter 22, Competent Authority.

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Advisors will discover a rich selection of Lexis titles examining hot, cutting-edge issues like: Practical Guide to U.S. Transfer PricingLexis Guide to FATCA Compliance; a country-by-country examination of anti-money laundering laws; Taxation of Intellectual Property and TechnologyFederal Taxation of Oil and Gas Transactions; and Foreign Tax & Trade Briefs, which provides summaries of the tax laws and systems of over 120 countries. Nine treatises are authored or co-authored by Professor William H. Byrnes (Texas A&M University Law School) who leads teams of contributing subject experts in analyzing the management of operational and transactional risk confronting tax officers and their advisors, and providing compliance and planning insights.

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William Byrnes’ 4th Edition Practical Guide to U.S. Transfer Pricing Treatise Published December 19, 2019

Posted by William Byrnes on December 19, 2019

William Byrnes’ 4th Edition of his industry-leading Practical Guide to U.S. Transfer Pricing treatise was published December 19, 2019 by Matthew Bender LexisNexis.  William Byrnes is the author or co-author of nine Lexis titles and an advisory board member of Law360’s International Tax journal.

William Byrnes’ completely revised 4th Edition Practical Guide to U.S. Transfer Pricing (2020) has been expanded to 2,000 pages of analyses and practice notes, 47 chapters divided over six parts: Part I: U.S. regulatory analysis, application of transfer pricing methods, and jurisprudence; Part II: OECD; Part III: United Nations; Part IV: European Union; Part V: Industry topics; and Part VI: Country practice and tax risk management. Professor Byrnes brings together 50 of the industry’s eminent transfer pricing counsel, economists, and financial accountants to provide a comprehensive two-volume “go-to” resource for tax risk management.

William Byrnes explained, “I am fortunate to be able to call upon and work with the industry’s leading transfer pricing professionals from firms such as Alston, Covington, Pillsbury, Jones Day, McDermott, Duff & Phelps, Miller Chevalier, PwC, KPMG, and multinational companies like Vertex and Veritas.” Sixty contributors add subject matter expertise on technical issues faced by tax and risk management counsel.

“Transfer Pricing is one of the most complex and changing areas of tax risk in the United States and globally,” continued Byrnes. “The big-ticket cases, ones with over a half-billion-dollar adjustment, are almost always transfer pricing.  And with the renewed government focus on this topic around the world, transfer pricing audits will both increase in number and in actions taken, not just for the IRS, but most countries’ revenue authorities. U.S. companies are often the target.”

Byrnes shared, “Dr. Lorraine Eden (Texas A&M) and I will be using the treatise to teach transfer pricing online from January 13 through April 20 as part of the Texas A&M international tax curriculum”.



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Comments and Recommendations to the OECD Proposal for a “Unified Approach” under Pillar One

Posted by William Byrnes on November 15, 2019

Excerpt from SSRN here: A withholding based system will not be trapped in the tar pit of formation and implementation in the development of a new international tax regime, thereafter mired in the lack of institutional knowledge and capacity of resources for audit and MAP. A withholding based system offers a contrasted simplicity in relation to its implementation, including: (a) better procedural certainty for taxpayer and tax authority based upon current withholding regimes for services, (b) better revenue estimation for tax authorities, (c) less complex and expensive audits by tax authorities of taxpayers, (d) better tax risk management for taxpayers, (e) an established procedural system for relief of double taxation, and finally, (f) less cause for requiring MAP. Among proposals most likely to congeal into a uniform approach by March 2020, a withholding based system already has numerous adherents representing various economic strata.  Read the complete Excerpt from SSRN here

Thus, rather than running away from a withholding based system into a ‘brave new world’, the OECD should embrace it and shape its current contours of definitional income and source issues and range of rates. Thereafter, the respective OECD and UN committees may leverage economic theory and regulatory impact analyses, as was done in 1923, to modulate the withholding based system via the inclusive process of the OECD and UN MTCs while working within the context of the ALP bedrock of the OECD and UN TPGs to address Article 7 and Article 9 allocation issues resulting from intangible-based residual. Read the complete Excerpt from SSRN here

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Release of Taxation of IP & Technology Update for 2020

Posted by William Byrnes on November 11, 2019

Taxation of Intellectual Property and Technology 2020 edition is a 1,000 page analytical treatise to the federal tax consequences of the development, purchase, sale and licensing of intellectual properties and intangibles.  Primary author William Byrnes leads a team of America’s leading tax senior counsel to analyze tax risk challenges for business and investment decisions concerning intellectual property, technology, intangibles, and the digital economy. This 2020 update published in November (next update published in June 2020) contains:

  • Expands this treatise beyond 1,000 pages of analysis and planning research.
  • Provides in-depth analysis of the 2019 final and proposed regulations that impact intellectual property and intangibles, including GILTI and FDII.
  • Analyzes the new Cloud Computing Regulations.
  • Expanded analysis of the 2018 Supreme Court Wayfarer decision and its impact on interstate digital business models and trademark holding companies.
  • Analysis of several 2019 decisions cases including AmazonAlteraSlaughterhouse.

Major revisions this update, by chapter, include:

  • GILTI regulations. The final and newly proposed GILTI regs are analyzed in depth in § 2.04[8].
  • FDII regulations. The proposed regulations are explained in depth in § 2.04[9].
  • Cloud Computing Regulations. The proposed regulations are explained in depth in § 2.05[3] and § 10.02[2][c][iii][G].
  • International Transactions. Chapter 12 has been substantially revised and additional analysis of the Service Regulations as well as the Cost Sharing Regulations in light of Amazon and Altera.
  • Economic presence tax nexus and digital services tax. See analysis within Chapters § 11.09, § 14.07[6] and § 15.05[1].
  • Wayfarer’s Impact. On taxation of holding companies, see § 4.06. On tax nexus and sales tax, see Chapter § 11.04.
  • Taxation of Emerging Technologies for Cloud Computing, Blockchain, and Artificial Intelligence. See Chapter § 10.02[2][c].
  • Slaughter v Comm’r. IRS argued that the author’s promotion for the publisher which builds her brand is her trade or business and thus her royalties are net earnings from self-employment. Analyzed and critiqued in Chapter § 1.06[4].

New domestic and internationally focused chapters are in development by treatise author Prof. William Byrnes (Texas A&M Law) for 2020, including on the valuation of intangibles, tax considerations for entrepreneurs, and country analysis chapters. His team of internationally recognized expert practitioners provide strategic and tax risk analysis: Carlos Perez Gautrin, Yair Holtzman, Iselle Coronado-Torres, Jeffrey Trey, Arinjay Kumar Jain, Leonardo Macedo, Venetia Argyropoulou, Pamela Ann Fuller, William Seeger, Lucia Valenzuela, and Charles Lincoln. Please contact William Byrnes with chapter proposals. Taxation of Intellectual Property Publication Update (2019)

Nine seats remain for the Spring (4 teams of 3 students each) to join the current 4 teams January 13 – April 20 semester for TRANSFER PRICING course taught by Dr. Lorraine Eden, Prof. William Byrnes, TP Aggiesand several industry experts. The courses count toward the INTERNATIONAL TAX online Master curriculum of Texas A&M for tax attorneys, accountants, and economists. Taught live twice weekly using Zoom involving teams working to design positions and solutions for real-world post-BEPS client studies each week, supported by originally authored materials, videos and audio casts, PPTs, and a robust online law & business database library.  For more information, contact Texas A&M Admissions https://info.law.tamu.edu/international-tax

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Transfer Pricing case studies based course Jan 13 – Apr 20 (Zoom based, small team groups)

Posted by William Byrnes on November 7, 2019

Nine seats remain for the Spring (4 teams of 3 students each) to join the current 4 teams January 13 – April 20 semester for TRANSFER PRICING taught by Dr. Lorraine Eden, Prof. William Byrnes, TP Aggiesand several industry experts. The courses count toward the INTERNATIONAL TAX online Master curriculum of Texas A&M for tax attorneys, accountants, and economists. Taught live twice weekly using Zoom involving teams working to design positions and solutions for real-world post-BEPS client studies each week, supported by originally authored materials, videos and audio casts, PPTs, and a robust online law & business database library.  For more information, contact Texas A&M Admissions https://info.law.tamu.edu/international-tax

Texas A&M Law offers the premier online program in international tax with a multidisciplinary, risk-management-focused approach. Our unique, industry-based online curriculum is vetted by and focuses on the needs of multinational corporations, large firms and governments. A degree from Texas A&M University, a Tier-1 research institution and one of the largest U.S. public universities, is recognized worldwide. Texas A&M’s online International Tax Program is specifically designed for tax professionals, both lawyers and non-lawyers, whose careers demand an understanding of international taxation and related issues.  For more information, contact Texas A&M Admissions https://info.law.tamu.edu/international-tax

The International Tax graduate program is an online, 24 or 30 credit hour graduate degree that can be completed in less than two years. The degree program offers a competitive advantage to any tax professional, including lawyers, accountants, finance executives and economists, that advises multinational clients on business and investment, or that works within a tax (risk management) department.

    • Industry-Responsive Curriculum:  A tax-risk management approach with a focus on tax data management and risk analysis based on the results of in-depth industry research.
      • Hanover Research, on behalf of Texas A&M, interviewed one-on-one and then validated by anonymous survey over 100 tax executives from multinational corporations, large firms and government. As a result, the program is designed with faculty and degree candidates that are multidisciplinary, including both tax lawyers and non-lawyer tax professionals, engaged together in teams.
    • Incredible Student Experience:  Texas A&M law offers small class sizes to ensure each student gets personal attention. These small class sizes allow ​you to forge strong connections with your classmates and to learn from each other’s experiences.
    • Faculty Expertise & Leadership:  The curriculum has been developed and is led by Professor William Byrnes, an international tax authority and globally recognized online education pioneer focused on student outcomes. The program’s faculty are multidisciplinary (e.g. lawyers, economists, accountants, data scientists) and include renowned authors, academics, tax executives of multinational corporations, and tax advisors from large firms.

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State Aid: What is the Arm’s Length Return for Starbucks Netherlands?

Posted by William Byrnes on October 28, 2019

For the complete paper see https://ssrn.com/abstract=3464990

The crux of the legal issue is the EU Commission’s contention, required as the third Starbucks_Coffee_Logo.svgcondition for a finding of State aid, that the Netherlands-Starbucks APA conferred a selective advantage on Starbucks’ Netherlands manufacturing subsidiary (SMBV, aka the “roasting operation”) that resulted in a lowering of SMBV’s tax liability in the Netherlands as compared with what SMBV would have paid under the Netherlands’ general corporate income tax system dealing with third parties.

And the crux of the dispute that determines the legal issue outcome is whose choice of transfer pricing method (the Commission or The Netherlands/Starbucks) is the most reliable.

However, the most interesting aspect of the controversy is how to allocate the residual between SMBV and Starbucks intermediary IP management limited partnership? In a broader framework, not part of the analysis contemplated by the applicable 1995 OECD Transfer Pricing Guidelines, is how to allocate the residual among Starbucks’ global value chain. For the complete paper see https://ssrn.com/abstract=3464990

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Hope to see you at the Cambridge Economic Crimes Symposium this week (Sept 1 – 8)!!

Posted by William Byrnes on August 29, 2019

It is almost 40 years now – each year the first week of September, over 2,000 delegates (government, financial institutions, large firms) from 120 countries descends on Jesus College, Cambridge University for the world’s oldest and #1 international economic crimes and money laundering risk symposium.

The Cambridge International Symposium on Economic Crime first convened nearly 40 years ago as a result of widespread concern that both the development and the integrity of the global financial system were at risk from those who engage in economically motivated crime, and those who would assist them.

8 days: The symposium runs over eight days and offers hundreds of opportunities to connect formally and informally. 3 meals a day together in the Jesus College Cambridge formal meals halls, drinks from 5pm until dinner every night, Jesus College Bar for after-dinner conversations and networking. Come for the week; or drop in for a day!  September 1 – September 8, 2019: registration by day or the week is here https://www.crimesymposium.org/register

120+ sessions: With the emphasis on expertise, topicality and practicality, there are over 120 plenary sessions and workshops, as well as smaller interactive workshops and think tanks.

650+ experts: The symposium’s emphasis has always been practical; therefore, we bring together experts across a range of fields to share knowledge and expertise.

It’s my 10th attendance and always come away with new ideas, much learned, and many new colleagues made through the networking. Three professors from Texas A&M University (Dr. Andrew Morriss, Dr. Lorraine Eden, and myself) will be in attendance and participating in workshops and plenary.  So if you’ve been thinking about joining the symposium but needed a push, then come meet us at the afternoon drinks after the last plenary session.

September 7th Saturday 11am plenary I will be chairing a transfer pricing and economic crimes discussion and idea generation session. Check out the full 8-day program https://www.crimesymposium.org/programme-37


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Professor Jeffery Kadet responds with his thoughts on the Nike European Commission Decision

Posted by William Byrnes on July 26, 2019

Professor Jeffrey Kadet (University of Washington Law) responds below to my thoughts about Nike’s state aid case (Thank you Professor Kadet for your very informed counter to my contentions)

William, it was a pleasure reading your piece on the Nike situation (below in this blog).  I have a few thoughts. Please feel free to add this to your blog if you think these thoughts would be useful to the discussion.

I of course agree with your analysis of transfer pricing and the various functions that are performed (or not performed) in various places. My focus is rather on how groups like Nike, Starbucks, and Apple have potentially hoisted themselves on their own petards.

What do I mean by this? I mean that these groups created structures that make no sense except in light of a tax ruling that never should have been issued in the first place. They were so excited about their respective rulings that they didn’t build into their structures any Plan B in case the ruling were unexpectedly revoked or disappeared for any reason. They of course didn’t anticipate the European Commission actions; nobody anticipated it. But now that it’s there, they’re stuck with the structures they created.

