The Irish tax authorities considered that the cost of employee share options (stock-based compensation) should have been included in the cost basis when determining the remuneration of “Service Ltd” for services provided to its US parent company and issued an assessment of additional taxable income for FY2015 – FY2018. Service Ltd lodged an appeal with the Tax Appeals Commission. Decision The Tax Appeals Commission ruled in favour of “Service Ltd” and overturned the tax authorities’ assessment. Excerpts “271.The Commissioner notes that the nature of the comparability analysis performed for purposes of applying the TNMM necessitates comparing “like with like”. Paragraph 1.6 of the OECD Guidelines refers to the comparability analysis as “an analysis of the controlled and uncontrolled transactions”. The Commissioner notes paragraph 1.36 of the OECD Guidelines provides that: “…in making these comparisons, material differences between the compared transactions or enterprises should be taken into account. In order to establish the degree of actual comparability and then to make appropriate adjustments to establish arm’s length conditions (or a range thereof), it is necessary to compare attributes of the transactions or enterprises that would affect conditions in arm’s length transactions.” 272.Paragraph 3.2 of the OECD Guidelines provides that that: “[a]s part of the process of selecting the most appropriate transfer pricing method (see paragraph 2.2) and applying it, the comparability analysis always aims at finding the most reliable comparables”. 273.Paragraph 3.4 of the OECD Guidelines describes the typical process that can be followed when performing a comparability analysis. It states that: “This process is considered an accepted good practice but it is not a compulsory one, and any other search process leading to the identification of reliable comparables may be acceptable as reliability of the outcome is more important than process (i.e. going through the process does not provide any guarantee that the outcome will be arm’s length, and not going through the process does not imply that the outcome will not be arm’s length).” 274.The Commissioner observes that step 8 in the process is the “Determination of and making comparability adjustments where appropriate”, with the OECD Guidelines setting out guidance around such adjustments in paragraphs 3.47-3.54. 275.The Commissioner notes the Respondent’s correspondence to the Appellant dated 30 September 2021, which under a heading “Consideration of Comparability Adjustment”, it states that: “The OECD guidance indicates that comparability adjustments may only be made if appropriate to the results of the comparables identified and does not refer to adjustments to the financial results of the tested party. As a result, it is not appropriate to adjust the financial results of [the Appellant] in its statutory financial statements for the purposes of comparing with the NCP results of the comparables which are obtained from their statutory financial statements.” 276.The Commissioner observes that the Appellant in subsequent correspondence asserts that an adjustment to the financial results of the Appellant as the tested party to exclude the SBAs expense from its cost base is reasonable and enhances the reliability of the comparability analysis. The Respondent in its correspondence dated 30 September 2021, refers to paragraphs 3.47, 3.50 and 3.51 of the OECD Guidelines.” (…) “349. Having carefully considered all of the evidence, inter alia the viva voce evidence of the witnesses, the expert evidence, the case law and legal submissions advanced by Senior Counsel for both parties, in addition to the written submissions of the parties including, both parties’ statement of case and outline of arguments, the Commissioner has taken her decision on the basis of clear and convincing evidence and submissions in this appeal. In summary and having regard to the issues in this appeal, the Commissioner is satisfied that the answer to the issues as set out above in this determination, under the heading “the issues”, is as follows: (i) Was the Appellant correct to exclude in the calculation of its costs of providing the intercompany services, the expenses identified in the statutory financial statements of the Appellant in respect of the SBAs granted by the parent company to employees of the Appellant – Yes; (ii) If the Appellant was incorrect to exclude in the calculation of its costs of providing the intercompany services, the expenses identified in the statutory financial statements of the Appellant in respect of the SBAs granted by the parent company to employees of the Appellant, what, if any, adjustment is required – Not relevant, having regard to (i); (iii) The interpretation of section 835C and 835D TCA 1997 – An adjustment to profit rather than consideration is required; (iv) With respect to FY15, whether the Respondent was precluded from raising an amended assessment having regard to sections 959AA and 959AC TCA 1997 – Yes. 350. As set out, the Commissioner is satisfied that the Appellant has shown on balance that it was correct to exclude in the calculation of its costs of providing the intercompany services, the expenses identified in the statutory financial statements of the Appellant in respect of the SBAs granted by the parent company to employees of the Appellant. Hence, the appeal is allowed.” ...

