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Transfer Pricing

Transfer Pricing. Introduction. OECD Model Convention. Why is TP a problem. Main methods. Cost contribution Agreements. Advanced pricing agreements etc etc etc. Transfer Pricing. OECD Model Convention No specific article No specific prohibitions in domestic law

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Transfer Pricing

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  1. Transfer Pricing Introduction. OECD Model Convention. Why is TP a problem. Main methods. Cost contribution Agreements. Advanced pricing agreements etc etc etc

  2. Transfer Pricing • OECD Model Convention • No specific article • No specific prohibitions in domestic law • Article 9 Model Convention • Associated Enterprises • Article 24 Model Convention • Non Discrimination

  3. mine Source country Operating Co. Source Country Parent Co. Foreign Shareholders dividends Australian Holding Co. dividends AUSTRALIAN PUBLIC COMPANY dividends Australian Shareholders Transfer Pricing

  4. Transfer Pricing • Risk to source country • Manipulation of revenue / sale price • manipulation of expenses • essential imput costs • management services • use of tangible property; leasing • use of intangible property; IP • Cost contribution agreements • Research & development • but NO royalty income

  5. Transfer Pricing mine Labour Technical Assistance Finance Essential inputs exploration Capital activities Research and equipment development Source country Operating Co. Source country Parent Co. PROFIT TRAP TAX HAVEN: Hong Kong. Australian group

  6. Transfer Pricing

  7. Transfer Pricing • The problem parent controls source county subsidiary. Not acting at arms length, manipluation of prices WILL occur • Traditional methods • comparable uncontrolled price (cup) • resale price methods • cost plus • Profit split • Comparable profits • Profit split method

  8. Transfer Pricing • Which method • Choice based on degree of comparability. • Completeness and accuracy of data. • Reliability of assumptions • Sensitivity of results to data deficiencies

  9. Transfer Pricing • Target industries • Petrochemicals • Pharmaceuticals • Motor trade • Financial services • Computers, consumer electronics • Branded consumer goods • Media

  10. Source Market Sale $90 Expense Parent Resident Source Sub Sale $100 Revenue Sale $50 Third Party Source Transfer Pricing (1) Inflated expenses direct Parent co transaction

  11. Source Market Sale $90 expenses Parent Resident Source Sub Sale $100 revenue Sale $50 Sale $50 Third Party Source Transfer Pricing (2) Inflated expenses indirect third party sells first to parent co

  12. Transfer Pricing : (3) reduced revenue Sale $60 $100 $50 Market Parent Resident Source Sub Sale $100 Costs Third Party Source $50 $100

  13. Transfer Pricing Comparable Uncontrolled price: cup Sale $75 Unrelated Party Sale $75 Sale $100 Sub Co. Parent Co. Unrelated Party

  14. Transfer Pricing • The problem of comparability • Suitability. • Degree of comparability. • Lack of comparable prices. • Problem areas: • quantity • quality • level of the market • Intangibles • Foreign exchange • Business strategies • Burden of proof

  15. Transfer Pricing • Resale price method: (resale minus) • Distributors: work back from sale price • Price earned by the controlled entity from third party sales LESS, • Arms length GROSS margin for a comparable uncontrolled transaction EQUALS, • Arms length price for transaction with related party. • Emphasis is on functional comparability NOT product comparability.

  16. Transfer Pricing • Cost plus method • Similar to RSPM but works back from the other end ie the sale price is suspect not the imput • Start with cost of the product or service ADD, • Arms length gross profit mark up EQUALS, • Arms length sale price to related party. • Focus on functional comparability.

  17. Transfer Pricing • Comparable profits • Based on comparable ratios • ROI • ROE • GP • Berry ratio. • Suitability. • Advantages cf to transactional methods. • Disadvantages.

  18. Transfer Pricing • The problem of comparability • Characteristics of the property / service. • Characteristic of the intangible • Contractual terms • Economic circumstances • Business strategies

  19. Transfer Pricing • Advanced Pricing Agreements • Advantages • Certainty, • Non adversarial, • Development of actual policies. • Disadvantages • Disclosure, • Prior years • Inflexible • Overseas associates

  20. Source Sub Third Party MNC Difference Revenue $100 $100 - Capital Allowances (10) (50) (40) Sale $25 Sale $50 Source Sub MNC Related Party MNC NPBT 90 50 (40) Tax 50% 45 25 (20) “New” Asset Old Asset Improvements Cost $5 $10 Market value Transfer Pricing Scrap value $5

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