Nike chose to place ownership of certain production and marketing intangibles through a cost-sharing agreement in a special purpose company (initially Nike International Limited and then later Nike International CV) with no personnel or operations of its own. The SPC then licensed whatever IP it held to Nike European Operations Netherlands BV, which clearly conducts an operating business. Since the focus here is Dutch taxation and not U.S. taxation, we ignore the check-the-box structure that Nike presumably created in which the SPC and NEON are merely divisions within one Nike CFC. I haven’t seen any public information on the group’s actual structure in this regard except within the July 29, 2016, Tax Court petition, which described NEON as “a disregarded subsidiary of NIKE Pegasus”.

In any case, the European Commission decision notes that NEON was established and began operations in 1994. The decision goes on to say that NEON has been acting as a principal and regional HQ since 2006. This at least implies that it conducted activities prior to 2006 as either an agent or distributor. In any case, it would have in all years conducted real operations locally and within Europe that added to the group’s marketing intangibles.

Maybe on the surface, NEON is just distributing branded products. However, contractually and economically, it is a manufacturer. How does it do its manufacturing? Prior to a 2009 restructuring, it contracted directly with contract manufacturers using Nike Inc. as an agent for arranging and contracting with these manufacturers. As described in the decision, Nike Inc. conducted for NEON as its agent the types of functions described in Reg §1.954-3(a)(4)(iv)(b) [Foreign base company sales income – (4)Property manufactured, produced, or constructed by the controlled foreign corporation]. Following the 2009 restructuring when the Singapore branch of Nike Trading Company BV was added to the mix, things are less clear but it seems doubtful that many production functions changed. Likely, a few functions might have been moved from the U.S. to Singapore. That, however, logically shouldn’t change NEON’s character as a manufacturer.

With the above in mind, Nike has voluntarily created NEON, which has conducted an active business now for 25 years. Over those years, it has created to some extent the marketing intangibles that it uses. This is in addition to whatever IP rights it secures from the SPC under the license agreement. Further, either through its own personnel or through its agents it is conducting all production activities aside from the physical production itself. NEON has never suggested that it has a PE in the U.S. or elsewhere that is conducting purchasing functions.

Nike structured an active manufacturing and sales business within NEON, which pays (i) a royalty for manufacturing IP and some marketing IP to an SPC with no operations of its own, and (ii) service fees (the arm’s length nature of which no one is questioning) to Nike Inc. and NTC for their production functions. NEON has no PE outside the Netherlands to which any profits could be attributed. Any royalty that NEON pays should be an arm’s length royalty for manufacturing IP and any marketing IP that NEON does not already hold based on its activities since its formation in 1994. To suggest that commercial returns in excess of this arm’s length royalty should be included in an expanded royalty to the SPC is completely contrary and out of phase with the structure that Nike voluntarily created. The revenues, production costs, and other expenses that NEON earns or incurs should be fully within the Dutch tax computation; there’s nowhere else it can go.

The same issue of creating a structure dependent on a tax ruling that invites, in the absence of that ruling, full taxation in the country where operations are being conducted is true as well for Starbucks in the Netherlands and Apple in Ireland. The latter, of course, created Apple Sales International, which manufactures products through contract manufacturers and sells them. With all the manufacturing functions (aside from the physical manufacturing performed by contract manufacturers) presumably being conducted by related parties under service agreements, there again is no basis to suggest that any of ASI’s profits should be attributed to some location outside of Ireland. Should the service fee payable to Apple U.S. group members be higher? Probably, but Apple chose its structure and the level of intercompany service fees. The ruling that created an allocation to a home office with no personnel or physical operations is creating a fiction. With the ruling being negated by the Commission’s decision and with no Plan B, Apple created its own mess.

William, I hope the above is useful to your thinking.

All the best,

Jeff (his faculty website is here)

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Nike State Aid case analysis: Would you pay $100 for a canvas sneaker designed the 20’s? (Where does the residual value for “Just Do it” and the ‘cool kids’ retro branding of All Stars belong?)

Posted by William Byrnes on July 19, 2019

I have received several requests this month about my initial thoughts on the EU Commission’s 56-page published (public version available here) State Aid preliminary decision with the reasoning that The Netherlands government provided Nike an anti-competitive subsidy via the tax system.  My paraphrasing of the following EU Commission statement [para. 87] sums up the situation:

The Netherlands operational companies are remunerated with a low, but stable level of profit based on a limited margin on their total revenues reflecting those companies’ allegedly “routine” distribution functions. The residual profit generated by those companies in excess of that level of profit is then entirely allocated to Nike Bermuda as an alleged arm’s length royalty in return for the license of the Nike brands and other related IP”

The question that comes to my mind is: “Would I pay $100 for a canvas sneaker designed the 20’s that I know is $12 to manufacture, distribute, and have enough markup for the discount shoe store to provide it shelf space?” My answer is: “Yes, I own two pair of Converse’s Chuck Taylor All Stars.” So why did I spend much more than I know them to be worth (albeit, I wait until heavily discounted and then only on clearance).  From a global value chain perspective: “To which Nike function and unit does the residual value for the ‘cool kids’ retro branding of All Stars belong?”


U.S. international tax professionals operating in the nineties know that The Netherlands is a royalty conduit intermediary country because of its good tax treaty system and favorable domestic tax system, with the intangible profits deposited to take advantage of the U.S. tax deferral regime that existed until the TCJA of 2017 (via the Bermuda IP company).  Nike U.S., but for the deferral regime, could have done all this directly from its U.S. operations to each country that Nike operates in.  No other country could object, pre-BEPs, because profit split and marketing intangibles were not pushed by governments during transfer pricing audits.

The substantial value of Nike (that from which its profits derive) is neither the routine services provided by The Netherlands nor local wholesalers/distributors.  The value is the intangible brand created via R&D and marketing/promotion.  That brand allows a $10 – $20 retail price sneaker to sell retail for $90 – $200, depending on the country.  Converse All-Stars case in point.  Same  $10 shoe as when I was growing up now sold for $50 – $60 because Converse branded All-Stars as cool kid retro fashion.

Nike has centralized, for purposes of U.S. tax deferral leveraging a good tax treaty network, the revenue flows through NL.  The royalty agreement looks non-traditional because instead of a fixed price (e.g. 8%), it sweeps the NL profit account of everything but for the routine rate of return for the grouping of operational services mentioned in the State Aid opinion. If Nike was an actual Dutch public company, or German (like Addidas), or French – then Nike would have a similar result from its home country base because of the way its tax system allows exemption from tax for the operational foreign-sourced income of branches.  [Having worked back in the mid-nineties on similar type companies that were European, this is what I recall but I will need to research to determine if this has been the case since the nineties.]

I suspect that when I research this issue above that the NL operations will have been compensated within an allowable range based on all other similar situated 3rd parties.  I could examine this service by service but that would require much more information and data analysis about the services, and lead to a lesser required margin by Nike. The NL functions include [para 33]: “…regional headquarter functions, such as marketing, management, sales management (ordering and warehousing), establishing product pricing and discount policies, adapting designs to local market needs, and distribution activities, as well as bearing the inventory risk, marketing risk and other business risks.”

By example, the EU Commission states in its initial Nike news announcement:

Nike European Operations Netherlands BV and Converse Netherlands BV have more than 1,000 employees and are involved in the development, management and exploitation of the intellectual property. For example, Nike European Operations Netherlands BV actively advertises and promotes Nike products in the EMEA region, and bears its own costs for the associated marketing and sales activities.

Nike’s internal Advertising, Marketing, and Promotion (AMP) services can be benchmarked to its 3rd party AMP providers.  But by no means do the local NL AMP services rise to the level of Nike’s chief AMP partner (and arguably a central key to its brand build) Wieden + Kennedy (renown for creating many industry branding campaigns but perhaps most famously for Nike’s “Just Do it” – inspired by the last words of death row inmate Gary Gilmore before his execution by firing squad).

There is some value that should be allocated for the headquarters management of the combination of services on top of the service by service approach.  Plenty of competing retail industry distributors to examine though.  If by example the profit margin range was a low of 2% to a high of 8% for the margin return for the combination of services, then Nike based on the EU Commission’s public information falls within that range, being around 5%.

The Commission contends that Nike designed its transfer pricing study to achieve a result to justify the residual sweep to its Bermuda deferral subsidiary.  The EU Commission states an interesting piece of evidence that may support its decision [at para 89]: “To the contrary, those documents indicate that comparable uncontrolled transactions may have existed as a result of which the arm’s length level of the royalty payment would have been lower…”.  If it is correct that 3rd party royalty agreements for major brand overly compensate local distributors, by example provide 15% or 20% profit margin for local operations, then Nike must also.  [I just made these numbers up to illustrate the issue]

All the services seem, on the face of the EU Commission’s public document, routine to me but for “adapting designs to local market needs”.  That, I think, goes directly to product design which falls under the R&D and Branding.  There are 3rd parties that do exactly this service so it can be benchmarked, but its value I suspect is higher than by example ‘inventory risk management’.  We do not know from the EU document whether this ‘adapting product designs to local market’ service was consistent with a team of product engineers and market specialists, or was it merely occasional and outsourced.  The EU Commission wants, like with Starbucks, Nike to use a profit split method.  “…a transfer pricing arrangement based on the Profit Split Method would have been more appropriate to price…”.  Finally, the EU Commission asserts [para. 90]: “…even if the TNMM was the most appropriate transfer pricing method…. Had a profit level indicator been chosen that properly reflected the functional analysis of NEON and CN BV, that would have led to a lower royalty payment…”.

But for the potential product design issue, recognizing I have not yet researched this issue yet, based on what I know about the fashion industry, seems rather implausible to me that a major brand would give up part of its brand residual to a 3rd party local distributor.  In essence, that would be like the parent company of a well-established fashion brand stating “Let me split the brand’s value with you for local distribution, even though you have not borne any inputs of creating the value”.  Perhaps at the onset of a startup trying to create and build a brand?  But not Nike in the 1990s.  I think that the words of the dissenting Judge in Altera (9th Cir June 2019) are appropriate:

An ‘arm’s length result is not simply any result that maximizes one’s tax obligations’.

The EU Commission obviously does not like the Bermuda IP holding subsidiary arrangement that the U.S. tax deferral regime allows (the same issue of its Starbucks state aid attack), but that does not take away from the reality that legally and economically, Bermuda for purposes of the NL companies owns the Nike brand and its associated IP.  The new U.S. GILTI regime combined with the FDII export incentive regime addresses the Bermuda structure, making it much somewhat less comparably attractive to operating directly from the U.S. (albeit still produces some tax arbitrage benefit).  Perhaps the U.S. tax regime if it survives, in combination with the need for the protection of the IRS Competent Authority for foreign transfer pricing adjustments will lead to fewer Bermuda IP holding subsidiaries and more Delaware ones.

My inevitable problem with the Starbucks and Nike (U.S. IP deferral structures) state aid cases is that looking backward, even if the EU Commission is correct, it is a de minimis amount (the EU Commission already alleged a de minimis amount for Starbucks but the actual amount will be even less if any amount at all).  Post-BEPS, the concept and understanding of marketing intangibles including brands is changing, as well as allowable corporate fiscal operational structures based on look-through (GILTI type) regimes. More effective in the long term for these type of U.S. IP deferral structures is for the EU Commission is to spend its compliance resources on a go-forward basis from 2015 BEPS to assist the restructuring of corporations and renegotiation of APAs, BAPAs, Multilateral PAs to fit in the new BEPS reality.  These two cases seem more about an EU – U.S. tax policy dispute than the actual underlying facts of the cases.  And if as I suspect that EU companies pre-BEPS had the same outcome based on domestic tax policy foreign source income exemptions, then the EU Commission’s tax policy dispute would appear two-faced.

I’ll need to undertake a research project or hear back from readers and then I will follow up with Nike Part 2 as a did with Starbucks on this Kluwer blog previously.  See Application of TNMM to Starbucks Roasting Operation: Seeking Comparables Through Understanding the Market and then My Starbucks’ State Aid Transfer Pricing Analysis: Part II.  See also my comments about Altera:  An ‘arm’s length result is not simply any result that maximizes one’s tax obligations’.

Want to help me in this research or have great analytical content for my transfer pricing treatise published by LexisNexis? Reach out on profbyrnes@gmail.com

Prof. William Byrnes (Texas A&M) is the author of a 3,000 page treatise on transfer pricing that is a leading analytical resource for advisors.

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Getting its “fair share” from the U.S., U.K. implements 2% tax on gross revenues of Google, Amazon, and Facebook

Posted by William Byrnes on July 11, 2019

From April 2020, the government will introduce a new 2% tax on the revenues of search engines, social media platforms and online marketplaces which derive value from UK users. Large multi-national enterprises with revenue derived from the provision of a social media platform, a search engine or an online marketplace (‘in scope activities’) to UK users.

The Digital Services Tax will apply to businesses that provide a social media platform, search engine or an online marketplace to UK users. These businesses will be liable to Digital Services Tax when the group’s worldwide revenues from these digital activities are more than £500m and more than £25m of these revenues are derived from UK users.

If the group’s revenues exceed these thresholds, its revenues derived from UK users will be taxed at a rate of 2%. There is an allowance of £25m, which means a group’s first £25m of revenues derived from UK users will not be subject to Digital Services Tax.

The provision of a social media platform, internet search engine or online marketplace by a group includes the carrying on of any associated online advertising business. An associated online advertising business is a business operated on an online platform that facilitates the placing of online advertising, and derives significant benefit from its connection with the social media platform, search engine or online marketplace. There is an exemption from the online marketplace definition for financial and payment services providers.

The revenues from the business activity will include any revenue earned by the group which is connected to the business activity, irrespective of how the business monetises the platform. If revenues are attributable to the business activity and another activity, the business will need to apportion the revenue to each activity on a just and reasonable basis.

Revenues are derived from UK users if the revenue arises by virtue of a UK user using the platform. However, advertising revenues are derived from UK users when the advertisement is intended to be viewed by a UK user.

A UK user is a user that is normally located in the UK.