C. spółka z o.o. is part of a larger group and mainly (95%) sells products (boxes, metal enclosures, etc.) and related services to related parties. According to its transfer pricing documentation the “cost-plus” method had been used to determine the prices of products sold to related parties. The company was audited for FY 2016. According to the tax authorities, the company did not provide enough evidence to support the cost-plus method. The tax authority instead used the transactional net profit method to estimate the company’s income for the year 2016, taking into account factors such as characteristics of goods or services, functional analysis, contractual conditions, economic conditions, and economic strategy by comparing the company’s performance with similar companies over a 3 year period by using EBIT margin. As a result, the authority adjusted the company’s loss and established income based on a EBIT margin of 3.66%, resulting in additional taxable income of PLN 1,803,592.08. C. spółka filed an appeal with the Administrative Court. The Administrative Court predominantly dismissed the appeal and found in favor of the tax authorities. However, the tax authorities have wrongly determined the income of the complainant, by referencing to its entire activity, despite the fact that 5% of the transactions are not subject to regulation under the arm’s length provision. Because of this, the court repealed the decision of the first-instance authority and stated that when re-examining the case, the authority should take into account the position expressed. An appeal was then filed by C. spółka with the Supreme Administrative Court. Judgement of the Supreme Administrative Court The Court dismissed the appeal and upheld the decision of the Administrative Court. Excerpts “The company completely ignores in the cassation complaint that the tax documentation of the transaction submitted by it did not confirm its use of the “cost-plus” method of calculating the sales price to related parties with a mark-up of 30% on the direct costs constituting the cost base (depreciation, value of materials and energy used, third-party services, salaries and wages with mark-ups). The submitted tax documentation shows that in the Company, the valuation of the value of the products sold to related customers should follow the reasonable margin “cost-plus” method. In addition, the Company, in describing the method and manner of calculating income and determining the price of the subject of the transaction, explained, among other things, that in 2016, in transactions to related parties (i.e. to: C. GmbH,. P.GmbH, R. mbH), the price was the sales value of individual finished products, determined each time on invoices issued by the Applicant. The price for the individual products was determined on the basis of pre-agreed price lists or on the basis of ongoing arrangements and negotiations, taking into account changing market conditions. This was to be the method provided for in Article 11(2) of the A.p.d.o.p., consisting in setting the price for the sale of goods and rights and the provision of services in transactions with a related party at the level of the sum of the cost base and profit mark-up, comparable to the cost base and profit mark-up established between independent parties, which take into account comparable functions, risks incurred and assets involved. In the explanations submitted during the tax proceedings, the Company additionally stated that it calculated the selling prices of finished goods taking into account the following elements: – material costs; – third-party service costs; – labour costs; – a mark-up of 30%. It further explained that the 30% mark-up applied by it was established in 2005 and was not updated, and was applied in transactions carried out for related parties and independent parties under individual orders and orders. At the same time, it did not submit any documents related to the calculation of the sales prices of finished goods applied to related parties. It should also be emphasised that the Appellant, when preparing the profit and loss account in the comparative variant, did not separate in it such an item as management costs within the meaning of the Accounting Act, the determination of which is necessary in the event of a reliable application of the “cost-plus” method to transfer pricing settlements. The tax authority was therefore correct in concluding that the sales prices to related parties were not correctly calculated based on market standards. At the same time, it must be emphasised that the Company did not have any long-term contracts with customers, and production and sales were based on current orders from customers, including related and independent entities. In the business relationship concerning the production and sale of products to the related party C. GmbH (as parent company), the Applicant acted as a subcontractor, and these processes were planned on the basis of long-term contracts concluded by C. GmbH with its customers. The company did not in any way contractually secure its own turnover volume or even the planning of the supply of its products and services in the medium term. Most importantly, however, it is apparent from the evidence gathered, including the documentation obtained from the Applicant, that sales were made at amounts that did not take into account all costs incurred and that there was no rational reason for such sales prices. According to the tax authority’s calculations, the revenues obtained by the Company according to the reasonable “cost-plus” margin method indicated by itself should have been higher by approximately PLN 4.5 million. Meanwhile, the margin realised by the Applicant was negative and actually amounted to -6.80%. This indicates that the Company’s method of pricing to related parties, contrary to its position, did not assume the achievement of an adequate profit, and the tax documentation submitted for the Complainant’s transactions with related parties did not assume a mark-up of 30%, which would have translated into a profit for 2016 rather than a loss. Therefore, it is not possible to agree with the Company’s position that only objective factors influenced the negative financial result and were the only reason for the application of Article 11(1) of the A.T.C. Properly ...

