One situation where transactions involving transfers of intangibles or rights in intangibles may be combined with other transactions involves a business franchise arrangement. Under such an arrangement, one member of an MNE group may agree to provide a combination of services and intangibles to an associated enterprise in exchange for a single fee. If the services and intangibles made available under such an arrangement are sufficiently unique that reliable comparables cannot be identified for the entire service/intangible package, it may be necessary to segregate the various parts of the package of services and intangibles for separate transfer pricing consideration. It should be kept in mind, however, that the interactions between various intangibles and services may enhance the value of both ...

Z-Group had been subject to a joint transfer pricing audit by the tax administrations of Belgium, France, Italy, Spain, Austria and Germany in order to examine the appropriateness of the franchise fee charged between the group companies. Z Group filed a complaint where it disputed the German tax administration’s entitlement to cooperate in a coordinated cross-border external tax audit and, in this context, to exchange information with the other tax administrations. Judgement of the Tax Court The Court dismissed the complaint filed by Z Group. Excerpt “118 The defendant does not violate the principle of subsidiarity by agreeing on or conducting a coordinated examination as planned in the present case with Belgium, France, Italy, Spain and Austria. With reference to the findings of the domestic tax audit, the defendant understandably points out that the audit serves to further clarify the facts, which is not possible in this way in Germany, in order to examine the appropriateness of the franchise fee charged between the group companies. Against this background, a coordinated tax audit between Germany and the other states appears to be a suitable and necessary possibility to clarify the facts by way of administrative assistance with regard to the franchise model and the prices applied within the group of companies of the applicants and to assess the possibility of an arm’s length comparison of the remunerations paid. 119 Furthermore, the requirement to exhaust domestic investigation possibilities may be limited in the event of a simultaneous tax audit, in particular since it is also part of the tasks of a tax audit to verify the submission of a taxpayer, to examine factual assertions and to request or inspect documents in this regard in order to carry out a corresponding verification (cf. FG Köln, decisions of 23 May 2017, 2 V 2498/16, EFG 2017, 1322; of 20 October 2017, 2 V 1055/17, EFG 2018, 351). 120 The prerequisites for an external audit in accordance with the provisions of the Fiscal Code are also and precisely in line with this. Pursuant to section 193(1) AO, an external audit is permissible in the case of taxpayers who maintain a commercial or agricultural and forestry business, who are self-employed or who are taxpayers within the meaning of section 147a AO. In the case of taxpayers other than those referred to in section 193(1) AO, an external audit is permissible under the conditions specified in section 193(2) AO. The external audit serves to determine the tax circumstances of a taxpayer (section 194(1) AO). The tax circumstances of other persons may be audited insofar as the taxpayer was or is obliged to pay taxes or to withhold and pay taxes for the account of these persons (section 194, paragraph 1, sentence 4, first half-sentence AO). 121 As follows from the statutory wording in § 193(1) AO, an external audit is permissible, inter alia, in the case of taxpayers who maintain a commercial business, without any further preconditions (cf. BFH rulings of 7 February 2002 IV R 9/01, BStBl. II 2002, 269; of 2 October 1991 X R 89/89, BStBl. II 1992, 220; ruling of 27 July 2001 XI B 133/00, BFH/NV 2001, 1534). For the order of a routine audit of taxpayers covered by section 193(1) AO, it is generally sufficient if the legal basis, i.e. the legal provision governing the audit order, is stated as the reason (cf. BFH ruling of 10 February 1983 IV R 104/79, BStBl. II 1983, 286). The regulation in § 193 (1) AO is based on the idea that the tax circumstances of the named group of persons are in principle subject to examination. In particular, there is no need for a special reason for an audit. This means, above all, that the taxpayer’s tax conduct need not have given reason for suspicion (cf. Schallmoser in Hübschmann/Hepp/Spitaler, § 193 AO marginal no. 42). 