Where one of the parties to a transaction on an online marketplace is a UK user, all the revenues from that transaction will be treated as derived from UK users. This will also be the case when the transaction involves land or buildings in the UK. However, the revenue charged will be reduced to 50% of the revenues from the transaction when the other user in respect of the transaction is normally located in a country that operates a similar tax to the Digital Services Tax.

Businesses will be able to elect to calculate the Digital Services Tax under an alternative calculation under the ‘safe harbour’. This is intended to ensure that the tax does not have a disproportionate effect on business sustainability in cases where a business has a low operating margin from providing in-scope activities to UK users

The total Digital Services Tax liability will be calculated at the group level but the tax will be charged on the individual entities in the group that realise the revenues that contribute to this total. The group consists of all entities which are included in the group consolidated accounts, provided these are prepared under an acceptable accounting standard. Revenues will consequently be counted towards the thresholds even if they are recognised in entities which do not have a UK taxable presence for corporation tax purposes.

A single entity in the group will be responsible for reporting the Digital Services Tax to HMRC. Groups can nominate an entity to fulfil these responsibilities. Otherwise, the ultimate parent of the group will be responsible.

The Digital Services Tax will be payable and reportable on an annual basis.

Draft legislation

Explanatory notes


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Analysis of Altera’s Double Take. Will Altera Be Reheard En Banc or Will Altera Seek The Supreme Court To Weigh In On Chevron and State Farm?

Posted by William Byrnes on June 8, 2019

Prof. William Byrnes (Texas A&M Law) is the author of the treatises Practical Guide to U.S. Transfer Pricing and Taxation of Intellectual Property & Technology

“an arm’s length result is not simply any result that maximizes one’s tax obligations”

In a double take two-to-one decision because of a withdrawn decision due to the death of a judge, a Ninth Circuit panel in Altera reversed a unanimous en banc decision of the Tax Court that the qualified cost sharing arrangements (QCSA) regulations[1] were invalid under the Administrative Procedure Act.[2]  The renown Professor Calvin Johnson (Texas) and I shared comments on this case.  Professor Johnson’s pragmatism is worth noting (see his latest Altera article here) in the context of Altera: “$100 million of stock options is a $100 million cost, as a matter of law.” Because it is a cost for public accounting, Calvin states it is incredulous hat Altera would enter into a arm’s length negotiation in which the counterparty invests $200 cash, and Altera invests $200 cash plus $100 million stock options, but then Altera agrees to ignore its additional $100 million cost and agrees to split equally.  Altera wants to deduct its $100 million of stock cost domestically but pass on the associated income to the foreign-controlled group member.  This is bad policy.

I agree with Professor Johnson that it is bad policy.  But I think that Treasury is taking shortcuts to generate the result that it wants instead of going through the steps necessary to effect a change in policy. Most of my academic colleagues support the majority’s opinion of the proposition that Congress bestowed such latitude to Treasury in IRC § 482.  I agree that the latitude is within the Code Section, but that Treasury to date has regulated a policy dependent on the arm’s length and comparables, as the dissent enunciates and the Ninth Circuit panel majority supported in Xilinx II.  Treasury may change its policy approach, but that requires a formal procedural process laid out by the APA, I argue in favor of the dissent’s approach.  Even with the new language added to IRC § 482 by the TCJA of 2017, Treasury, I propose, must still formally open a public process that it is changing tact from arm’s length and comparables to something else like apportionment of profits and loss by formulae.

The last word has not been heard in Altera.  I expect that Altera will request an en banc hearing.  However, Altera II may be the case that the two newest members, in particular, Justices Kavanaugh and Gorsuch, of the Supreme Court have been waiting for to weigh in on Chevron and State Farm.  Expect Altera III.

Altera I and Altera II (withdrawn)

The Ninth Circuit’s issuance, withdrawal, and re-issuance of a CSA decision is also a double take of Xilinx.[3] However unlike Altera, after the withdrawal of its initial Xilinx decision favoring the IRS position, the Ninth Circuit rejected the IRS’ position that the (pre-2003) QCSA Regulations required treating deductions for stock-based compensation as costs that must be shared by the foreign related party in cost-sharing arrangements. The former QCSA regulations, and current ones still, require that related entities share the cost of employee stock compensation in order for their cost-sharing arrangements to be classified as qualified cost-sharing arrangements. Treasury has consistently stated that the previous and current versions of the QCSA regulations are consistent with the arm’s length standard whereas the Tax Court has consistently disagreed with the IRS position.

At the Tax Court level for Altera, the Court held that the current QCSA regulations are a legislative rule because the regulations have the force of law, as opposed to an interpretive rule, and thus the State Farm standard applied.[4] The Tax Court concluded that Treasury did not undertake “reasoned decision making” required by State Farm in issuing the cost-sharing regulations because Treasury failed to support with any evidence in the administrative record its opinion that unrelated parties acting at arm’s length would share stock-based compensation (SBC) costs.[5] The Tax Court held that Treasury’s decision-making process relied on speculation rather than on hard data and expert opinions and that Treasury ignored public comments evidencing that unrelated party cost-sharing arrangements did not share stock compensation costs.

The Ninth Circuit’s first panel’s opinion, now withdrawn, held that Treasury did not exceed its authority delegated by Congress under IRC § 482.[6] That panel explained that IRC § 482 does not speak directly to whether Treasury may require parties to a QCSA to share employee stock compensation costs in order to receive the tax benefits associated with entering into a QCSA. The first panel held that the Treasury reasonably interpreted IRC § 482 as an authorization to require internal allocation methods in the QCSA context, provided that the costs and income allocated are proportionate to the economic activity of the related parties and concluded that the regulations are a reasonable method for achieving the results required by the statute. Thus, the first panel granted Chevron deference to the QCSA regulations.

The primary issue of Altera I and II, and the cases that precede it that have found in favor of the taxpayers is whether the arm’s length standard requires the comparability standard be met through a method seeking evidence of empirical data or known transactions?  Alternatively, is Treasury afforded deference to disregard a comparability method to instead seek an arm’s length result of tax parity that relies on an internal method of allocation to allocate the costs of the U.S. employee stock options between the U.S. and foreign related parties in proportion to the income enjoyed by each, determined post facto (after the fact) of the cost-sharing agreement?[7]

Altera II’s majority, relying on Frank,[8] states that the arm’s length standard need not be based solely on comparable transactions for reallocating costs and income, though recognizing that Frank is limited[9] to situations wherein it is difficult to hypothesize an arm’s length transaction.  The dissenting Judge provided a descriptive history that Treasury has repeatedly asserted that a comparability analysis is the only way to determine the arm’s length standard. Regarding Frank, the dissent stated, “The majority’s attempt to breathe life back into Frank is, simply, unpersuasive.” The Judge emphasized that the Ninth Circuit had declared Frank an outlier because (a) the parties in Frank had stipulated to applying a standard other than the arm’s length, (b) “there was no evidence that arms-length bargaining upon the specific commodities sold had produced a higher return,” and (c) that the complexity of the circumstances surrounding the services rendered by the subsidiary made it “difficult for the court to hypothesize an arm’s length transaction.”[10]

Pre Altera

The regulatory rules for cost-sharing arrangements (“CSAs”) at issue in Altera I and II, issued in temporary form January 5, 2009[11] and in subsequent final form effective December 16, 2011,[12] are different from the previously issued CSAs. The rules for earlier CSAs are subject to grandfather provisions.  For periods before January 5, 2009, the status of an arrangement as a CSA and the operative rules for complying arrangements, including rules for buy-in transactions, were determined under the qualified cost sharing arrangement regulations issued in 1995 and substantively amended in 1996 and 2003 (the “2003 QCSA Regulations”).[13]

The Ninth Circuit, in Xilinx,[14] rejected the position of the Service that the pre-2003 QCSA Regulations in effect in 1997–99 required treating deductions for stock-based compensation as costs that must be shared in cost-sharing arrangements.

The purpose of the regulations is parity between taxpayers in uncontrolled transactions and taxpayers in controlled transactions. The regulations are not to be construed to stultify that purpose. If the standard of arm’s length is trumped by 7(d)(1), the purpose of the statute is frustrated. If Xilinx cannot deduct all its stock option costs, Xilinx does not have tax parity with an independent taxpayer. Xilinx, Inc. v. Comm’r, 598 F.3d 1191, 1196, 2010 U.S. App. LEXIS 5795, *14 (9th Cir 2010)

The Xilinx concurring opinion summarizes the positions at odds between Xilinx and the IRS:

The parties provide dueling interpretations of the “arm’s length standard” as applied to the ESO costs that Xilinx and XI did not share. Xilinx contends that the undisputed fact that there are no comparable transactions in which unrelated parties share ESO costs is dispositive because, under the arm’s length standard, controlled parties need share only those costs uncontrolled parties share. By implication, Xilinx argues, costs that uncontrolled parties would not share need not be shared.

On the other hand, the Commissioner argues that the comparable transactions analysis is not always dispositive. The Commissioner reads the arm’s length standard as focused on what unrelated parties would do under the same circumstances, and contends that analyzing comparable transactions is unhelpful in situations where related and unrelated parties always occupy materially different circumstances. As applied to sharing ESO costs, the Commissioner argues (consistent with the tax court’s findings) that the reason unrelated parties do not, and would not, share ESO costs is that they are unwilling to expose themselves to an obligation that will vary with an unrelated company’s stock price.  Related companies are less prone to this concern precisely because they are related — i.e., because XI is wholly owned by Xilinx, it is already exposed to variations in Xilinx’s overall stock price, at least in some respects. In situations like these, the Commissioner reasons, the arm’s length result must be determined by some method other than analyzing what unrelated companies do in their joint development transactions. Xilinx, Inc. v. Comm’r, 598 F.3d 1191, 1197, 2010 U.S. App. LEXIS 5795, *16-17 (9th Cir 2010)

The concurring Judge concludes: “These regulations are hopelessly ambiguous and the ambiguity should be resolved in favor of what appears to have been the commonly held understanding of the meaning and purpose of the arm’s length standard prior to this litigation.”

The Treasury amended the QCSA in 2003 to explicitly provide that the intangible development costs that must be shared include the costs related to stock-based compensation. From January 5, 2009, the 2009/2011 QCSA Regulations apply (the “2009 QCSA Regulations”). For periods starting with January 5, 2009, a pre-January 5, 2009 arrangement that qualified as a CSA under the 2003 QCSA Regulations is subject in part to the 2003 QCSA Regulations and in part to the 2009 QCSA Regulations. Arrangements that qualified as CSAs under the 2003 QCSA Regulations, whether or not materially expanded in scope on or after January 5, 2009, are known as “grandfathered CSAs.” The IRS contends that grandfathered CSAs are subject, with significant exceptions, to the 2009 QCSA regulations provisions for cost sharing transactions (“CSTs”) and platform contribution transactions (PCTs).  The significant exceptions for the grandfathered CSAs include that, unless the CSA is later expanded by the related parties, the original pre-2009 CSA is not subject to the 2009 QCSA regulations ‘Divisional Interest’ and Periodic Adjustment rules.

However, the IRS attempted to adjust the application of the 2003 QCSA Regulations by issuing a Coordinated Issue Paper on Section 482 CSA Buy-In Adjustments on September 27, 2007 (the “2007 CSA-CIP”).[15] The CSA-CIP was de-coordinated effective June 26, 2012, after the rejection of its concepts in the 2009 Tax Court decision in the VERITAS case. [16] The CSA-CIP provided that the Income Method and the Acquisition Price Method, similar to the specified transfer pricing methods set forth in the 2009 QCSA Regulations, are to be considered ‘best methods’ under the 2003 QCSA Regulations even though they only could be applied as ‘unspecified methods’. The Tax Court in VERITAS, addressing assessments for the tax years 2000 and 2001, neither cited nor followed the IRS methods of its 2007 CSA-CIP. Note that VERITAS survives Altera II because the 2009 QCSA Regulations years were not yet promulgated for the years of concern.  From the IRS’ perspective, though it does not acquiesce in the decision, it cured VERITAS by including the Income Method and the Acquisition Price Method as specified methods for determining “buy-in” payments for the 2009 QCSA regulations buy-ins.  Thus, the IRS continues to aggressively litigate in favor of these methods, exemplified by the appeal from Altera[17] and Amazon[18] in 2017.

Post Altera

Although the IRS withdrew the CSA-CIP in 2012, it continues to pursue cases under the pre-2009 Treasury Regulations as is the CSA-CIP remained in place. Amazon filed a Tax Court petition in December of 2012 challenging a $2 billion transfer pricing adjustment related to a qualified cost sharing arrangement between Amazon.com Inc. and its European subsidiary pre-2009.  Amazon claimed that the IRS erred in relying on a discounted cash flow method which the tax court clearly rejected in VERITAS. In the 207-page Amazon opinion, the Tax Court ruled that the IRS’s adjustment with respect to a buy-in payment for the intragroup CSA was arbitrary, capricious, and unreasonable.

Moreover, the IRS has an ongoing CSA controversy against Microsoft for the 2004-06 tax years for which President George Bush’s former Treasury Secretary John Snow promised at a February 7, 2006 hearing to then Chairman of the Committee Senator Charles E. Grassley that the IRS would bring a substantial CSA adjustment.[19] Microsoft reported an effective tax rate for fiscal years 2016, 2017, and 2018 of 15 percent, eight percent, and 19 percent respectively.[20] Microsoft reported that this unresolved transfer pricing issue is the primary cause for it to increase its tax contingency from $11.8 billion to $13.5 billion to $15.4 billion.[21] The IRS has not issued a deficiency because the controversy remains in the IDR stage of the audit currently due to litigation over the issues of legal privilege and the issue of the IRS’ contract with a third party law firm to assist in the audit.[22]

The IRS announced in 2016 and 2018 a CSA adjustment against Facebook for the tax years 2010 and subsequent of at least $5 billion, and of 2011 – 2013 of approximately $680 million.[23] Facebook reported an effective tax rate of 13 percent for the second quarter of 2017 and 2018.[24] The controversy remains in the procedural phase on the docket of the Tax Court. The Microsoft and Facebook controversies appear to be further second take of Amazon and Altera.