For example, it may be the case that the market value of intra-group services is not greater than the costs incurred by the service provider. This could occur where, for example, the service is not an ordinary or recurrent activity of the service provider but is offered incidentally as a convenience to the MNE group. In determining whether the intra-group services represent the same value for money as could be obtained from an independent enterprise, a comparison of functions and expected benefits would be relevant to assessing comparability of the transactions. An MNE group may still determine to provide the service intra-group rather than using a third party for a variety of reasons, perhaps because of other intra-group benefits (for which arm’s length compensation may be appropriate). It would not be appropriate in such a case to increase the price for the service above what would be established by the CUP method just to make sure the associated enterprise makes a profit. Such a result would be contrary to the arm’s length principle. However, it is important to ensure that all benefits to the recipient are properly taken into account ...

Depending on the method being used to establish an arm’s length charge for intra-group services, the issue may arise whether it is necessary that the charge be such that it results in a profit for the service provider. In an arm’s length transaction, an independent enterprise normally would seek to charge for services in such a way as to generate profit, rather than providing the services merely at cost. The economic alternatives available to the recipient of the service also need to be taken into account in determining the arm’s length charge. However, there are circumstances (e.g. as outlined in the discussion on business strategies in Chapter I) in which an independent enterprise may not realise a profit from the performance of services alone, for example where a supplier’s costs (anticipated or actual) exceed market price but the supplier agrees to provide the service to increase its profitability, perhaps by complementing its range of activities. Therefore, it need not always be the case that an arm’s length price will result in a profit for an associated enterprise that is performing an intra-group service ...

When an associated enterprise is acting only as an agent or intermediary in the provision of services, it is important in applying a cost based method that the return or mark-up is appropriate for the performance of an agency function rather than for the performance of the services themselves. In such a case, it may not be appropriate to determine arm’s length pricing as a mark-up on the cost of the services but rather on the costs of the agency function itself. For example, an associated enterprise may incur the costs of renting advertising space on behalf of group members, costs that the group members would have incurred directly had they been independent. In such a case, it may well be appropriate to pass on these costs to the group recipients without a mark-up, and to apply a mark-up only to the costs incurred by the intermediary in performing its agency function ...

“Berry ratios” are defined as ratios of gross profit to operating expenses. Interest and extraneous income are generally excluded from the gross profit determination; depreciation and amortisation may or may not be included in the operating expenses, depending in particular on the possible uncertainties they can create in relation to valuation and comparability ...

SAP Labs France SAS provided IT-related services to its German parent company, SAP AG, and received a cost-plus 6 % remuneration. According to the R&D agreement all income taxes, including withholding tax, applied on the amount paid by the parent company pursuant to the agreement would be paid for by the French company. However, the French tax administration held that the French company should have included the CVAE tax in the cost base on which it was remunerated, and by not doing so SAP Laps France had indirectly transferred profit to SAP AG. A tax reassessments under the French arm’s length provisions was then issued. SAP disagreed with the assessment and brought the case before the Administrative Tribunal. The Administrative Tribunal issued a decision in favor of the tax administration. “6. The contribution on the added value of companies is a burden on the company. Consequently, this tax could not be disregarded when determining the transfer price of the services provided by SAP Labs France SAS to SAP AG. Even though it is based on contractual stipulations, the failure to take this taxation into account to determine the transfer price makes it possible, by itself and independently of the level of the transfer price to which this deduction leads by applying the contractual calculation method, to presume the existence of a transfer of profits abroad, within the meaning of Article 57 of the General Tax Code. The administration was therefore not required to compare the situation of SAP Labs France SAS with that of companies in a situation of arm’s length competition. In the present case, this company did not provide any justification likely to establish that this absence of re-invoicing was sufficient consideration for it and that it would thus have had the character of a normal act of commercial management. Furthermore, the guidelines on the free choice of accounting classification of the contribution on the added value of companies contained in the press release of the Conseil national de la comptabilité (French National Accounting Council) dated 14 January 2010 have no influence on the application of the tax law, whereas in any event it results from the instruction that SAP Labs France SAS has entered this tax in account 635111, which is an account of current management expenses, without even drawing up an appendix that could justify its choice to classify this contribution as income tax, despite the indications in the same press release. 7. As a result of the above, the tax authorities were right to consider that, in accordance with Article 57 of the French General Tax Code, SAP Labs France SAS had transferred profits for 2012 in an amount corresponding to the amount of the company value added tax, which is undisputed to be €600,301, increased by the contractual margin of 6%. As a result, Labs France is not entitled to request the discharge of the disputed taxes. Consequently, its conclusions regarding the costs related to the dispute must also be rejected.” Click here for English translation Click here for other translation ...

