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Challenges of TP on intangible assets: An Indonesian tax perspective

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Susy Suryani and Faozan Efendi of Suryani Suyanto & Associates discuss the challenges and issues faced by multinational corporations in relation to transfer pricing on the payment of royalty of intangible properties.

Transfer pricing (TP) on the payment of royalty of intangible properties has always been a significant issue for multinational enterprises (MNEs). There are many challenges that must be faced by companies in the context of an arm's-length assessment, especially in the litigation process in Indonesia.

Royalty payments are often corrected by the tax office due to doubts and an element of suspicion where renumerations for the use of technical know-how to the parties who have a special relationship are considered to be one of the ways to reduce the profits of companies in Indonesia, especially if the company is still in a loss position.

Disputes between the taxpayers and tax authority are frequent on royalty issues. On the one hand, tax audits on royalty payments are carried out for one tax year only; while on the other hand, test of economic benefits related to the use of intangible property, which is a mandatory procedure to be carried out, cannot automatically be enjoyed in the year the royalty payment occurs.

In addition, the economic benefits for the company are often at times hard to verify, let alone quantify; as such the tax authority and the taxpayer are prone to disagreements.

TP transactions are cross-border in nature and therefore involve different tax authorities. Over the years, the Indonesian Directorate General of Taxes (DGT) has rolled out many rules and directives related to TP issues, in an effort to narrow the possibilities of ambiguity and misinterpretation. Compounded with the new addition of guidelines by the OECD, there is a much better legal framework and regulatory clarity to work with.

However, challenges and issues exist during field audits and MNEs must be adequately prepared and proper action must be taken.

Dispute on the existence of economic benefits

In general, royalty agreements established between a subsidiary and a parent company abroad takes effect in the long term and tends not to change on a year-by-year basis. This includes new technology that is relevant to the current year's production.

Aspects of the legality and existence of the royalty payment is often questioned because the company is considered to have been established decades ago, and technology has developed and evolved since the company was founded, however, subsidiaries in Indonesia are still required to pay royalties for technology that is no longer relevant to the production in the current year.

The definition of 'royalty' under Article 12 paragraph (2) of the OECD Model, is divided into two:

  • Any payment received in exchange for the use or right to use copyright of written works, works of art or scientific works, including cinema films and patents, trademarks, patterns or models, plans, secret formulas or secret processes; or

  • Any payment received in return for information relating to experience in industry, trade, or science (known as know-how).

'Tax dispute' related to the use of intangible property is a type of dispute that is very often encountered in the tax litigation process in Indonesia, even though the DGT has issued special rules or instructions related to tax audit procedures on the use/payment of intangible property (DGT Circular letter Number SE-50/PJ/2013). However, in practice there are still several different interpretations of the TP provisions both in local regulation and the OECD Transfer Pricing Guidelines.

In addition to the existence of economic benefits, there are also disputes related to the completeness of technical documents on intangible property that taxpayers fail to fulfill. Although with the added requirements of TP documents and master file, the ambiguity regarding the compilation of TP documents has significantly diminished, yet it still remains to be a challenge for many companies.

Of course, TP is not an exact science, there are elements of different interpretations of taxation provisions related to economic benefits and the existence of payment of intangible property on either the local tax regulation or the OECD TP Guidelines.

Furthermore, there are external factors where the DGT itself is pressured by the 'targeting system', where it is required to collect a certain amount of tax revenue as determined by the government.

Application of the arm's-length principle for intangible property payments

In accordance with the DGT regulation No. PER-32/PJ/2011, the arm's-length principles must be applied to transactions for the use and transfer of intangible assets carried out by taxpayers with parties having a special relationship, where the transaction is deemed to comply with the arm's-length principles as long as it complies with the following provisions:

  • The transaction using intangible assets actually occurs;

  • There are economic or commercial benefits; and

  • Transactions between related parties have the same value as transactions between non-related parties having comparable conditions by applying comparative analysis and applying the appropriate TP method to transactions.

The DGT circular letter No. SE-50/PJ/2013 regarding the examination of special relationship transactions is confirmed as shown below.

Intangible assets are divided into two major parts, (i) manufacturing intangibles and (ii) marketing intangibles.

i) Intangible assets in connection with the trade function (manufacturing intangibles).

Occurs through risky and expensive research and development activities, thus the owner tries to replace these expenses through the sale of goods, agreements license or service contract.

ii) Intangible assets in connection with the marketing function (marketing intangibles).