Based on Treasury’s litigation stances and the 2015 temporary CSA regulations proposals, Treasury updated several International Practice Service Transaction Units’ audit guidelines relevant for CSAs, including (1) Pricing of Platform Contribution Transaction (PCT) in Cost Sharing Arrangements (CSA)—Initial Transaction, (2) Change in Participation in a Cost Sharing Arrangement (CSA)—Controlled Transfer of Interests and Capability Variation, (3) Pricing of Platform Contribution Transaction (PCT) in Cost Sharing Arrangements (CSA) Acquisition of Subsequent IP, (4) Comparison of the Arm’s Length Standard with Other Valuation Approaches—Inbound, and (5) IRC 367(d) Transactions in Conjunction with Cost Sharing Arrangements (CSA).

Altera’s Double Take Analysis Of Majority and Dissenting Opinions (Read the Altera II Decision here)

The Ninth Circuit Court majority evaluated the validity of Treasury’s regulations under both Chevron and State Farm, which the Court stated: “provide for related but distinct standards for reviewing rules promulgated by administrative agencies.”[25] The majority distinguished State Farm from Chevron in that State Farm “is used to evaluate whether a rule is procedurally defective as a result of flaws in the agency’s decision-making process,” whereas Chevron “is generally used to evaluate whether the conclusion reached as a result of that process—an agency’s interpretation of a statutory provision it administers—is reasonable.”  The majority first turned to the Chevron analysis that:[26]

“When Congress has ‘explicitly left a gap for an agency to fill, there is an express delegation of authority to the agency to elucidate a specific provision of the statute by regulation,’ and any ensuing regulation is binding in the courts unless procedurally defective, arbitrary or capricious in substance, or manifestly contrary to the statute.”

The Ninth Circuit Court panel’s majority resolved that IRC § 482 is ambiguous because it does not address share employee stock compensation costs.[27] The majority stated that it is not persuaded by Altera’s argument that stock-based compensation is not “transferred” between parties because only intangibles in existence can be transferred. Altera argues that QCSAs to “develop” intangibles does not constitute a “transfer” of intangibles. The majority instead concludes that the transfer of intangibles may include the transfer of future distribution rights to intangibles which stock-based compensation are albeit yet to be developed. The majority relies upon the expansive meaning of the statutory word “any” for IRC § 482 (“any” transfer . . . of intangible property).[28] But the dissent counters that “any” does not modify “intangible property.” Rather, “any” precedes and thus, applies only to “transfer.”[29]

The majority accepts Treasury’s new explanation that the taxpayer’s agreement to “divide beneficial ownership of any Developed Technology” constitutes a transfer of intangibles.[30]  The dissenting Judge points out that Treasury never made, much less supported, a finding that QCSAs constitute transfers of intangible property.[31] The dissent states that:[32]

“No rights are transferred when parties enter into an agreement to develop intangibles; this is because the rights to later-developed intangible property would spring ab initio to the parties who shared the development costs without any need to transfer the property. And, there is no guarantee when the cost-sharing arrangements are entered into that any intangible will, in fact, be developed.”

The majority next turned to the reasonableness of Treasury ignoring the comparables presented by the Taxpayer and during the regulatory comment period.  The majority quotes from an aspect of the legislative history:[33]  

 “There are extreme difficulties in determining whether the arm’s length transfers between unrelated parties are comparable. . . . [I]t is appropriate to require that the payment made on a transfer of intangibles to a related foreign corporation be commensurate with the income attributable to the intangible.”

The majority concludes that Congress granted Treasury the authority to develop methods that did not rely on the analysis of ‘problematic’ comparable transactions and that Treasury promulgated the QCSA based on this authority because Treasury stated, “The uncontrolled transactions cited by commentators do not share enough characteristics of QCSAs involving the development of high-profit intangibles…”.[34]

The dissenting Judge pointed out that Treasury merely cited to the general legislative history IRC § 482 1986 amendment but that Treasury “did not explain what portions of the legislative history it found pertinent or how any of that history factored into its thinking.”[35] The dissenting Judge holds out that the majority accepts the “ever-evolving post-hoc rationalizations” of Treasury and then “goes even further to justify what Treasury did here”.[36] Commentators of the 2009 QCSA regulations submitted comparable transactions demonstrating that unrelated companies do not share the cost of stock-based compensation. Treasury distinguished these uncontrolled transactions as not sharing enough characteristics of QCSAs involving the development of high-profit intangibles. The dissent agreed with the Tax Court which held that Treasury’s explanation for its regulation was insufficient under State Farm because Treasury “failed to provide a reasoned basis” for its “belief that unrelated parties entering into QCSAs would generally share stock-based compensation costs.”[37]

The dissenting Judge explained that the legislative history and plain reading of the second sentence of IRC § 482 did not offer Treasury the flexibility to depart from a comparability analysis required by the first sentence but for a limited context of “any transfer (or license) of intangible property”.  The Judge then pointed out that Treasury’s 1988 White Paper also stated: “intangible income must be allocated on the basis of comparable transactions if comparables exist.”[38]  Thus, the Tax Court’s found for Xilinx because the IRS had not provided evidence that unrelated parties transacting at arm’s length share expenses related to stock-based compensation.[39]  The Ninth Circuit majority upheld the finding in favor of Xilinx because the arm’s length standard required that stock-based compensation expenses would not be shared in the absence of evidence that unrelated parties would share these costs.[40]

The majority next concludes that Treasury complied with the procedural requirements of the Administrative Procedures Act (“APA”) so that the 2009 QCSA survives a State Farm analysis.[41] The State Farm analysis second step requires that the Treasury “must consider and respond to significant comments received during the period for public comment.”[42] The majority summarizes Altera’s four arguments that Treasury did not meet this requirement: (1) Treasury improperly rejected comments submitted in opposition to the proposed rule, (2) Treasury’s current litigation position is inconsistent with statements made during the rulemaking process, (3) Treasury did not adequately support its position that employee stock compensation is a cost, and (4) a more searching review is required under Fox,[43] because the agency altered its position.  Boiled down, Altera argues that Treasury stated its intent to coordinate the new regulations with the arm’s length standard and then dismissed submissions addressing arm’s length comparables.

The majority was not persuaded by Altera’s argument that an arm’s length analysis requires actual transactional analysis. Altera submitted that “unrelated parties do not share stock compensation costs because it is difficult to value stock-based compensation, and there can be a great deal of expense and risk involved.”[44] Treasury responded in the 2009 QCSA that “the uncontrolled transactions cited by commentators do not share enough characteristics of QCSAs involving the development of high-profit intangibles to establish that parties at arm’s length would not take stock options into account in the context of an arrangement similar to a QCSA.”[45] The majority sided with Treasury’s justification that the lack of similar transactions led it to “employ a methodology that did not depend on non-existent comparables to satisfy the commensurate with income test and achieve tax parity.”[46]  The majority also concluded that Treasury’s use of an internal method of reallocation is consistent with the arm’s length standard because the internal method attempts to bring parity to the tax treatment of controlled and uncontrolled taxpayers as does a comparison of comparable transactions when they exist.[47]

Finally, the majority distinguished the previous, contrary, 2010 holding of the majority in Xilinx that stock-based compensation is not required to be included for a CSA. This majority stated that administrative authority was not at issue in Xilinx and that the previous panel was not called upon to consider the “commensurate with income.  The Xilinx panel had to reconcile a conflict between two rules: the specific methods of the 1994 arm’s length rule and the pre-2003 QCSA Regulations.[48]

The dissenting panel member instead concluded that the two-member majority justified Treasury’s about-face by (a) providing “a reasoned basis for the agency’s action that the agency itself has not given”,[49] (b) encouraging “executive agencies’ penchant for changing their views about the law’s meaning almost as often as they change administrations”,[50] and (c) endorsing a practice of requiring interested parties to engage in a scavenger hunt to understand an agency’s rulemaking proposals.[51]  The dissenting Judge was troubled that Treasury stated “for the first time and with no explanation that it may, instead, employ the “commensurate with income” standard to reach the required arm’s length result.”[52]

Based on the Tax Court decision in Xilinx and in Altera that the taxpayer had presented sufficient evidence of comparable transactions, the dissent agreed with the Tax Court’s finding that Treasury was required at least to attempt to gather empirical evidence before declaring that no such evidence was available, in the face of such evidence being available.  In light of this evidence, Treasury concedes the comparables issue in its appellate brief and instead pivots its justification for the 2009 QCSA that Treasury is not required to undertake an analysis of what unrelated entities do under comparable circumstances. Treasury’s argument is that it was statutorily authorized to dispense with a comparability analysis in this narrow context and thus Treasury does not need to investigate whether the uncontrolled transactions were comparable.[53] The dissenting Judge would hold that the APA requires Treasury to state that it was taking this new position in a stark departure from its previous regulations.[54]

In my opinion, Treasury had to concede the comparables point.  The issues remain the same as explained by the Xilinx concurring Judge above.  Treasury’s argument, regarding CSAs, is that related parties should be treated differently because as a group the parties have more information and more control over the other party as regards the share options.  Given the group relationship, the U.S. and the foreign party will split the costs of the U.S. employees’ share options.  But the application of the arm’s length standard has been understood to treat the related parties and unrelated.  If unrelated, then the assumption of information is unfounded.  Moreover, why would the foreign party bear the costs of the share options of the U.S. employees without negotiating on behalf of its employees to also receive such options?  What is the quid pro quo for the foreign subsidiary?  Yet, I also consider that potentially such lopsidedness in favor of the U.S. party can be brought to bear by the economic dominance of the U.S. party. which can potentially occur in an outsourcing relationship.  However, Altera and amicus industry groups provided agreements evidencing the contrary and the IRS chose not to seek rebuttal evidence (or it could not locate any). 

The issues of comparables and comparability, at least in my perspective, are distinguishable.  The first step is to identify transaction comparables, which Altera clearly has, and the second is to then to adjust for the commonly accepted (market, economic) variances between the comparables.  By example, size of parties in relation to each other, size of market and competition within, term, etc the factors of the Treasury Regs and other arm’s length differences that would require adjustments.  I disagree with the underlying premise of the “three percent”. Stated another way, 97 percent of transactions are therefore incomparable.  That’s a lot of “unicorns”.  But business is not like our fingerprints and rarely generates unicorns.  More often, competitors develop distinguishing approaches that can be adjusted for.  Said another way, I disagree with the lack of comparables, and base my disagreement on the managerial sciences like supply and value chain.  The economy does produce unicorns and we call these unicorns first movers.  Sometimes we grant patent protection to maintain unicorn status for a period of time.  And sometimes first movers develop a new formation of the supply and full value chain that we call a business method.  But for the issue of a monopoly or concentrated oligopoly, such first movers eventually experience competitors and comparables begin to emerge.  Thus, the argument for a lack of comparable transactions within an industry or industry segment necessarily requires believing that unicorns are common.

Also, the “three percent” must be viewed in historical context.  Firstly, that report was written at a time when there was a lack of available information via the Internet and electronic (pay for) databases that captured such information, cleaned it, and tagged it.  Secondly, the domestic economy itself was less mature and robust, with much less competition and thus much less transactions to be compared. Thirdly, the world was not a globalized competitive economy as it is today.  The OECD and Treasury still state a lack of comparable transactions today with regard to “hard to value intangibles”.  My academic sense thinks that it is just hard, laborious work to find them.  (And arguably for simplicity maybe as a policy we should move away from the arm’s length). 

The dissenting Judge finds that in 1986 Congress could not have legislated against the backdrop of stock-based compensation and cost-sharing arrangement because these activities did not develop until the 1990s. Thus, the dissenting Judge concludes that while “Congress may choose to address this practice now, it cannot be deemed to have done so then.”[55] In his conclusion, the Judge states “… an arm’s length result is not simply any result that maximizes one’s tax obligations.”[56] In my opinion, the ball is in Treasury’s court, not Congress’.

Lexis’ Practical Guide to U.S. Transfer Pricing is 36 chapters, 3,000 pages, updated annually to help multinationals cope with the U.S. transfer pricing rules and procedures, taking into account the international norms established by the OECD and UN. It is also designed for use by tax administrators, both those belonging to the U.S. Internal Revenue Service and those belonging to the tax administrations of other countries, and tax professionals in and out of government, corporate executives, and their non-tax advisors, both American and foreign. Fifty co-authors contribute subject matter expertise on technical issues faced by tax and risk management counsel.  Free download of chapter 2 here


[1]Treas. Reg. § 1.482-7A(d)(2).

[2] Altera Corp. v Commr, __ F.3d. __ (9th Cir., June 7, 2019) (case no. 16-70496) [hereafter “Altera II”] reversing Altera Corp. v. Commr, 145 TC No 3 (July 27, 2015) [hereafter “Altera I”].

[3] Xilinx, Inc v Commr, 125 TC 37 (2005), affd, 598 F 3d 1191 (9th Cir 2010). It is noted that in 2009 the Ninth Circuit issued an opinion accepting the position of the Service, but withdrew that opinion on Jan. 13, 2010.

[4] See Am. Mining Cong. v. Mine Safety & Health Admin., 995 F.2d 1106, 1109 (D.C. Cir. 1993). Interpretive rules are excluded from the general notice requirement for proposed rulemaking by 5 U.S.C. sec. 553(b)(3)(A). See Chevron, U.S.A., Inc. v. Natural Res. Def. Council, Inc., 467 U.S. 837 (1984) that the Tax Court held incorporates the State Farm standard.

[5] Motor Vehicle Mfrs. Ass’n of the U.S. v. State Farm Mut. Auto Ins. Co., 463 U.S. 29 (1983).

[6] The Ninth Circuit’s majority stated that the summary of the first panel’s withdrawn opinion constitutes no part of the opinion of the second panel.

[7] Altera II at 6, citing Comm’r v. First Sec. Bank of Utah, 405 U.S. 394, 400 (1972) (quoting 26 C.F.R. §1.482-1(b)(1) (1971)).

[8] Frank v. Int’l Canadian Corp., 308 F.2d 520, 528–29 (9th Cir. 1962).

