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Consensus over definition of intangibles and location savings increasingly unlikely

Action 8 of the OECD’s BEPS project on the transfer pricing aspects of intangibles aims to achieve universal consensus over definition. However, this is beginning to look like an impossible task, with influential BRIC countries such as India, making their own interpretations.

The complexity surrounding intangibles is clearly highlighted in the OECD’s definition, which is in fact a description of what an intangible is not.

According to the OECD, “The word intangible is intended to address something which is not a physical asset or a financial asset, which is capable of being owned or controlled for use in commercial activities, and whose use or transfer would be compensated had it occurred in a transaction between independent parties in comparable circumstances.”

In the OECD’s Action 8 paper location savings have not been deemed an intangible. Group synergies, market-specific characteristics and work force are also not considered intangibles.

Differing interpretations

However, the OECD’s take on intangibles, which it hopes to implement globally, is definitely not universally shared.

“What is considered an intangible in India, is not necessarily an intangible in Europe,” said Anis Chakravarty of Deloitte.

India, for example, lists 12 categories of intangibles for transfer pricing purposes.

TP issues involving intellectual property (IP)


· Transfer of ownership

It is essential to determine the arm’s-length sale value of an IP. Any IP transfer would constitute a business restructure for transfer pricing purposes and would be subject to general anti avoidance rules (GAAR).

· Licencing


Taxpayers must determine the arm’s-length royalty rates for licences such as copyrights, know-how, patents, software etcetera.

· Cost sharing

When group members agree to share the costs of developing intangibles, it is important to determine the value of the pre-existing IP for buy-in payments by new entrants and the resulting margins earned by the licensee in order to demonstrate the commerciality of the agreement.

IP issues emerging in India

The Indian Tax Administration (ITA) has stated that more importance should be paid to location savings because the concept goes beyond cost difference.

According to ITA, location saving advantages (LSAs) should include:

  • Highly specialised skilled manpower and knowledge;

  • Access and proximity to growing local/regional market;

  • Large customer base with increased spending capacity;

  • Superior information network; and

  • Superior distribution network.

The ITA argues that relying on local comparable companies does not capture the benefit of location savings and suggests profit split method as a way to calculate “location rents”.

“In my view, if you are selecting local comparables there is no need to make further adjustments for location savings. Location savings, if any would be reflected in the margins of the comparable companies. In a perfect competition, location savings would typically be passed on to the customers,” said Jitendra Jain of GE.

Marketing intangibles

There have been cases in India where excessive marketing spends in relation to the comparables have been alleged to create marketing intangibles for the parent. The ITA have taken a view that such excess should be reimbursed by the parent.

“Under arm’s-length conditions, a limited risk distributor would typically not incur significant marketing expenditure. On the other hand, an entrepreneur would have the liberty to incur significant marketing spends and benefit from the same by exploiting it. Therefore, as a taxpayer it is important to get your characterisation right,” said Jain.

IP issues emerging in China

In China, LSAs include both location savings and market premium, which relates to the additional profit because of higher selling prices. Location savings should take location dis-savings into account and therefore the net amount is normally used.

Local companies in China generally do not have any LSAs.

In the State Administration for Taxation’s (SAT) view:

  • Auto joint ventures have both location savings and market premium with almost all profits received by foreign automakers;

  • Chinese contract R&D service providers need to earn higher profit margins due to location savings; and

  • Market premiums exist for the luxury goods sector.

“China has been extremely vocal about marketing intangibles; however, the country is still trying to get its act together at both city and provincial levels,” said Ed Heng of Syngeta.

Uncertain future

While the BEPS project has garnered support and significant levels of cooperation, intangibles seem to be one of the most contentious topics that could stand in the way of the OECD’s success.

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