Following an audit of GE Medical Systems Limited Partnership (SCS), which is engaged in the manufacturing and marketing of medical equipment and software, the French tax authorities issued an assessment related to the “value added amount” produced by the company, which serves as the basis for calculating the French minimum contribution of business tax provided for in Article 1647 E of the General Tax Code. The tax authorities was of the view that (1) prices charged for goods and services provided to foreign-affiliated companies had been lower than arm’s length prices and that (2) part of deducted factoring costs were not deductible in the basis for calculating the minimum business tax. On that basis a discretionary assessment of additional minimum business tax was issued. GE Medical Systems appealed the assessment to the Administrative Court of  Appeal. The Court of Appeal came to the conclusion that the basis for assessment of arm’s length prices of the goods and services sold had been sufficient, but in regards to the denial of deductions of the full factoring costs the court ruled in favor of GE Medical Systems. GE appealed the decision in relation to basis for the assessment of arm’s length prices for goods and services, and the tax authorities appealed the decision in relation to allowance of the full deduction of factoring costs in the basis for calculating the minimum business tax. The Supreme Court – Conseil d’État – denied the appeal of GE Medical Systems in relation to the basis for determining arm’s length prices of the goods and services sold to foreign-affiliated companies. On the issue of full deduction of factoring costs, the Supreme Court allowed the appeal of the tax authorities and annulled the decision of the Administrative Court of Appeal. Click here for Translation ...

Philips France SAS provides contract R&D to it’s Dutch parent. Compensation for the service was calculated as cost plus 10%. In the years 2003 to 2007 Philips France received government subsidies for performing R&D. These subsidies had been deducted by the company from the cost base before calculating of the cost plus remuneration. The French tax authorities issued a tax assessment where the deduction was denied and the remuneration calculated on the full cost base. The Supreme Administrative Court ruled that a deduction of subsidies from the cost base does not constitute a “transfer of profits abroad” and allowed the reduced cost base for calculation of the arm’s length remuneration. Click here for English translation Click here for other translation ...

In this case, the French tax authorities questioned the method implemented by GE Healthcare Clinical Systems to determine the purchase price of the equipment it was purchasing from other General Electric subsidiaries in the United States, Germany and Finland for distribution in France. The method used by the GE Group for determining the transfer prices was to apply a margin of 5% to all direct and indirect production costs borne by the foreign group suppliers. For the years 2007, 2008 and 2009 the tax authorities applied a TNM-method based on a study of twenty-six comparable companies. The operating results of GE Healthcare France was then determined by multiplying the median value of the ratio “operating result/turnover” from the benchmark study to the turnover in GE Healthcare Clinical Systems. The additional profit was declared and qualified as constituting an indirect transfer of profits to the related party suppliers in the General Electric Group. The GE Group disagreed and brought the case to Court. First, the Tribunal dismissed the application by judgment of 18 May 2015, as did the Versailles Administrative Court of Appeal in a judgment of 9 February 2017. Finally, the Conseil d’Etat rejected the appellant’s appeal on the ground that the administration had established the existence of a benefit constituting a transfer of profits. When the tax authorities note that the prices charged to a company established in France by a foreign related company are higher than those charged to independent parties, without this difference being explained by the different circumstances, it is entitled to reinstate in the results of the French company an amount equal to the advantage. The Conseil d’Etat also confirmed that a benchmark study could include companies whose turnover was not identical to that of the taxpayer. Click here for translation ...