Includes trademarks or trade names that help improve the marketing of goods and services, customer lists, and distribution channels.

The assessment steps related to intangible property transactions are to:

  • Identify the existence of any intangible assets that have contributed to the success of the product on the market. This identification can be done through function analysis. In the function analysis, the tax auditor is expected to have a good understanding of the taxpayer's efforts;

  • The company must be able to prove the existence of intangible properties which includes the types, ownership, assessment of intangible property, the existence of the transfer of rights to use intangible property;

  • Identify the value of intangible assets and determine the parties that contribute to the formation of intangible assets. This needs to be done so that it is known whether taxpayers in Indonesia contribute to its formation so that they are entitled to receive the results of the exploitation of intangible property;

  • Learn whether there has actually been a transfer of intangible assets in the transaction. Analysis of the time of the transfer of intangible assets in an independent transaction can be used as a guideline; and

  • Determine reasonable compensation for any intangible assets transferred. This is done by referring to the market where intangible assets are used and comparing them with comparative transactions.

Despite the fact that the arm's-length principle is under constant review, it is a well-established framework for determining TP, and remains a core guiding principle. The reality is that TP is a complex area where companies often need professional expertise.

Fair assessment of the use and payment of royalties

The first step taken by the DGT in assessing the reasonableness of intangible property payments is to determine the characteristics of the business (functional analysis), whether as contract manufacturing, full-fledged manufacturing or license manufacturing.

By understanding the characteristics of the business accurately, analysis of the functions, assets and risks of each business can be determined, so that it is known that the parties who hold the functions, assets and risks associated with intangible property, and furthermore the DGT will require supporting data in the assessment of arm's-length principle in the form of:

  • Contract, invoice, proof of payment;

  • Certification documents showing legal ownership of intangible property;

  • Documents for the recognition/recording of intangible property in the financial statements of the parent company that receive royalty payments; and

  • Forms of intangible property used by companies in Indonesia, for example drawings, specifications and other documents and how to use these documents in the production process or know-how, or it can be in the form of information related to secret formulas or training modules related to the application of a particular technology.

Testing the economic benefits associated with the use of technical know-how is often a prolonged discussion with the tax office, considering that technical know-how itself does not have a physical form and tends to be confidential to the public.

Legal and economic ownership issue related to technical know-how

In the event of tax audits, documents that prove the legal ownership of technical know-how are the main issues that the tax auditor always pays attention to.

This is in line with the concept in the OECD TP Guidelines July 2017, Chapter VI, paragraphs 6.34 and 6.35 below:

"Identify the full contractual arrangements, with special emphasis on determining legal ownership of intangibles based on the terms and conditions of legal arrangements, including relevant registrations, license, agreements, other relevant contracts and other indicia of legal ownership and the contractual rights and obligations including contractual assumption of risks in the relations between the associated enterprises".

"Legal rights and contractual arrangements form the starting point for any transfer pricing analysis of transactions involving intangibles".

“A mutual understanding of the concepts and rules that apply to the arm’s-length assessment of intangible property payments is imperative.”

However, it is in accordance with the OECD TP Guidelines, paragraph 6.42:

"While determining legal ownership and contractual arrangements is an important first step in the analysis, these determinations are separate and distinct from the question of remuneration under the arm's-length principle. For Transfer Pricing purposes, legal ownership of intangibles, by itself, does not confer any right ultimately to retain returns derived by the MNE group from exploiting the intangible, even though such returns may initially accrue to the legal owner as a result of its legal or contractual right to exploit the intangible…"

Paragraph 5.65 of the OECD TP Guidelines states "if the legal owner neither controls nor performs the functions related to the development, enhancement, maintenance, protection or exploitation of intangible (DEMPE function), the legal owner would not be entitled to any ongoing benefit attributable to the outsourced functions."

When referring to the concept in the OECD TP Guidelines, even though legal ownership is an important stage in the analysis, for the purpose of assessing the fairness of the transaction, the legal owner does not automatically have the right to receive remuneration for the use of intangible property if the legal owner does not carry out the DEMPE function.

This is being applied in the tax audit process in Indonesia, where the question is related to who is performing the DEMPE function in the company group?

These questions will be answered in the information contained in the master file document, that describes the functional analysis within the company group. In some cases, companies receiving royalties do not perform DEMPE functions, but only act as a holding company, so the tax office does not believe the existence of royalty payments on the use of technology know-how.