[9] Oil Base, Inc. v. Comm’r, 362 F.2d 212, 214 n.5 (9th Cir. 1966).

[10] Altera II dissent at 54.

[11] 74 Fed Reg 340 (Jan 5, 2009) (the “Temporary Regulations”).

[12] 76 Fed Reg 80,082 (Dec 22, 2011) (the “Final Regulations”).

[13] Treas. Reg. § 1.482-7A. The “A” was added to the QSCA Regulations effective on January 5, 2009, when the Temporary Regulations were published.

[14] Xilinx, Inc v Commr, 125 TC 37 (2005), affd, 598 F 3d 1191 (9th Cir 2010).

[15] Coordinated Issue Paper on Section 482 CSA Buy-In Adjustments, LMSB-04-0907-62 [hereinafter CSA-CIP].

[16] VERITAS Software Corp v Commr, 133 TC 297 (2009), nonacq, 2010-49 IRB (Dec 6, 2010) (detailed explanation of the IRS’ reasoning available at http://www.irs.gov/pub/irs-aod/aod201005.pdf, assessed June 7, 2019).

[17] Altera I.

[18] Amazon.Com, Inc. v Commr, 148 TC No 8 (March 23, 2017).

[19] Unofficial Transcript of Finance Hearing on Fiscal 2007 Budget is Available, 2006 TNT 31-15 (Feb 15, 2006).

[20] Fiscal year end of June 30 for 2016 and 2017, last three months ending December 31, 2018.  Microsoft 10-K (2017) at 38; Microsoft 10-K (2018); Microsoft 10-K (2Q 2019) at Note 11-Income Taxes.

[21] Microsoft 10-K (2017) at 39; Microsoft 10-K (2Q 2019) at Note 11-Income Taxes.

[22] United States v Microsoft Corp, No 2:15-cv-00102 (WD Wash May 5, 2017).

[23] See U.S. v Facebook Inc ND Cal, No 3:16-cv-03777 (pet filed July 6, 2016).

[24] Facebook 10-Q (2Q 2017) at 20; Facebook 10-K (2018) at 35, 48.

[25] Catskill Mountains Chapter of Trout Unlimited, Inc. v. EPA, 846 F.3d 492, 521 (2d Cir. 2017).

[26] Chevron, 467 U.S. at 843–44.

[27] Altera II at 25.

[28] The Court cites United States v. Gonzales, 520 U.S. 1, 5 (1997) (“Read naturally, the word ‘any’ has an expansive meaning . . . .”) and Republic of Iraq v. Beaty, 556 U.S. 848, 856 (2009) (“Of course the word ‘any’ (in the phrase ‘any other provision of law’) has an ‘expansive meaning, giving us no warrant to limit the class of provisions of law [encompassed by the statutory provision].”

[29] Altera II dissent at 79.

[30] Altera II dissent at 67.

[31] Altera II dissent at 73.

[32] Altera II dissent at 73.

[33] See H.R. Rep. No. 99-426, at 425.

[34] Citing Compensatory Stock Options Under Section 482, 68 Fed. Reg. 51,171-02, 51,173 (Aug. 26, 2003).

[35] Altera II dissent at 63.

[36] Altera II dissent at 67.

[37] Altera II dissent at 65.

[38] Study of Intercompany Pricing under Section 482 of the Code (“White Paper”), I.R.S. Notice 88-123, 1988-1 C.B. 458, 474;

[39] Xilinx v. Commissioner (“Xilinx I”), 125 T.C. 37, 53 (2005).

[40] Altera II dissent at 58.

[41] Altera II at 33.

[42] 5 U.S.C. § 553(c); Perez v. Mortg. Bankers Ass’n, 135 S. Ct. 1199, 1203 (2015).

[43] FCC v. Fox Television Stations, Inc., 556 U.S. 502 (2009).

[44] Altera II at 36.

[45] Compensatory Stock Options under Section 482 (Preamble to Final Rule), 68 Fed. Reg. 51,171-02, 51,172–73 Aug. 26, 2003).

[46] Altera II at 39.

[47] Altera II at 41.

[48] Treas. Reg. § 1.482-1(b)(1) (1994).

[49] Motor Vehicle Mfrs. Ass’n of U.S., Inc. v. State Farm Mut. Auto. Ins. Co., 463 U.S. 29, 43 (1983) (citing SEC v. Chenery Corp. (“Chenery II”), 332 U.S. 194, 196 (1947))

[50] BNSF Ry. Co. v. Loos, 586 U.S. ___, No. 17-1042, slip op. at 9 (2019) (Gorsuch, J., dissenting)

[51] Altera II dissent at 51.

[52] in its preamble to § 1.482-7A(d)(2),

[53] Altera II dissent at 66 citing Appellant’s Br. 64.

[54] Altera II dissent at 68 citing FCC v. Fox Television Stations, Inc., 556 U.S. 502, 515 (2009) (“[T]he requirement that an agency provide reasoned explanation for its action would ordinarily demand that it display awareness that it is changing position.”).

[55] Altera II dissent at 80.

[56] Altera II dissent at 81.


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Starbucks’ Transfer Pricing & The EU Commission Decision

Posted by William Byrnes on December 7, 2015

Starbucks Manufacturing BV (SMBV), based in the Netherlands, is the only coffee roasting company in the Starbucks group in Europe. It sells and distributes roasted coffee and coffee-related products (e.g. cups, packaged food, pastries) to Starbucks outlets in Europe, the Middle East and Africa.

The EU Commission’s decision challenges the outcome of the Advanced Pricing Agreement (APA) between the Netherlands Tax Authority (Tax Authority) and SMBV. The Tax Authority respondedEU Commission that within the Dutch tax system profit is taxed where value is created. The Tax Authority concluded an Advance Pricing Agreement (APA) with SMBV which includes an arm’s length business remuneration for the roasting of coffee beans.  The Tax Authority collects taxes on profit made by SMBV for roasting coffee beans. Because the intellectual property rights of Starbucks are not located in The Netherlands, the royalties for the use of these cannot be taxed in The Netherlands.

The Tax Authority, acting in accordance with the international OECD framework for transfer pricing, agreed with Starbucks that it may apply the Transactional Net Margin Method (TNMM) to determine an arm’s length result to attach to its Netherlands based activities. The TNMM requires that members of multinational enterprises be treated as independently operating national enterprises: profits are taxed wherever value is created, attaching to the specific enterprise of the activity creating the value.

In its decision, the Commission establishes a unique interpretation the OECD guidelines concerning the choice and application of the globally accepted transfer pricing methods.  Based upon its interpretation, the Commission’s alleges that Starbucks should have applied the Comparable Uncontrolled Price (CUP) method to each activity of each enterprise instead of the TNMM. However, the Netherlands Tax Authority does not agree that the CUP method should have been applied in the Starbucks case in this fashion because of the absence of suitably similar, comparable data to the situation of Starbucks’ operations and value creating activities and assets. Starbucks graph

After its misapplication of CUP to Starbucks’ operations, the Commission then creates a new criterion for profit calculation.  While the methodologies and underlying criteria of application are not a closed universe for determining an arm’s length price, the Commission’s new criterion is incompatible with domestic regulations and the OECD framework. The Tax Authority will contend that the Commission does not adequately understand the nature and context of the value add of Starbucks’ myriad of activities.

The Commission states in its Starbucks decision that the arm’s length principle it has applied is not the same as the arm’s length principle stemming from Section 9 of the OECD treaty. The Commission’s application of a variant will cause confusion and uncertainty among tax authority of member states, among trade partners’ tax authorities, and the underlying enterprises subject to their audit authority.  For a tax authority, such uncertainty relates to the question of what rules are to be applied and in which fashion. And for enterprises, such uncertainly relates to the proper application of rules in rulings. So as to obtain more clarity and jurisprudence in this matter, the Dutch Cabinet has appealed the Commission’s Starbucks decision.

The Commission alleges that the methodological choices in the transfer pricing report provided by the tax adviser for Starbucks to the Netherlands Tax Authority, and agreed to in the APA between Starbucks and the Tax Authority, are not a reliable approach to a market result and thereby do not fulfil the arm’s length principle. The Commission alleges that the transactional net margin method (TNMM) is not the most appropriate method to forecast a taxable profit because the OECD guidelines and the Transfer Pricing Decree show a preference for the Comparable Uncontrolled Price Method (CUP).  The Commission determined that if the CUP had been applied to Starbucks’ coffee roasting of SMBV, the taxable profit would be substantially higher.

Most Appropriate Method?

The OECD adopted in 2010 a “most appropriate method” concept, similar to the U.S. “best method rule”. The most appropriate method concept replaced the previous OECD rule that transactional profit methods, profit split and TNMM were only to be leveraged as methods of last resort (with TNMM being in last spot). Regarding the “most appropriate method” the 2010 Guidelines states:

[T]he selection process should take account of the respective strengths and weaknesses of the OECD recognised methods; the appropriateness of the method considered in view of the nature of the controlled transaction, determined in particular through a functional analysis; the availability of reliable information (in particular on uncontrolled comparables) needed to apply the selected method and/or other methods; and the degree of comparability between controlled and uncontrolled transactions, including the reliability of comparability adjustments that may be needed to eliminate material differences between them. No one method is suitable in every possible situation, nor is it necessary to prove that a particular method is not suitable under the circumstances.

However, in spite of the foregoing, the 2010 Guidelines indicate a preference for traditional methods in applying the most appropriate method rule:

[W]here, taking account of the criteria described at paragraph 2.2, a traditional transaction method and a transactional profit method can be applied in an equally reliable manner, the traditional transaction method is preferable to the transactional profit method.

Comparability Analysis?

The 2010 OECD Guidelines for comparability analysis contains nine, non-linear, steps.

Step 1: Determination of years to be covered.

Step 2: Broad-based analysis of the taxpayer’s circumstances.

Step 3: Understanding the controlled transaction(s) under examination, based in particular on a functional analysis, in order to choose the tested party (where needed), the most appropriate transfer pricing method to the circumstances of the case, the financial indicator that will be tested (in the case of a transactional profit method), and to identify the significant comparability factors that should be taken into account.

Step 4: Review of existing internal comparables, if any.

Step 5: Determination of available sources of information on external comparables where such external comparables are needed taking into account their relative reliability.

Step 6: Selection of the most appropriate transfer pricing method and, depending on the method, determination of the relevant financial indicator (e.g. determination of the relevant net profit indicator in case of a transactional net margin method).

Step 7: Identification of potential comparables: determining the key characteristics to be met by any uncontrolled transaction in order to be regarded as potentially comparable, based on the relevant factors identified in Step 3 and in accordance with the comparability factors ….

Step 8: Determination of and making comparability adjustments where appropriate.

Step 9: Interpretation and use of data collected, determination of the arm’s length remuneration.

What Is the Value of Starbucks Roasting “Know How”?

The Commission alleges that the payment of royalties by SMBV to the Starbucks UK subsidiary (Alki) owning the “know-how” intellectual property rights does not provide a correct representation of the value of the intellectual property rights and therefore cannot be deemed to be arm’s length. This incorrect representation led Starbucks to exaggerate the value attaching to its coffee bean roasting “know-how”, in turn leading to an excessive royalty payment.

The royalty payment is based upon an “adjustment variable”, the level of which is determined by the accounting profits of SMBV subtracting the compensation agreed in the APA in the form of a fixed mark-up on the operational costs of SMBV.  The APA does contain a fixed method of being able to assess the arm’s length nature of the level of the royalties.

The Commission alleges that, on the basis of its application of an arm’s length transaction price via a CUP test, SMBV would not have been willing to pay any royalty for know-how.  The Commission’s allegation is based upon a comparison of Starbuck’s agreements for roasting coffee with other coffee roasters worldwide. Thus, Alki should not have been paid any royalties. Moreover, the Commission contends that the royalties, paid over for many years, cannot be arm’s length because SMBV does not appear to gain any business advantage from the use of the intellectual property in the area of roasting coffee.  An independent company, argues the Commission, will not pay for a license if it is unable to earn back the royalties paid.

Additionally, the Commission contends that payment for royalties does not represent a payment for Alki taking upon itself the risks of SMBV. The Commission dismissed the Tax Authority argument that Alki bore the economic risk of SMBV’s loss of stock (wastage).  The Commission points to Alki’s lack of  employees as justification that Alki’s capacity is too limited to actually bear such risk.  Finally, the Commission dismissed Alki’s payment for technology to Starbucks US as a justification of its royalty payment from SMBV.

What Is the Value of Starbucks Sourcing of Green Beans?

The Commission alleges that SMBV overpays Starbucks coffee sourcing operation in Switzerland (SCTC) for acquisition of ‘green beans’, which are then roasted by SMBV and distributed to Starbucks’ various national operations.  The purchase price of green beans paid by SMBV to SCTC is abnormally high and therefore does not comply with the arm’s-length principle.

The Commission alleges that Starbucks did not investigate an arm’s length relationship for which the transactions between SCTC and SMBV, being the purchase and delivery of green coffee beans.  Secondly, the Commission did not accept Starbucks’ underlying grounds for the justification of the significant increase from 2011 of the mark-up in the costs for the green beans supplied by SCTC.  Starbucks’ contends that SCTC’s activities became increasingly important from 2011 partly due to the evolving “C.A.F.E. Practices” program (e.g. ‘fair-trade’).  Comparing the costs of similar fair-trade programs, the figures provided by Starbucks in connection with its C.A.F.E. Practices program, argues the Commission, are problematic both in terms of consistency as well as the arm’s length nature. The Commission contends that the Tax Authorities should have rejected the additional deduction from the accounting profits. Moreover, the increased mark-up can be connected directly to the losses incurred by SMBV’s coffee roasting activities since 2010, which highlights the non arm’s length relationship of this mark-up.

