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William Byrnes (Texas A&M) tax & compliance articles

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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)

Posted in Tax Policy, 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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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.

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

 
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