To summarise, in the practice of tax audits in Indonesia, it can be concluded that there are several problems that have always been disputed regarding royalty payments for technical know-how, namely:

  • The existence and economic benefits of royalty payments. Where in this first stage, taxpayer/the company often cannot explain and convince the existence and economic benefits of royalty payments on technology know-how;

  • Are the payments legal and valid?

  • Are the royalty rates in accordance with comparable data for similar industries?

  • The legal owner of the intangible (technical know-how), both legal ownership and economic ownership, which is linked to the DEMPE function carried out by the affiliated party.

In many cases related to proving ownership of technology know-how, some companies have difficulty proving it, especially regarding ownership certificates registered with the relevant department in the country of the opposite transaction.

Tax implications if royalty payments are deemed unreasonable

If royalty payments are considered not arm's-length, the main impact is that royalty costs cannot be charged as a deductible expense in calculating corporate income tax.

In many cases the royalty fee will be reclassified as a hidden dividend, so the withholding tax that has been paid to the state treasury will be subject to the normal domestic rate of 20% (royalty payments will be subject to tariffs according to the tax treaty if completed with the DGT form documents) and self-assessed VAT that has been paid cannot be credited in the VAT return.

Resolving disputes

Settlement of tax disputes related to TP can be resolved through tax objections, tax appeals and/or mutual agreement procedure/advance pricing agreement.

Nevertheless, further efforts should be directed at trying to avoid or minimise TP disputes rather than resolving the disputes per se. To that end, TP methods should be designed to be more simple, specific and effective.

Unfortunately, the BEPS project outputs under Actions 8–10 has only made the OECD TP Guidelines far more complex and obscure. This has undoubtedly added to the burden of tax administration on the part of taxpayers, and the tax authority which is increasingly under resource constraints.

In the meantime, as the dominant source of information, TP Doc should be used as a starting point for the risk assessment of taxpayers who are involved in royalty payments, and understanding business and industry models as reflected in TP documentation is a fundamental step that tax officers need to do in assessing the arm's-length of transactions.

All parties need to work together and collaborate so that TP disputes do not continue to be a major issue and a prolonged potential risk in the examination process even at the tax court and Supreme Court stages, so that it does not cause a sustainable burden for taxpayers.


With the increasing number of disputes related to the use of technical know-how, it is imperative to have the same understanding between the taxpayers and the tax office regarding the tax concepts and rules that apply to the arm's-length assessment of intangible property payments. This is especially true related to technical know-how supported by implementing regulations, which guarantees more legal certainty and justice for taxpayers and tax offices.

The most important thing is of course eliminating the view that TP is one of the ways of tax avoidance, even though in reality TP is an integral part of business development that is continuously evolving.

Meanwhile, for taxpayers who pay royalties for the use of technical know-how, it is also hoped that they will be able to review the transaction schemes that have been going on for decades and are adjusted to the applicable tax provisions and the OECD TP Guidelines.

Click here to read all the chapters from ITR's Indonesia Special Focus

Susy Suryani


Managing partner

Suryani Suyanto & Associates

T: +62 21 2903 5889


Susy Suryani Suyanto is the managing partner of Suryani Suyanto & Associates. She has become a tax specialist in matters relating to dispute resolutions, with a proven track record in assisting multinational corporations listed in Indonesia and overseas stock exchanges.

Susy has more than 11 years of experience as a tax consultant with Arthur Andersen and EY and has attended various trainings, including tax manager training in Chicago. She serves as the chairperson and in various leadership roles across tax chambers and forums in Indonesia.

In addition to holding bachelor's degrees in accounting and law, Susy holds a master's degree in law from Padjadjaran University, where she graduated with a summa cum laude.

Faozan Efendi



Suryani Suyanto & Associates

T: +62 21 2903 5889


Faozan Efendi is a director at Suryani Suyanto & Associates. His career experience includes being a tax consultant at Suryani Suyanto & Associates since 2004, before moving to work at GE Indonesia as the indirect tax leader. He rejoined Suryani Suyanto & Associates in 2017.

Faozan specialises in TP issues, and managing and handling tax disputes such as objections and appeals. He is also well experienced in tax planning, tax litigation, income tax compliance, business tax advisory and annual income tax provision functions.

Faozan obtained a bachelor's degree in accounting from Gadjah Mada University.

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