122 With regard to the ordering of an external audit, however, limits arise according to the meaning and purpose of the provision insofar as it is at the discretion of the tax authority whether and with whom an external audit is actually carried out. Thus, an external audit is inadmissible if the audit findings cannot be used for tax purposes from any conceivable point of view, for example because the tax assessment period has already expired (cf. BFH ruling of 10 April 2003 IV R 30/01, BFH/NV 2003, 1234) or if the lack of possibilities for use is undoubtedly established for other reasons. Likewise inadmissible are external audits which are investigations “out of the blue”, i.e. if there are no indications of a possible tax liability (cf. Intemann in Pahlke/König, § 193 AO marginal no. 35; on this also BFH judgements of 26 July 2007 VI R 68/04, BStBl. II 2009, 338; of 17 November 1992 VIII R 25/89, BStBl. II 1993, 146 in each case on the justification of audit orders under § 193, paragraph 2, no. 2 AO). On the other hand, an external audit is not already unlawful because the tax claims to be audited may be statute-barred (cf. BFH decision of 3 March 2006 IV B 39/04, BFH/NV 2006, 1250; Intemann in Pahlke/König, § 193 AO marginal no. 26). 123 According to these standards, an external audit of the applicants as well as the sister companies of the Z group resident in the other states involved would in principle be permissible without any further preconditions, since these companies maintain a commercial enterprise. 124 e) Furthermore, there are no legal reservations with regard to the fact that the defendant has so far – due to the present application for a temporary injunction – participated purely “passively” in the coordinated audit. There are no indications that the defendant has already participated in the exchange of information and disclosed information available to him or the German tax authorities. The mere passive receipt of information does not constitute a violation of the protection of tax secrecy within the meaning of § 30 AO. Tax secrecy can only be ...

Following an investigation into Luxembourg’s tax treatment of McDonald’s under EU state aid regulations since 2015, the EU Commission concluded that the tax rulings granted by Luxembourg to McDonald’s in 2009 did not provide illegal state aid. According to the Commission, the law allowing McDonald’s to escape taxation on franchise income in Luxembourg – and the US – did not amount to an illegal selective advantage under EU law. The double non-taxation of McDonald’s franchise income was due to a mismatch between the laws of the United States and Luxembourg. See the 2015 announcement of formal opening of the investigations into McDonald’s tax agreements with Luxembourg from the EU Commission ...

One situation where transactions involving transfers of intangibles or rights in intangibles may be combined with other transactions involves a business franchise arrangement. Under such an arrangement, one member of an MNE group may agree to provide a combination of services and intangibles to an associated enterprise in exchange for a single fee. If the services and intangibles made available under such an arrangement are sufficiently unique that reliable comparables cannot be identified for the entire service/intangible package, it may be necessary to segregate the various parts of the package of services and intangibles for separate transfer pricing consideration. It should be kept in mind, however, that the interactions between various intangibles and services may enhance the value of both ...

The Spanish Tax administration made an income adjustment of Citresa (a Spanish subsidiary of the Schweeps Group) Corporate Income Tax for FY 2003, 2004, 2005 and 2006, resulting in a tax liability of €38.6 millon. Citresa entered into a franchise agreement and a contract manufacturing agreement with Schweppes International Limited (a related party resident in the Netherlands). The transactions between the related parties were not found to be in accordance with the arm’s length principle. In the parent company, CITRESA, the taxable income declared for the years 2003 to 2005 was increased as a result of an adjustment of market prices relating to the supply of certain fruit and other components by Citresa to Schweppes International Limited. In the subsidiary, SCHWEPPES, S.A. (SSA), the taxable income declared for the years 2003 to 2006 was increased as a result of adjustment of market prices relating to the supply of concentrates and extracts by the entity Schweppes International Limited, resident in Holland, to SSA. The taxpayer had used the CUP method to verify the arm’s length nature of the transaction while the Spanish Tax administration – due to lack of comparable transactions – found it more appropriate to use the transactional net margin method (TNMM). Prior to 1 December 2006, the Spanish Corporate Income Tax Act (CIT) established three methods of pricing related transactions (the “Comparable Uncontrolled Price Method”, the “Cost Plus Method” and