Least complex function

The Commission posits a secondary argument that Starbucks misapplied the TNMM to its supply chain.  Firstly, the Commission alleges that Starbucks incorrectly categorized SMBV as the “least complex function” of the Starbucks’ value added supply chain, basically as a contract manufacturer, in comparison with Starbucks’ UK subsidiary that owns the manufacturing and processing “know how”.  This misapplication of the TNMM led Starbucks to incorrectly led Starbucks to select SMBV as the subsidiary to be the “tested party”.  Secondly, the Commission posits that when SMBV is compared to other market participants in the coffee trade sector, SMBV incorrectly applied two upward adjustments to its cost base.  Consequently, Starbucks inappropriately limited its Netherlands taxable basis.

Determining the least complex function takes place prior to the application of the TNMM as transfer price method. In order to determine the entity with the least complex function, a function comparison must be made. The outcome of the function comparison indicates an entity, to which the transfer price method can be applied in the most reliable manner and for which the most reliable comparison points can be found.

In its coffee roasting function, the Commission contends that SMBV does not only carry out routine activities. SMBV conducts market research reflected by its payments for market research.  Also, SMBV holds significant intellectual property reflected by the amortisation of intangible assets in its accounts.  Moreover, SMBV performs an important resale function. A routine producer is not involved in such activities. On the other hand, Alki activities are very limited. Alki does not have employees and it thus operates with limited capacity.  The Commission contends that the financial capacity of Alki is not the total financial capacity of the worldwide Starbucks Group.

StarbStarbucks_Coffee_Logo.svgucks Reaction?

Starbucks released a statement: “The dispute between the European Commission and the Netherlands as to which OECD rules we and others should follow will require us to pay about €20m to €30m on top of the $3 billion in global taxes we have already paid over the seven years in question (2008-2014).  Starbucks complies with all OECD rules, guidelines and laws and supports its tax reform process. Starbucks has paid an average global effective tax rate of roughly 33 percent, well above the 18.5 percent average rate paid by other large US companies.

Netherlands Government Reaction?

In October the European Commission has decided that the Netherlands provided State aid to Starbucks Manufacturing. The Commission decision is placed in the context of the fight against tax avoidance by multinationals.  The Dutch government greatly values its practice of offering certainty in advance. The Dutch practice is lawful and compliant with the international system of the OECD. However the European Commission’s verdict in the Starbucks case deviates from national law and the OECD’s system. In the end this will cause a lot of uncertainty about how to enforce regulations.

In order to get certainty and case law on the application of certainty in advance by way of rulings, the government appeals the Commission decision in the Starbucks case. The government is of the opinion that the Commission does not convincingly demonstrate that the Tax Authority deviated from the statutory provisions. It follows that there is no State aid involved.

AmCham Reaction?

OECD rules for setting internal transfer prices constitute an international standard whereby double taxation is prevented. These rules require that each transaction is assessed on the basis of the most appropriate transfer pricing method. The TNMM method can be used to establish an at arm’s length remuneration for production activities, such as those of the Dutch coffee roaster Starbucks Manufacturing BV, and is widely used internationally.

“This decision is a staggering,” says Arjan van der Linde, Chairman of AmCham’s Tax Committee and fiscal spokesman for AmCham. “By disregarding OECD rules, the European Commission is creating considerable uncertainty about the tax implications for foreign investment in the Netherlands. This has a direct effect on new investments and future employment. Uncertainty about such a fundamental component of an investment is unacceptable for many companies,” predicts Van der Linde.

He also highlights the expertise of the Dutch tax authorities, “The Dutch tax authorities have years of experience with the application of OECD rules and work thorough and carefully in considering transfer pricing requests.  A separate APA practice exists.  In addition, the Dutch tax authorities are consistent in their approach, with all sorts of coordination groups looking over the shoulder of the inspector. This thorough approach cannot simply be cast aside.”


Professor William Byrnes’ Reaction?

Starbucks represents the first salvo by the EU Commission to establish that it has the authority, under a State Aid premise, to step into the shoes of the national revenue authority and re-allocate profits of an enterprise according to the EU Commission’s interpretation and analysis of the arm’s length concept.  American attorneys will appreciate that this is a Marbury v Madison moment of Adam’s Federalists v. Jefferson’s Anti-Federalist.

The EU Commission’s finding of a range of two – three Euro million annual difference from its own assessment of the scenario versus the assessment of the Dutch revenue authority likely reflects its trepidation to venture into the area of interposing its own judgement call for that of a sovereign national revenue authority’s arm’s length determination, especially one memorialized in an advance pricing agreement (APA) with a taxpayer.  The trepidation probably results from several causes, including weaknesses of the EU Commission’s choice and implementation of an arm’s length methodology, justification thereof, and even more so, from the geopolitical ramifications of its decision.

The trepidation is exemplified by the very low adjustments the EU Commission found, after its nearly year of investigation.  The adjustments are enough to be noticed by the EU state authorities and the companies, but de minimis in the context of corporate annual profits, corporate profit accumulation over time (e.g. perpetual deferral), corporate tax reserves, and de minimis in the context of revenue collection for either The Netherlands or Luxembourg.

Starbucks’ potential 30 million Euro re-capture tax bill by The Netherlands (EU Commission required), dating back to accumulation from 2008, will, assuming the tax bill stands after Starbucks’ appeal and after Starbucks’ challenge the decision up through the EU Court Of Justice, be offset by a US tax credit of like amount.  Consequently, the low adjustment is a wash out, albeit could require a cash flow payment in the nearer future than the perpetual one under U.S. tax deferral accounting.  30 million Euro is too small to be noticeable to Starbucks shareholders or to the U.S. Treasury, especially when the tax credits are applied.  Viewed from an annual perspective though, the two to three million Euro per annum over 10-years finding against Starbucks annual three billion dollars paid in global taxes from a global effective tax rate of 33%, it is not even a rounding error.

Had the EU Commission found, as it alluded that it is able to, that the State Aid amounted to the hundreds of millions or even billions of Euro, the intensity of the EU Commission-National government conflict would have changed, and the EU Commission would have lost that battle with the stakes so high.  Fiat would have drawn Italy into the fray, to align with Netherlands, Ireland and Luxembourg.  As more advance pricing agreements are challenged, more national government would align against the EU Commission.  At some tipping point, the EU Commission would have to withdraw from the fight or face a bloodied nose.

Yet, more so a danger for the EU Commission, had the EU Commission’s decision been an exaggerated amount, then the U.S. Treasury would have been forced to act as if a trade war had broken out. Treasury beating up on Starbucks for transfer pricing out of the U.S. tax base is OK because Starbucks in a U.S. company, as far as the U.S. Treasury is concerned.  Starbucks represents potential U.S. deficit reduction tax dollars.

Had the EU Commission decided for a large amount well beyond any tax credit relief, thus which would have represented a significant subsidy from the U.S. to EU national budgets and/or a significant subsidy from US retirement system shareholders to EU budgets, one might imagine the joint-Republican Democratic Senate hearing called by Washington state’s two Democratic senators Patty Murray and Maria Cantwell. That hearing would conclude a joint statement to Treasury demanding it report back how it intends to implement a tit-for-tat strategy against EU companies to extract an equal amount to that the EU Commission pulled from the bowels of Starbucks reserves.

Throw in enough U.S. multinationals with HQs in the various states such as New York, Illinois, California and Texas,  Congress may actually in rare bipartisan stature pass tit-for-tat legislation by year end requiring Treasury to act.  Perhaps a $5 billion Section 482 adjustment against each of the top 50 European companies measured by revenues.  The EU would respond, and the U.S. retort, to and fro, until the weight of taxation slowed cross border investment to a trickle.

But the EU Commission instead chose to bark very loudly and withhold its bite.  Probably it has avoided the worst case scenarios of political warfare presented above.  With such a small award, the various stakeholders will let the appeals and ECJ process run its course before acting.  The US Congress and US Treasury may not understand the Marbury v Madison moment of the EU Commission’s decision – that the “perpetual deferral” reserves of U.S. MNEs such as Starbucks, Apple, Microsoft, Google, Amazon etc, may be put “up for grabs” by European revenue authorities to fill their bloated social spending expenditure gaps (instead of flowing into U.S. investment needs or back to U.S. institutional shareholders representing our collective national retirement savings).  [But Treasury has now released the below response to the EU Commission decision].

US Treasury Response

Treasury has followed the state aid cases closely for a number of reasons. First, we are concerned that the EU Commission appears to be disproportionately targeting U.S. companies.

Second, these actions potentially undermine our rights under our tax treaties. The United States has a network of income tax treaties with the member states and has no income tax treaty with the EU because income tax is a matter of member state competence under EU law.  While these cases are being billed as cases of illegal state subsidies under EU law (state aid), we are concerned that the EU Commission is in effect telling member states how they should have applied their own tax laws over a ten-year period.  Plainly, the assertion of such broad power with respect to an income tax matter calls into question the finality of U.S. taxpayers’ dealings with member states, as well as the U.S. Government’s treaties with member states in the area of income taxation.

Third, the EU Commission is taking a novel approach to the state aid issue; yet, they have chosen to apply this new approach retroactively rather than only prospectively. While in the Starbucks case, the sums were relatively modest (20 to 30 million Euros), they maybe substantially larger – perhaps in the billions – in other cases. The retroactive application of a novel interpretation of EU law calls into question the basic fairness of the proceedings. Fourth, while the IRS and Treasury have not yet analyzed the equally novel foreign tax credit issues raised by these cases, it is possible that the settlement payments ultimately could be determined to give rise to creditable foreign taxes. If so, U.S. taxpayers would wind up footing the bill for these state aid settlements when the affected U.S. taxpayers either repatriate amounts voluntarily or Congress requires a deemed repatriation as part of tax reform (and less U.S. taxes are paid on the repatriated amounts as a result of the higher creditable foreign income taxes).

Finally, and this relates to the EU’s apparent substantive position in these cases, we are greatly concerned that the EU Commission is reaching out to tax income that no member state had the right to tax under internationally accepted standards. Rather, from all appearances they are seeking to tax the income of U.S. multinational enterprises that, under current U.S. tax rules, is deferred until such time as the amounts are repatriated to the United States. The mere fact that the U.S. system has left these amounts untaxed until repatriated does not provide under international tax standards a right for another jurisdiction to tax those amounts. We will continue to monitor these cases closely.

Book CoverProfessor William Byrnes is the primary author of Practical Guide to U.S. Transfer Pricing that is used extensively by multinationals to cope with the U.S. transfer pricing rules and procedures, taking into account the international norms established by the Organization for Economic Co-operation and Development (OECD).

Download Summary-of-the-decision-from-the-european-commission-concerning-the-starbucks-tax-ruling

Download Cabinet-response-to-the-european-commission-decision-on-starbucks-manufacturing-bv

EU State Aid – Starbucks Webpage

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New Lexis Advance® Tax Platform Now Available to Law School Faculty & Students; Cutting-Edge International Tax Titles

Posted by William Byrnes on October 22, 2015

On June 1, LexisNexis launched its new online tax research platform called Lexis Advance® Tax.

Already available to America’s law school faculty and students, it includes a rich, comprehensive package of nearly 1,400 sources, including tax news, primary law, journals and nearly 300 treatises, practice guides and forms products for both tax and estates lawyers.

Along with news, another strong area for L.A. Tax is its subpage devoted to International Tax. There, users will find a selection01701_11_1_cover of titles examining hot, cutting-edge issues like: Lexis Guide to FATCA Compliance, the Lexis global guide to anti-money laundering laws around the world, and the recently-revised Foreign Tax & Trade Briefs, 2nd Ed, which provides summaries of each country’s tax system and laws.

All of these titles are produced by a team of tax experts led by Professor William H. Byrnes, Associate Dean, International Financial Law, at Texas A&M University Law School, in Fort Worth, the newest law school in Texas. See https://law.tamu.edu/

Looking for Lexis Advance Tax?
Sign in to www.lexisadvance.com, look for the pull-down menu called “Lexis Advance Research” in the upper-left corner. Click the down arrow and select Lexis Advance Tax.

If you have questions or would like to schedule a short training, please contact your LexisNexis® Account Executive.

– See more at: http://www.lexisnexis.com/lextalk/legal-content-insider/f/21/t/2525.aspx?utm_content=2015-10-20+15:00:04#sthash.szct2yk6.dpuf

Posted in BEPS, FATCA, Financial Crimes, Money Laundering, Taxation, Transfer Pricing | Tagged: , , , | Leave a Comment »

EU Agrees on the Automatic Exchange of Tax Rulings – Transfer Pricing Audits Expected

Posted by William Byrnes on October 8, 2015

European Union (EU) Ministers for Economy and Finance met in Luxembourg EU Commissionfor an ECOFIN Council chaired by the Luxembourg Minister for Finance Pierre Gramegna. The Ministers expressed their political agreement on a proposed Directive on the automatic exchange of information (AEI) on tax rulings.

On the basis of a compromise agreement brokered by the Luxembourg Presidency, the Council expressed its political agreement on a proposed Directive designed to improve transparency in the context of advance cross-border tax rulings, by making their automatic exchange between tax administrations compulsory.

The proposed Directive [Download EU AEOI TP] is part of a series of measures presented in March 2015 which aim to prevent tax avoidance and aggressive tax planning by companies. It aims to modify Directive 2011/16/EU on administrative cooperation in the field of taxation, which defines the practical terms and conditions for exchanging information in order to include advance tax rulings.  The Directive requires Member States to proceed with AIE in the field of advance cross-border tax rulings, as well as advance pricing agreements. The Commission will implement a secure central directory, accessible to all Member States and the Commission, where the information exchanged will be stored.

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Attacking BEPS through the Profit Split Method

Posted by William Byrnes on August 5, 2015

Prof. Jeffery Kadet‘s explains – Why Expansion of the Profit Split Method is Required to Combat BEPS…

Recognizing the reality that multinational corporations are centrally managed and not groups ofJeffrey-M-Kadet-244x300entities that operate independently of one another, the OECD base erosion and profit-shifting project is considering expanded use of the profit-split method.

This article provides background on why expanded use of the profit-split method is sorely needed. In particular, resource-constrained tax authorities in many countries are unable to administer or intelligently analyze and contest transfer pricing results presented by multinational groups. Most importantly, this article suggests a simplified profit-split approach using set concrete and objective allocation keys for commonly used business models that should be welcomed by multinational groups and tax authorities alike.