In these two cases from Israel the Supreme Court rules on the issue of whether or not companies using the cost plus method must include stock-based compensation in the cost base. The Court concludes that stock-based compensation is an integral part of the compensation package of the Israeli subsidiaries’ employees with the objective of improving the quality of services rendered and strengthening the bond between the companies’ and employees’ cohesive goals. Therefore, such compensation should be included in the cost base. The Court also addressed the burden of proof in relation to transfer pricing disputes in Israel. Section 85 A (c) (2) provides that the burden of proof is with the tax authority if the taxpayer have submitted all required documentation, including a transfer pricing study, that “adequately substantiate” intercompany prices to be in accordance with arm’s length principle ...

Microsoft Ibérica S.R.L is responsible for distribution and marketing of Microsoft products in Spain. According to an agreement concluded between Microsoft Ibérica and MIOL (Microsoft’s Irish sales and marketing hub) with effect from 1 July 2003, Microsoft Ibérica would received the largest amount of either a commission based on sales invoiced in Spain or a markup on it’s costs. In support of the remuneration according to the agreement, Microsoft had provided a benchmark study. The Spanish tax authorities found that Microsoft Ibérica had not been properly remunerated due to the fact that goodwill amortisations had been eliminated by in the transfer pricing analysis. By including the goodwill amortisations in the analysis, the result of the local company was below the interquartile rang. The authorities further held that the selected comparables in the benchmark study suffered from comparability defects, in that they had less functions and risk than Microsoft Ibérica. An assessment was issued where the results were adjusted to the upper quartile of the benchmark results. The Court of first instance held in favor of Microsoft and set aside the assessment. This decision was appealed to the High Court by the authorities. The High Court overturned the decision and decided in favour of the tax authorities. Excerpts from the Judgement: “We understand that the appellant’s conduct was deliberate, seeking to make the inspection proceedings time-barred. For a year, the Inspectorate was unable to carry out its work normally; in fact, what the Inspectorate did was to waste many hours of work examining the various incomplete accounts which did not comply with the Spanish accounting plan, which the appellant was handing in, wasting hours of work paid for out of the State’s general budget. The appellant, with only two days left, submitted a copy of the accounts which replaced “the computer copies of the accounts on CDs submitted to the inspection on 21/05/20 10, 9/09/2010 and 26/11/2010 which contained errors in the conversion of the accounts from the American chart of accounts to the Spanish chart of accounts”. The Chamber cannot support this conduct of the party by declaring the inspection procedure time-barred, as the delay is attributable to the taxpayer’s conduct. In finding that there is a delay attributable to the taxpayer for 344 days, it is unnecessary to examine the rest of the delays. The Inspector procedure took 705 days, discounting 344 days, the procedure finalised in 361 days, therefore, even if the other delays that are questioned are not attributable to the taxpayer, which in many cases overlap with the delay for not handing over the accounts, the Inspector procedure would have concluded before one year had elapsed.” “The Inspectorate indicated that there was another compelling reason to weigh in support of the application of a value located in the upper interquartile range of the study carried out by the Inspectorate, since within the sample of companies considered comparable there are some, five in particular that carry out service activities (CNAE activity codes 7221-7222), which are more similar than the rest to the activity formally assumed by MICROSOFT IBÉRICA – the provision of marketing services – and whose net margins were higher. The Inspectorate considered this sample of entities to be the most appropriate in terms of comparability, as it would yield a margin with a median of 6.15% (weighted average for the period). The reasoning of the Inspectorate, which was complemented by everything else it argued in the agreement, is considered to be correct, but it should also be considered that this reasoning is complementary to the criteria of the Chamber, which has considered that the contract signed by Microsoft fixed a commission that had to be settled monthly.” “The Chamber cannot share the criteria of the report for the following reasons. The expert assumes an interpretation of the contract signed in 2003 that is contrary to the one we have set out in the corresponding legal basis of this Judgment. It is the function of the Chamber to interpret contracts. The increase in the taxable bases derives directly from those agreed by Microsoft and MIOL, any other consideration being unnecessary. Furthermore, the expert considers that companies with losses have been eliminated without reasonable criteria, when this Chamber has endorsed that this criterion was in accordance with the law. Furthermore, the expert assumes that the appellant does not perform strategic functions, whereas the Chamber has concluded otherwise.” “WE RULE 1) That we DISMISS AND REVERSE the present contentious-administrative appeal number 337/2014, brought by the Solicitor Ms. Sonsoles Díaz-Varela Arrese, on behalf of MICROSOFT IBÉRICA, S.R.L, assisted by the Lawyer Ms. Cristina Fernández Rodríguez against the decision dated 8 May 2014 issued by the Central Economic Administrative Court, and we CONFIRM AND CONFIRM the said decisions as being in accordance with the legal system. 2) The plaintiff is ordered to pay the costs incurred in these legal proceedings.” Click here for English translation Click here for other translation ...