the “Resale Price Method”) and if none were applicable it established the application of the “Transactional Profit Split Method”. Thus, the “Transactional Net Margin Method” was not included at the time the market value of related transactions was established. However, as the Tax Treaty between Spain and the Netherlands was applicable, the Spanish Tax Authorities considered that the OECD Transfer Pricing Guidelines could be directly applicable. Consequently, as the “Transactional Net Margin Method” was envisaged in the above-mentioned Guidelines, the Spanish Tax Authorities understood that this method could be used as a valid pricing method. The case ended up in Court where Citresa argued that the assessment was in breach of EU rules on freedom of establishment and that the TNM method had been applied by the authorities without any legal basis in Spain for the years in question. Judgement of the Court In regards to the claimed violation of the principle of freedom of establishment cf. TFEU article 49, the Court stated: “….the mere purposes of argument, that there can be no doubt as to the conformity with European Union Law of the regime of related-party transactions in Spain, in the terms in which this infringement is proposed to us, which is what is strictly speaking being postulated in cassation for the first time, it being sufficient to support this assertion to record some elementary considerations, such as that the censure is projected indiscriminately on the whole of the law (that is to say, on the legal regime of related-party transactions), which is to say, on the legal regime of related-party transactions, on the legal regime of related-party transactions regulated by Article 16 of Law 43/1995, of 27 December 1995, on Corporate Income Tax, and then Article 16 of Royal Legislative Decree 4/2004, of 5 March 2004, which approves the revised text of the Law on Corporate Income Tax – TRLIS), while, at the same time and in open contradiction, it advocates the application of the precept to resolve the case, thus starting from its compliance with European Union Law.” In regards to application of the transactional net margin method, the Court stated: “…tax years cover the period from January 2003 to February 2006. Article 16.3 of Law 43/1995, in the wording applicable to the case, and the same provision of the TRLIS, in its original version, established the following: “In order to determine the normal market value, the tax authorities shall apply the following methods: Market price of the good or service in question or of others of similar characteristics, making, in this case, the necessary corrections to obtain equivalence, as well as to consider the particularities of the transaction. The following shall be applicable on a supplementary basis: The sale price of goods and services calculated by increasing the acquisition value or production cost of the goods and services by the margin normally obtained by the taxable person in comparable transactions entered into with independent persons or entities or by the margin normally obtained by companies operating in the same sector in comparable transactions entered into with independent persons or entities. Resale price of goods and services established by the purchaser, reduced by the margin normally obtained by the aforementioned purchaser in comparable transactions arranged with independent persons or entities or by the margin normally obtained by companies operating in the same sector in comparable transactions arranged with independent persons or entities, considering, where applicable, the costs incurred by the aforementioned purchaser in order to transform the aforementioned goods and services. Where none of the above methods are applicable, the price derived from the distribution of the joint result of the transaction in question shall be applied, taking into account the risks assumed, the assets involved and the functions performed by the related parties”. This hierarchical list exhausts the possible methods available to the administration for establishing the market value of the transactions to which it has been applied. It consists of four methods: one of them, which we can call direct or primary, that of the market price of the good or service in question (art. 16.3.a) LIS); two others that the law itself declares to be supplementary, that of the increase in acquisition value and that of the resale price (art. 16.3.b) of the legal text itself); and finally, as a residual or supplementary second degree method, that of the distribution of the joint result of the operation in question (art. 16.3.c) LIS). These obviously do not include the valuation method used by the tax inspectorate in this case, that of the net margin of all transactions, introduced ex novo by Law 36/2006, of 29 November, on measures for the ...