Read Prof Jeffery Kadet’s full analysis on SSRN http://ssrn.com/abstract=2593548

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OECD Releases BEPS Proposed Action 8 on Cost Contribution Arrangements & Transfer Pricing

Posted by William Byrnes on May 1, 2015

Logooecd_enPublic comments are invited on a discussion draft which deals with work in relation to Action 8 of the Action Plan on Base Erosion and Profit Shifting (BEPS).

Action 8 (“Assure that transfer pricing outcomes are in line with value creation: Intangibles”) requires the development of “rules to prevent BEPS by moving intangibles among group members” and involves updating the guidance on cost contribution arrangements. The discussion draft sets out a proposed revision to Chapter VIII of the Transfer Pricing Guidelines and is intended to align the guidance in that chapter with the other elements of Action 8 already addressed in the Guidance on Transfer Pricing Aspects of Intangibles released in September 2014.

Interested parties are invited to submit written comments by 29 May 2015 (no extension will be granted) and should be sent by email to TransferPricing@oecd.org in both PDF and Word format. They should be addressed to Andrew Hickman, Head of Transfer Pricing Unit, Centre for Tax Policy and Administration.

Check out William Byrnes’ Lexis’ Practical Guide to U.S. Transfer Pricing, available within LexisNexis, which is updated Book Coverannually to help multinationals cope with the U.S. transfer pricing rules and procedures, taking into account the international norms established by the Organisation for Economic Co-operation and Development (OECD). It is also designed for use by tax administrators and tax professionals, corporate executives, and their non-tax advisors, both American and foreign.  Fifty co-authors contribute subject matter expertise on technical issues faced by tax and risk management counsel. Chapter 13 covers Cost Sharing Arrangements.

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Luxembourg’s Amazon Deal is State Aid Because of Lack of Diligence, EU Commission Preliminary Conclusion

Posted by William Byrnes on January 16, 2015

EU Commission Will Calculate State Aid via a Transfer Pricing Audit of the Difference of the Ruling from an Arm’s Length Benchmark – See today’s decision links and analysis in article)

decision and analysis with links available at  http://lawprofessors.typepad.com/intfinlaw/2015/01/luxembourgs-amazon-deal-is-state-aid-because-of-lack-of-diligence-eu-commission-preliminary-conclusi.html

(78) While tax rulings that merely contain an interpretation of the relevant tax provisions without deviating from administrative practice do not give rise to a presumption of a selective advantage, rulings that deviate from that practice have the effect of lowering the tax burden of the undertakings concerned as compared to undertakings in a similar legal and factual situation. To the extent the Luxembourgish authorities have deviated from the arm’s length principle as regards the contested tax ruling, the measure should also be considered selective.

(79) Since the contested tax ruling fulfils all four conditions under Article 107(1) TFEU, the Commission takes the view, at this stage, that it constitutes State aid within the meaning of that provision.



Lexis’ Practical Guide to U.S. Transfer Pricing (2015), 28 chapters from 50 expert contributors (3,000 pages) led by international tax Professor William Byrnes,  is designed to help multinationals cope with the U.S. transfer pricing rules and procedures, taking into account the international norms established by the Organisation for Economic Co-operation and Development (OECD). It is also designed for use by tax administrators, both those belonging to the U.S. Internal Revenue Service and those belonging to the tax administrations of other countries, and tax professionals in and out of government, corporate executives, and their non-tax advisors, both American and foreign.

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Impact Of BEPS In Low Income Countries, OECD Part I

Posted by William Byrnes on August 2, 2014

free chapter download here —> http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2457671   Number of Pages in PDF File: 58

On August 1, 2014 the OECD issued its report “Impact Of BEPS In Low Income Countries, Part I” concludes that developing countries often face policy and other conditions that impact on their abilities to address base erosion and profit shifting.  The OECD reported the following:

  • Some developing countries lack the necessary legislative measures needed to address base erosion and profit shifting.OCDE_10cm_4c
  • Developing country measures to challenge BEPS is often hindered by lack of information.
  • Developing countries face difficulties in building the capacity needed to implement highly complex rules and to challenge well-advised and experienced MNEs.
  • The lack of effective legislation and gaps in capacity may leave the door open to simpler, but potentially more aggressive, tax avoidance than is typically encountered in developed economies.

In this report, the developing countries and international organizations identified the following key BEPS issues as being of most relevance:

  • Base erosion caused by excessive payments to foreign affiliated companies in respect of interest, service charges, management and technical fees and royalties.
  • Profit shifting through supply chain restructuring that contractually reallocates risks, and associated profit, to affiliated companies in low tax jurisdictions.
  • Significant difficulties in obtaining the information needed to assess and address BEPS issues, and to apply their transfer pricing rules.
  • The use of techniques to obtain treaty benefits in situations where such benefits were not intended.
  • Tax loss caused by the techniques used to avoid tax paid when assets situated in developing countries are sold.

In addition, the developing countries often face acute pressure to attract investment through offering tax incentives, which may erode the country’s tax base with little demonstrable benefit.

Part I of the report offered the interim conclusion that BEPS has the potential to considerably impact on domestic resource mobilization in developing countries. The OECD identified that the risks faced by many developing countries may differ from those faced by more advanced economies. The OECD will issue Part II of the report in September of 2014.

Part II will set which of the 15 actions included in the BEPS Action Plan are of most relevance to developing countries and whose corresponding outcomes can be expected to benefit them.  Also, the report will discuss other BEPS-related issues not in the Action Plan, including wasteful tax incentives, the lack of comparability data in developing countries and tax avoidance through the indirect transfer of assets located in developing countries. Part II will also discuss capacity building initiatives that, in the developing country context, must go hand in-hand with regulatory measures.

See my other transfer pricing articles at https://profwilliambyrnes.com/category/transfer-pricing-2/


Lexis’ Practical Guide to U.S. Transfer Pricing, 28 chapters from 30 expert contributors led by international tax Professor William Byrnes,  is designed to help multinationals cope with the U.S. transfer pricing rules and procedures, taking into account the international norms established by the Organisation for Economic Co-operation and Development (OECD). It is also designed for use by tax administrators, both those belonging to the U.S. Internal Revenue Service and those belonging to the tax administrations of other countries, and tax professionals in and out of government, corporate executives, and their non-tax advisors, both American and foreign.  Fifty co-authors contribute subject matter expertise on technical issues faced by tax and risk management counsel.

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Advance Pricing Agreements Report released by IRS

Posted by William Byrnes on April 3, 2014

Report Concerning Advance Pricing Agreements (2013)

Highlights excerpted:

In February of 2012, the former APA Program was moved from the Office of Chief Counsel to the Office of Transfer Pricing Operations, Large Business and International Division of the IRS (TPO) and combined with the United States Competent Authority (USCA) staff responsible for transfer pricing cases, thereby forming the Advance Pricing and Mutual Agreement (APMA) Program.  During the last quarter of 2013, new proposed revenue procedures governing APA applications and MAP applications were released for public comment in Notice 2013-79, 2013-50 I.R.B. 653, and Notice 2013-78, 2013-50 I.R.B. 633, respectively. These proposed revenue procedures reflect the changes in APMA’s structure, and more importantly, were informed by the cumulative experience of more than 20 years of APA practice in the United States, which has produced more than eleven hundred unilateral and bilateral agreements since 1991.

During 2013, the APMA Program continued to benefit from the merger and processing efficiencies that began in 2012. For the second year in a row, the number of executed APAs increased (from 140 in 2012 to 145 in 2013). The median completion time fell from 39.8 months in 2012 to 32.7 months in 2013. The increase in efficiency is further illustrated by the fact that the number of executed APAs (145) again surpassed the number of applications filed (111).

Part I of this report includes information on the structure, composition, and operation of the APMA Program; Part II presents statistical data for 2013; and Part III includes general
descriptions of various elements of the APAs executed in 2013, including types of transactions covered, transfer pricing methods used, and completion time.

The 111 APA applications received during 2013, represent a slight decrease from the 126 received in 2012.  Almost 75 percent of the bilateral applications filed in 2013 involved either Japan or Canada.  The APMA Program increased the number of APAs executed in its second year. The 145 APAs executed in 2013 surpassed the previous record of 140 executed agreements set in 2012. Of the 145 agreements executed in 2013, 68 of the agreements (47 percent) were new APAs (i.e., not renewal APAs), an increase from the 57 (41 percent) new APAs executed in 2012.

In 2013, approximately 55 percent of the APAs executed involved transactions between a non-U.S. parent and a U.S. subsidiary; 40 percent of the APAs executed involved transactions between a U.S. parent and a non-U.S. subsidiary; and the remaining 5 percent involved transactions that included either a partnership or a branch. In 2012, approximately 75 percent of the APAs executed involved transactions between a non-U.S. parent and a U.S. subsidiary, while the remaining 25 percent involved transactions between a U.S. parent and a non-U.S. subsidiary.

Although more than 75 percent of covered transactions involve tangible goods and services transactions, the IRS also has successfully completed numerous APAs involving transfers of intangibles.  More than 60 percent of the tested parties in the APAs executed in 2013 involved distribution or related functions, e.g., marketing and product support.

In controlled transactions using the CPM/TNMM, the Operating Margin was the most common profit level indicator (PLI) used to benchmark results for transfers of tangible and intangible property. Per the applicable regulations, Operating Margin is defined as the ratio of operating profits to sales. The Berry Ratio, defined as the ratio of gross profit to operating expenses, was applied as the profit level indicator in 8 percent of the controlled transactions that used the CPM/TNMM. Each other profit level indicator accounted for a smaller share.

For services transactions, the majority of cases applied the Services Cost Method or the CPM/TNMM. The Services Cost Method evaluates the amount charged for certain services with
reference to the total services costs.

For the APAs executed in 2013 that used external comparables data in the analysis, the most widely used data source for comparables was the Standard and Poor’s Compustat database. Other sources were also used in appropriate cases, e.g., where the tested party was not the U.S. entity. The most commonly used sources are:

  • Disclosure
  • Mergent
  • Orbis
  • GlobalVantage
  • Worldscope
  • OneSource
  • Osirus


Lexis’ Practical Guide to U.S. Transfer Pricing, 28 chapters from 30 expert contributors led by international tax Professor William Byrnes,  is designed to help multinationals cope with the U.S. transfer pricing rules and procedures, taking into account the international norms established by the Organisation for Economic Co-operation and Development (OECD). It is also designed for use by tax administrators, both those belonging to the U.S. Internal Revenue Service and those belonging to the tax administrations of other countries, and tax professionals in and out of government, corporate executives, and their non-tax advisors, both American and foreign.  Fifty co-authors contribute subject matter expertise on technical issues faced by tax and risk management counsel.




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OECD releases BEPS draft for Tax Challenges of the Digital Economy

Posted by William Byrnes on March 25, 2014

The OECD released Monday, March 24, a discussion draft on the Tax Challenges of the Digital Economy.

In July 2013, the OECD published its Action Plan on Base Erosion and Profit Shifting. The Action Plan identifies 15 actions to address BEPS in a comprehensive manner and sets deadlines to implement these actions. Excerpting from the Report, Action 1 reads as follows:

Action 1 Address the tax challenges of the digital economy

Identify the main difficulties that the digital economy poses for the application of existing international tax rules and develop detailed options to address these difficulties, taking a holistic approach and considering both direct and indirect taxation. Issues to be examined include, but are not limited to, the ability of a company to have a significant digital presence in the economy of another country without being liable to taxation due to the lack of nexus under current international rules, the attribution of value created from the generation of marketable location-relevant data through the use of digital products and services, the characterisation of income derived from new business models, the application of related source rules, and how to ensure the effective collection of VAT/GST with respect to the cross-border supply of digital goods and services. Such work will require a thorough analysis of the various business models in this sector.

The OECD’s March 24 discussion draft on the Tax Challenges of the Digital Economy, after surveying the elements of the new global digital economy, outlines the tax minimization techniques and then provides broad proposals to reduce the BEPS resulting therefrom. Below, I have excerpted and paraphrased the relevant aspects to provide an overview.

Section IV “Identifying Opportunities for BEPS in the Digital Economy” undertakes a general discussion of the common features of tax planning structures that raise BEPS concerns. Section IV then describes the core elements of BEPS strategies with respect to both direct and indirect taxation.  The common features of digital economy tax planning features include:

Eliminating or reducing tax in the market country

  • Avoiding a Taxable Presence
  • Minimizing Functions, Assets and Risks in Market Jurisdictions
  • Maximizing Deductions in Market Jurisdictions

Eliminating or reducing tax in the intermediate country

Eliminating or reducing tax in the country of residence of the ultimate parent

Avoiding withholding tax

Opportunities for BEPS with respect to VAT

  • Remote digital supplies to exempt businesses
  • Remote digital supplies to a multi-location enterprise (MLE)

Section V “Tackling BEPS in the Digital Economy” of the discussion draft examines how work on the actions of the BEPS Action Plan and in the area of indirect taxation will address BEPS issues arising in the digital economy. This section also highlights the particular characteristics of the digital economy that must be taken into account to ensure that the measures developed effectively address BEPS in the digital economy.

Restoring Taxation on Stateless Income

Measures that will restore taxation in the market jurisdiction

  • Prevent Treaty Abuse (Action 6)
  • Prevent the Artificial Avoidance of PE Status (Action 7)

Measures that will restore taxation in both market and ultimate parent jurisdictions

  • Neutralize the Effects of Hybrid Mismatch Arrangements (Action 2)
  • Limit Base Erosion via Interest Deductions and Other Financial Payments (Action 4 and Action 9)
  • Counter Harmful Tax Practices More Effectively (Action 5)

Assure that transfer pricing outcomes are in line with value creation (Actions 8-10)

  • Intangibles, including hard-to-value intangibles, and cost contribution arrangements
  • Business risks
  • Characterization of transactions
  • Base eroding payments
  • Global value chains and profit methods

Addressing BEPS Issues in the Area of Consumption Taxes

Section VI “Broader Tax Challenges Raised by the Digital Economy” discusses the challenges that the digital economy raises for direct taxation, with respect to nexus, the tax treatment of data, and characterization of payments made under new business models. Section VI also discusses the indirect tax challenges raised by the digital economy with respect to exemptions for imports of low-valued goods, and remote digital supplies to consumers. Thereafter, Section VI lists administrative challenges faced by tax administrations in applying the current rules.