Samsung Electronics Baltic Ltd, is a subsidiary of Samsung Electronics Co. Ltd, which was established at the end of 2007. On 1 January 2008, Samsung Electronics Baltic and Samsung Electronics Co. Ltd entered into Distribution Agreement, under which Samsung Electronics Baltic was appointed as the distributor in the Baltic States of the products manufactured by Samsung Electronics Co. Ltd and its subsidiaries (‘the Distribution Agreement’). In 2008 and 2009, Samsung Electronics Baltic carried out business activities in the territory of Latvia, Lithuania and Estonia distributing the goods received from Samsung Electronics Co. Ltd under the Distribution Agreement. Samsung Electronics Baltic also provided warranty services for the goods sold by engaging service providers for that purpose, namely merchants who carried out repairs of the goods (‘Repair Services’). On 2 January 2008, Samsung Electronics Baltic concluded a Warranty Assumption Agreement (‘the Warranty Assumption Agreement’) with its sister company, Samsung Electronics Overseas B.V. (‘Dutch Samsung’), which was the distributor of Samsung Electronics Co. Ltd’s products in the Baltic States before the Applicant. Under the agreement, Samsung Electronics Baltic undertook to provide product warranty services for products sold by Dutch Samsung in the Baltic markets in 2005, 2006 and 2007, and Dutch Samsung undertook to pay Samsung Electronics Baltic a lump sum of USD 4 369 550 to fulfil the assumed warranty obligations. In order to fulfil its obligations under this contract, Samsung Electronics Baltic engaged the services of Repair Service Providers. Pursuant to the Distribution Agreement and the Marketing Fund Agreement (‘the Marketing Fund Agreement’) concluded on 1 January 2008 between Samsung Electronics Baltic and Samsung Electronics Co. Ltd, Samsung Electronics Baltic also performed marketing functions for the Samsung Group in 2008. In particular, Samsung Electronics Baltic engaged marketing agencies as marketing service providers in accordance with the marketing strategy set out by Samsung Electronics Co. Ltd. Samsung Electronics Baltic paid the service fees indicated in the invoices issued by these agencies and subsequently invoiced Samsung Electronics Co. Ltd (or other related companies) for the same amount. The State Revenue Service (hereinafter – the Service) audited Samsung Electronics Baltic for value added tax for the period from January 2008 to October 2009 and for corporate income tax for 2008. The administrative procedure before the authority was concluded by the decision of the Revenue Service of 15 February 2011 (hereinafter – the appealed decision), by which the value added tax, the related penalty and late payment fines were calculated for additional payment to the budget, the value added tax to be refunded from the budget and the related penalty were reduced, and the corporate income tax and the related late payment fines and penalties were calculated for additional payment to the budget by the applicant. As regards value added tax, the contested decision states that in 2008 and 2009 Samsung Electronics Baltic deducted as input tax in its value added tax returns the amounts of tax indicated in the invoices issued to Samsung Electronics Baltic by the Repair Service. According to the Authority, Samsung Electronics Baltic was not entitled to do so, since the transactions in question were not aimed at the pursuit of Samsung Electronics Baltic’s economic activity (transactions subject to value added tax). The Revenue Service considers that Samsung Electronics Baltic used the transactions in question to secure its warranty service obligations towards Samsung Electronics Co. Ltd and Samsung Netherlands, whereas, in the Revenue Service’s view, these relationships are not to be regarded as transactions subject to value added tax but as cost compensation transactions which are not subject to value added tax. As regards corporation tax, the contested decision states that Samsung Electronics Baltic, in performing the group’s marketing functions, has acted as an intermediary which undertakes to provide the related companies with the services of subcontractors (marketing agencies). The Authority found that since Samsung Electronics Baltic passed on the services received from the unrelated parties – the marketing agencies – to Samsung Electronics Co. Ltd and other related undertakings without a mark-up, it follows that Samsung Electronics Baltic provided services to the related undertakings below the market price, since an unrelated undertaking would have added a mark-up to such intermediation services in order to make a profit. Consequently, there are grounds for adjusting Samsung Electronics Baltic’s corporation taxable income by the difference between the value of the services reported by Samsung Electronics Baltic and the market value of the services as calculated by the Revenue Service. The method of adding up costs should be used to determine the market value of the services provided. Taking into account the information available in the Amadeus database, it is estimated that the operating cost or profit margin for unrelated undertakings ranges between 1,7 % and 4,05 %. Consequently, the market value of the services provided by Samsung Electronics Baltic to its affiliates was determined by applying the profit margin of 1,7 % to the sum of the value of the services received from the marketing agencies and Samsung Electronics Baltic’s agency costs as determined in the audit. In follows from the judgement that – If the arm’s length price is not applied and the goods or services are sold at a price below the arm’s length price, the taxable income for corporation tax purposes must be revised upwards by that part of the difference. The legislator has accepted that the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations, which summarise the best practices in transfer pricing of OECD Member States, complement the explanation of the market price methods in the legislation and provide guidance to help calculate the market price as accurately as possible. Consequently, the application of market price methodologies should take into account and use, to the extent possible, the guidance provided in those guidelines. Determining the nature of the service provided is a prerequisite for application of the cost markup method. The essence of the cost markup method is the application of a mark-up to the costs incurred by the service provider in providing the service which is ...