In 1996, X BV acquired the right to commercially exploit an intangible asset (Z) for a period of 15 years for $ 63.5 million. X BV then entered a franchise agreements with group companies for the use of Z, including a Spanish PE of Y BV. According to the franchise agreement Y BV paid X BV a fee. According to X, in the calculation of the loss carry forward in Spain the franchise fee should not be fully attributed to the PE in Spain due to existing rules on internal roaylties. X states that the loss carry forward amounts to € 13.1 million. The tax authorities increases the loss carry forward with the fee paid to X, for the use of Z by the Spanish PE. According to the tax authorities, the loss carry forward is € 16.1 million. The District Court finds that no amount needs to be taken of the fees that Y BV paid to X BV for the use of Z by the Spannish PE. However, the court finds that financing costs have to be taken into account. The District Court sets the total loss carry forward from Spanish PE to € 14 million. The Supreme Court ruled that the calculation of the District court was not correct. According to the Supreme Court the starting point must be the actual amount paid for the use of Z in Spanish market at the time. It must then be determined which part of the purchase price can be attributed to the use of Z on the Spanish market. Furthermore, the Supreme Court finds that the District Court was right not to take into the fees owed by the Spanish PE to X. The Supreme Court refered the case back to the District Court. Case No 2016:1031 Click here for translation Click here for translation ...

The European Commission has formally opened an investigation into Luxembourg’s tax treatment of McDonald’s. Tax ruling granted by Luxembourg may have granted McDonald’s an advantageous tax treatment in breach of EU State aid rules On the basis of two tax rulings given by the Luxembourg authorities in 2009, McDonald’s Europe Franchising has paid no corporate tax in Luxembourg since then despite recording large profits (more than €250 million in 2013). These profits are derived from royalties paid by franchisees operating restaurants in Europe and Russia for the right to use the McDonald’s brand and associated services. The company’s head office in Luxembourg is designated as responsible for the company’s strategic decision-making, but the company also has two branches, a Swiss branch, which has a limited activity related to the franchising rights, and a US branch, which does not have any real activities. The royalties received by the company are transferred internally to the US branch of the company. The Commission requested information on the tax rulings in summer 2014 following press allegations of advantageous tax treatment of McDonald’s in Luxembourg. Subsequently, trade unions presented additional information to the Commission. The Commission’s assessment thus far has shown that in particular due to the second tax ruling granted to the company McDonald’s Europe Franchising has virtually not paid any corporate tax in Luxembourg nor in the US on its profits since 2009. In particular, this was made possible because: A first tax ruling given by the Luxembourg authorities in March 2009 confirmed that McDonald’s Europe Franchising was not due to pay corporate tax in Luxembourg on the grounds that the profits were to be subject to taxation in the US. This was justified by reference to the Luxembourg-US Double Taxation Treaty. Under the ruling, McDonald’s was required to submit proof every year that the royalties transferred to the US via Switzerland were declared and subject to taxation in the US and Switzerland. However, contrary to the assumption of the Luxembourg tax authorities when they granted the first ruling, the profits were not to be subjected to tax in the US. While under the proposed reading of Luxembourg law, McDonald’s Europe Franchising had a taxable presence in the US, it did not have any taxable presence in the US under US law. Therefore McDonald’s could not provide any proof that the profits were subject to tax in the US, as required by the first ruling (see further details below). McDonald’s clarified this in a submission requesting a second ruling, insisting that Luxembourg should nevertheless exempt the profits not taxed in the US from taxation in Luxembourg. The Luxembourg authorities then issued a second tax ruling in September 2009 according to which McDonald’s no longer required to prove that the income was subject to taxation in the US. This ruling confirmed that the income of McDonald’s Europe Franchising was not subject to tax in Luxembourg even if it was confirmed not to be subject to tax in the US either. With the second ruling, Luxembourg authorities accepted to exempt almost all of McDonald’s Europe Franchising’s income from taxation in Luxembourg. In their discussions with the Luxembourg authorities, McDonald’s argued that the US branch of McDonald’s Europe Franchising constituted a “permanent establishment” under Luxembourg law, because it had sufficient activities to constitute a real US presence. Simultaneously, McDonald’s argued that its US-based branch was not a “permanent establishment” under US law because, from the perspective of the US tax authorities, its US branch did not undertake sufficient business or trade in the US. As a result, the Luxembourg authorities recognised the McDonald’s Europe Franchising’s US branch as the place where most of their profits should be taxed, whilst US tax authorities didnotrecognise it. The Luxembourg authorities therefore exempted the profits from taxation in Luxembourg, despite knowing that they in fact were not subject to tax in the US ...