An overview of the tax challenges raised by the digital economy includes:

  • Nexus and the Ability to have a Significant Presence without Being Liable to Tax
  • Data and the Attribution of Value Created from the Generation of Marketable Location-Relevant Data through the Use of Digital Products and Services
  • Characterization of Income Derived from New Business Models
  • Collection of VAT in the Digital Economy

Section VII “Potential Options to Address The Broader Tax Challenges Raised by the Digital Economy” provides a brief framework for evaluating options to address the broader tax challenges raised by the digital economy. This section then provides an overview of potential options that have been received by the Task Force, along with a description of some of the issues that will need to be addressed in developing and evaluating those options.

Modifications to the Exemptions from Permanent Establishment Status

A New Nexus based on Significant Digital Presence

Virtual Permanent Establishment

Creation of a Withholding Tax on Digital Transactions

Consumption Tax Options

  • Exemptions for Imports of Low Valued Good
  • Remote digital supplies to consumers

Submitting Comments to OECD

Interested parties are invited to submit comments electronically in Word on this discussion draft, before 5.00pm on April 14, 2014 to CTP.BEPS@oecd.org.

Persons and organisations who intend to send comments on this discussion draft are invited to indicate by April 7 whether they wish to speak in support of their comments at a public consultation meeting on Action 1 (Address the tax challenges of the digital economy), which is scheduled to be held in Paris at the OECD Conference Centre on April 23, 2014. Persons wishing to attend this public consultation meeting should fill out their request for registration on line as soon as possible but by April 7, 2014.

This meeting will also be broadcast live on the internet and can be accessed on line. No advance registration is required for this internet access.


Lexis’ Practical Guide to U.S. Transfer Pricing (William Byrnes & the late Robert Cole (2013)) is designed to help multinationals cope with the U.S. transfer pricing rules and procedures, taking into account the international norms established by the Organisation for Economic Co-operation and Development (OECD). It is also designed for use by tax administrators, both those belonging to the U.S. Internal Revenue Service and those belonging to the tax administrations of other countries, and tax professionals in and out of government, corporate executives, and their non-tax advisors, both American and foreign.  Fifty co-authors contribute subject matter expertise on technical issues faced by tax and risk management counsel.

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OECD releases “transfer pricing comparability data and developing countries” for comment

Posted by William Byrnes on March 16, 2014

On Tuesday the OECD released Transfer Pricing Comparability and Developing Countries (March 11, 2014).  The OECD is seeking stakeholder and public comment until April 11, 2014 and will publicly discuss the contents in two parallel sessions on March 28, 2014, the last day of the Global Forum on Transfer Pricing.  This last day of the Global Forum meeting will be held in conjunction with the Task Force on Tax & Development.  Written comments should be sent to TransferPricing@oecd.org.

Transfer Pricing Comparability and Developing Countriesets out and briefly discusses four possible approaches to addressing the concerns over the lack of data on comparables that have been expressed by developing countries. 

  1. Expanding access to data sources for comparables, including steps to improve the range of data contained in commercial databases, expand developing country access to such databases, and improve access to comparables data in developing countries with a significant number of sizeable independent companies.
  2. More effective use of data sources for comparables, including guidance or assistance in the effective use of commercial databases, the selection of foreign comparables, whether and how to make adjustments to foreign comparables to enhance their reliability, and alternative approaches to finding comparables.
  3. Approaches to identifying arm’s length prices or results without reliance on direct comparables, including guidance or assistance in making use of proxies for arm’s length outcomes, the profit split method, value chain analysis, and safe harbours, an evaluation of the impact, effectiveness and compatibility with the arm’s length principle of approaches such as the so called “sixth method”, which is increasingly prevalent particularly in developing countries in Latin America and Africa, and a review of possible anti-avoidance approaches.
  4. Advance pricing agreements and mutual agreement proceedings, including a review of developing country experiences with the pros and cons of advance pricing agreements and negotiations to resolve transfer pricing disputes, as well as guidance or assistance with respect to mutual agreement proceedings.

Transfer pricing expert Dr. Gary Stone of PriceWaterhouseCoopers has > analyzed < the OECD paper, available at http://www.pwc.com/en_GX/gx/tax/newsletters/pricing-knowledge-network/assets/pwc-oecd-comparability-data-developing-countries.pdf   Dr. Stone is the global leader of the Transfer Pricing Group of PricewaterhouseCoopers (PwC).  Dr. Stone is based in Chicago and has directed and performed numerous analyses of intercompany pricing and economic valuation issues for Fortune 500 size companies.  Dr. Stone is a contributing co-author to Lexis’ Practical Guide to U.S. Transfer Pricing.


Lexis’ Practical Guide to U.S. Transfer Pricing (William Byrnes & the late Robert Cole (2013)) is designed to help multinationals cope with the U.S. transfer pricing rules and procedures, taking into account the international norms established by the Organisation for Economic Co-operation and Development (OECD). It is also designed for use by tax administrators, both those belonging to the U.S. Internal Revenue Service and those belonging to the tax administrations of other countries, and tax professionals in and out of government, corporate executives, and their non-tax advisors, both American and foreign.

The U.S. rules are presented along with ideas on how to apply them in a common-sense fashion in a multi-jurisdictional world.  A few of the highlights in the latest update to the treatise include:

  • The most important development in U.S. transfer pricing in the year ended in July 2013 is the strengthening of the IRS’s capability to enforce the U.S. transfer pricing rules.
  • We examine Transfer Pricing Operations’ three groups: the Advance Pricing and Mutual Agreement group (APMA), the Transfer Pricing Practice, and the International Practice Networks (IPNs).
  • We note the 2014 budget proposal, carried over from 2013, of the Obama administration limiting the shifting of income through intangible property transfers, which would expand the scope of intangible property for purposes of IRC Sections 367(d) and 482 to include ”workforce in place, goodwill, and going concern value.”
  • We discuss the new ”Rapid Appeals Process,” which is available for controversies that have arisen in an LB&I audit. It contemplates that Appeals, the examination team, and the taxpayer will discuss the case jointly in a single preopening conference in an effort to resolve the outstanding issues before the case is considered further by Appeals.

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OECD transfer pricing documentation and country-by-country reporting released as discussion draft for public comment

Posted by William Byrnes on January 31, 2014

Yesterday (January 30, 2014) the OECD released an initial draft of revised guidance on transfer pricing documentation and country-by-country reporting for comment by interested parties.

Action 13 of the BEPS Action Plan released on July 19, 2013 calls for a review of the existing transfer pricing documentation rules and the development of a template for country-by-country reporting of income, taxes and economic activity for tax administrations.

The OECD Announcement stated that its Committee on Fiscal Affairs believes that it is essential to obtain input from stakeholders on this Discussion Draft to advance the work.  Specific issues on which comments would be appreciated are noted in the draft.

The OECD requests that comments be submitted in writing to transferpricing@oecd.org by February 23, 2014.

A public consultation event will be held at the OECD in Paris at the end of March 2014 with specifically invited persons selected from among those who provide written comments. An open discussion of the draft with all interested persons will take place at a future date to be determined in April or May.


Transfer pricing rules are an inescapable part of doing business internationally, and the LexisNexis Practical Guide to U.S. Transfer Pricing provides an in-depth analysis of the U.S. rules. This product is designed to help multinationals cope with the U.S. transfer pricing rules and procedures, taking into account the international norms established by the Organisation for Economic Co-operation and Development (OECD). It is also designed for use by tax administrators, both those belonging to the U.S. Internal Revenue Service and those belonging to the tax administrations of other countries, and tax professionals in and out of government, corporate executives, and their non-tax advisors, both American and foreign.

Posted in OECD, Transfer Pricing | Tagged: , , | Leave a Comment »

Practical Guide to U.S. Transfer Pricing coordinating author speaks …

Posted by William Byrnes on August 1, 2013

practical_guide_bookWilliam Byrnes has been appointed a primary author for his sixth Lexis title.  

Read Professor Byrnes’ comments at http://www.tjsl.edu/news-media/2013/9861


For the 2013 OECD policy initiative regarding multinational’s transfer pricing, see “Addressing Base Erosion and Profit Shifting” available at http://www.keepeek.com/Digital-Asset-Management/oecd/taxation/addressing-base-erosion-and-profit-shifting_9789264192744-en


and the more recently published “Action Plan on Base Erosion and Profit Shifting”: http://www.oecd.org/ctp/BEPSActionPlan.pdf

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Some Indian Tax Issues of Legal Process Outsourcing

Posted by William Byrnes on July 26, 2009

You must pay taxes.  But there’s no law that says you gotta leave a tip.  ~Morgan Stanley advertisement (according to quotegarden)

Attraction of Income Tax

An Indian resident’s total income includes their worldwide income “from whatever source derived.” Thus, a resident’s income need not be received in India to be subject to the income tax.  An Indian resident’s total income includes income received in India, income “accruing or arising in India,” and income “accruing or arising outside India.”[1]  The total income of a person who is not ordinarily resident in India does not include foreign source income unless the income is derived from an Indian company.[2]

The Indian government taxes some types of income based on the source of the income. Of particular importance to users of LPO services is the source-based taxation of income from a business connection in India.  A nonresident’s total income includes income received in India and income “accruing or arising” in India.[3]  Income is deemed to accrue or arise in India when it comes directly or indirectly from any business connection in India.[4]

Under Indian domestic tax law, some payments to nonresidents are subject to a non-final withholding tax. Income from sources other than royalties are subject to withholding at the current rates in force.[5]  Any person in India who has a business connection with a nonresident or from whom the nonresident receives income directly or indirectly is considered to be an agent of the nonresident.[6]

An agent is treated as a “representative assessee” of the nonresident and must deduct the tax at the source and pay that amount to the Government.[7]  However, India does not require withholding from remittances from a branch to a foreign parent.

Tax Treaty Protection

Under India’s Double Taxation Avoidance Agreements (DTAA), the business profits of a nonresident may only be taxed in India if the profits are attributable to a permanent establishment in India.  India’s DTAAs are more similar to the U.N. Model Double Taxation Convention rather than the OECD’s.

The definition of “permanent establishment” (PE) under India’s DTAAs is generally consistent with the definition found in the UN Model Convention. Included in the definition of PE is a person, other than an independent agent, who has the authority to, and does habitually conclude contracts in the name of the nonresident person.  Also included is a person authorized to, and who habitually does, keep a stock of goods for the nonresident and regularly delivers the goods on behalf of the nonresident.[8]

Business income is taxable in India if the income is attributable to a permanent establishment in India.  A nonresident person may be taxed in India even if the nonresident does not have a physical presence in India. For instance, the Income Tax Appellate Tribunal has held that nonresident companies operating reservation systems servicing Indian residents are subject to the income tax under Indian treaty law (and domestic law).[9]

India’s domestic tax law applies to nonresidents when the domestic tax law is more beneficial to the taxpayer.[10]

Recent Treaty Based Decision Impacting BPOs / Transfer Pricing Issue

In a landmark Supreme Court decision in summer of 2007 that impacted many captive LPO providers, the Court substantively agreed with the conclusion of the 2006 Authority for Advance Ruling’s determination that Morgan Stanley’s Indian BPO subsidiary constituted a permanent establishment, though the Court’s and Authority’s analysis diverged.[11]

The Court’s analysis of the permanent establishment issue focused on the oversight/quality control employees of Morgan Stanley deployed to its Indian subsidiary.  However, the inevitable question of determination of taxable income of the subsidiary whether in its own right or as a permanent establishment is answerable via a transfer pricing functional analysis.

The Court ruled that the Transaction Net Margin Method was an appropriate method for determining the arm’s length price between the associated parties.

Within the Fall Transfer Pricing course we will analyze the facts, reasoning, and criticisms of this case.


Lexis’ Practical Guide to U.S. Transfer Pricing, 28 chapters from 30 expert contributors led by international tax Professor William Byrnes,  is designed to help multinationals cope with the U.S. transfer pricing rules and procedures, taking into account the international norms established by the Organisation for Economic Co-operation and Development (OECD). It is also designed for use by tax administrators, both those belonging to the U.S. Internal Revenue Service and those belonging to the tax administrations of other countries, and tax professionals in and out of government, corporate executives, and their non-tax advisors, both American and foreign.  Fifty co-authors contribute subject matter expertise on technical issues faced by tax and risk management counsel.

[1] Income Tax Act § 5(1).

[2] Income Tax Act § 5(1) (flush language).

[3] Income Tax Act § 5(2).

[4] Income Tax Act § 9(1)(i).

[5] Income Tax Act § 195(1) and. § 194(J).

[6] Income Tax Act § 163(1)(b), (c).

[7] Income Tax Act §§ 161, 190.

[8] See e.g. Convention for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income, India-Austria, Nov. 8, 1999, India Income Tax Department, art. 5.

[9] Galileo International Inc. v. DCIT, ITA No. 1733/Del/2001; 2473 to 2475/Del/2000; 820 to 823/Del of 2005 (Nov. 30, 2007).

[10] Income Tax Act § 90(2).

[11] Civil Appeal No. 2914 of 2007 arising out of S.L.P. (C) No. 12907 of 2006, M/s DIT (International Taxation), Mumbai v. M/s Morgan Stanley & Co. Inc., with Civil Appeal No. 2915 of 2007 arising out of S.L.P. (C) No. 16163 of 2006, M/s Morgan Stanley & Co. Inc. vs. Director of Income Tax, Mumbai.  See Jefferson VanderWolk’s interesting commentary at 47 TNI AUGUST 13, 2007, P. 631.  Email me for copies of the decision and lecture notes thereto.

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