For example, it may be the case that the market value of intra-group services is not greater than the costs incurred by the service provider. This could occur where, for example, the service is not an ordinary or recurrent activity of the service provider but is offered incidentally as a convenience to the MNE group. In determining whether the intra-group services represent the same value for money as could be obtained from an independent enterprise, a comparison of functions and expected benefits would be relevant to assessing comparability of the transactions. An MNE group may still determine to provide the service intra-group rather than using a third party for a variety of reasons, perhaps because of other intra-group benefits (for which arm’s length compensation may be appropriate). It would not be appropriate in such a case to increase the price for the service above what would be established by the CUP method just to make sure the associated enterprise makes a profit. Such a result would be contrary to the arm’s length principle. However, it is important to ensure that all benefits to the recipient are properly taken into account ...

Depending on the method being used to establish an arm’s length charge for intra-group services, the issue may arise whether it is necessary that the charge be such that it results in a profit for the service provider. In an arm’s length transaction, an independent enterprise normally would seek to charge for services in such a way as to generate profit, rather than providing the services merely at cost. The economic alternatives available to the recipient of the service also need to be taken into account in determining the arm’s length charge. However, there are circumstances (e.g. as outlined in the discussion on business strategies in Chapter I) in which an independent enterprise may not realise a profit from the performance of services alone, for example where a supplier’s costs (anticipated or actual) exceed market price but the supplier agrees to provide the service to increase its profitability, perhaps by complementing its range of activities. Therefore, it need not always be the case that an arm’s length price will result in a profit for an associated enterprise that is performing an intra-group service ...

When an associated enterprise is acting only as an agent or intermediary in the provision of services, it is important in applying a cost based method that the return or mark-up is appropriate for the performance of an agency function rather than for the performance of the services themselves. In such a case, it may not be appropriate to determine arm’s length pricing as a mark-up on the cost of the services but rather on the costs of the agency function itself. For example, an associated enterprise may incur the costs of renting advertising space on behalf of group members, costs that the group members would have incurred directly had they been independent. In such a case, it may well be appropriate to pass on these costs to the group recipients without a mark-up, and to apply a mark-up only to the costs incurred by the intermediary in performing its agency function ...

“Berry ratios” are defined as ratios of gross profit to operating expenses. Interest and extraneous income are generally excluded from the gross profit determination; depreciation and amortisation may or may not be included in the operating expenses, depending in particular on the possible uncertainties they can create in relation to valuation and comparability ...

Cheil Communications India Pvt. Ltd. is a subsidiary of a Korean based advertising agency, Cheil Communications. The Indian affiliate had excluded pass-through costs from its cost base when determining the arm’s length remuneration for its activities. The tax authority included the the pass-through costs in the cost base and issued an assessment for FY 2005-06 where these costs were also marked up. Judgement of the Tribunal The Tribunal annulled the assessment and ruled in favor of Cheil Communications India. Excerpt “(…)For performing the functions for and on behalf of associated enterprises, the assessee is remunerated by its associated enterprises on the basis of a fixed commission/charges based on expenses or cost incurred by the assessee for release of a particular advertisement. It is also to be noted that advertising space (be it media, print or outdoor), has been let out by third party vendors in the name of ultimate customers and beneficiary of advertisement. We have gone through the invoices and purchase orders from third party vendors and find that they contain customers’ name, and all the terms of advertisement are finalized after taking the approval from the customers. The assessee simply acts as an intermediary between the ultimate customer and the third party vendor in order to facilitate placement of the advertisement. The payment made by the assessee to vendors is recovered from the respective customers or associate enterprises. In the event customer fails to pay any such amount to the advertisement agency, the bad debt risk is borne by the third party vendor and not by the advertising agency i.e. the assessee. It is, thus, clear that the assessee has not assumed any risk on account of non-payment by its customers or associated enterprises. At this stage a useful reference may be made to ITS 2009 Transfer Pricing Guidelines accepted by the OECD where it is laid down that when an associate enterprises is acting only as an agent or intermediary in the provision of service, it is important in applying the cost plus method that the return or mark-up is appropriate for the performance of an agency function rather than for the performance of the services themselves, and, in such a case, it may be not appropriate to determine arm’s length price as a mark-up on the cost of services but rather on the cost of agency function itself, or alternatively, depending on the type of comparable data being used, the mark-up on the cost of services should be lower than would be appropriate for the performance of the services themselves. In this type of cases, it will be appropriate to pass on the cost of rendering advertising space, to the credit recipient without a mark up and to apply a mark-up only to the costs incurred by the intermediary in performing its agency function. These guidelines are as under:- 3.41 In applying the transactional net margin method, various considerations should influence the choice of margin used. For example, these considerations would include how well the value of assets employed in the calculations is measured (e.g. to shat extent there is intangible property the value of which is not captured on the books of the enterprise) and the factors affecting whether specific costs should be passed through, marked up, or excluded entirely from the calculation. 41. In the proposed revision of Chapter I-III of the Transfer Pricing Guidelines issue don 9th September, 2009 – 9th January, 2010 by OECD, it has been provided in Para 2.134 as under:- “2.134 In applying a cost-based transactional net margin method, fully loaded costs are often used, including all the direct and indirect costs attributable to the activity or transaction, together with an appropriate allocation in respect of the overheads of the business. The question can arise whether and to what extent it is acceptable at arm’s length to treat a significant portion of the taxpayer’s costs as pass- through costs to which no profit element is attributed (i.e. as costs which are potentially excludable from the denominator of the net profit margin indicator). This depends on the extent to which an independent party at arm’s length would accept not to be remunerated on part of the expenses it incurs. The response should not be based on the classification of costs as “internal” or “external” costs, but rather on a comparability (including functional) analysis, and in particular on a determination of the value added by the tested party in relation to those costs.” 42. Further, OECD in ITS 2009 Transfer Pricing Guidelines has laid down as under:- “7.36 When an associated enterprise is acting only as an agent or intermediary in the provision of services, it is important in applying the cost plus method that the return or mark-up is appropriate for the performance of an agency function rather than for the performance of the services themselves. In such a case, it may not be appropriate to determine arm’s length pricing as a mark-up on the cost of the services but rather on the costs of the agency function itself, or alternatively, depending on the type of comparable data being used, the mark-up on the cost of services should be lower than would be appropriate for the performance of the services themselves. For example, an associated enterprise may incur the costs of rending advertising space on behalf of group members, costs that the group members would have incurred directly had they been independent. In such a case, it may well be appropriate to pass on these costs to the group recipients without a mark-up, and to apply a mark-up only to the costs incurred by the intermediary in performing its agency function.” 43. In the light of these guidelines, it would be, therefore, clear that a mark-up is to be applied to the cost incurred by the assessee company in performing its agency function and not to the cost of rendering advertising space on behalf of its associate enterprises. We further find that the method adopted by the assessee while submitting ...