The Global Landscape of Transfer Pricing Controversy: Trends You

The Global Landscape of

Transfer Pricing Controversy:

Trends You Can’t Aord to Ignore

Table of Contents

Foreword ................................................................................................................................... 2

I. Introduction: Potential Avenues to Resolve a Transfer Pricing Dispute ............................... 4

A. Pre-Audit Prevention ........................................................................................................ 4

B. Settlement Opportunities During Audit............................................................................ 6

C. Post-Audit Settlement Opportunities Short of Litigation ................................................... 7

D. Competent Authority ........................................................................................................ 8

E. Transfer Pricing Litigation................................................................................................. 9

F. Forum Selection Considerations ....................................................................................... 9

II. APAs: A Practical Way to Prevent Transfer Pricing Disputes ............................................. 11

A. Overview of APAs ............................................................................................................. 11

B. Trends in APAs .................................................................................................................. 11

C. APAs Versus Alternative Dispute Resolution Mechanisms ............................................... 12

D. Benefits of APAs .............................................................................................................. 13

E. Is an APA Right for Your Fact Pattern? ............................................................................. 13

F. Best Practices for a Successful APA .................................................................................. 14

G. Key Questions ─ Survey of Jurisdictions.......................................................................... 16

III. Avoiding Double Taxation – International Remedies ...................................................... 20

A. Overview of MAP and Arbitration .................................................................................. 20

B. Procedural Aspects ......................................................................................................... 20

C. Articulation with Domestic Litigation ............................................................................. 25

D. Peer Review Information ................................................................................................ 26

IV. Global Trends and Developments in Transfer Pricing Controversy ................................ 28

A. Coca Cola─U.S. Controversy ........................................................................................... 28

B. Global Transfer Pricing Cases ......................................................................................... 32

V. Final Remarks .................................................................................................................. 47

Foreword

Dear Readers,

The number of transfer pricing audits across the globe are expected to rise as taxing authorities look for

additional revenue after the Covid-19 pandemic. Countries like the United States have provided additional

funding to taxing authorities to bolster compliance by multinational enterprises (“MNEs”), targeting

investments in data analysis and artificial intelligence to increase transparency.

Transfer pricing controversies are expensive and time consuming. Although entering into an Advance Pricing

Agreement ("APA") may prevent litigating transfer pricing matters, and improvements have been made in this

area, the number of mutual agreement procedure (“MAP”) requests to competent authorities keeps rising, and

more than half of those are transfer pricing requests. Transfer pricing issues introduced in MAP take an

average of 35 months to resolve compared to the 18.5-month average resolution time for other cases.

If an

issue is litigated, resolution may not come for over a decade. Perhaps, greater emphasis needs to made by

the international tax community to implement additional dispute resolutions techniques within the MAP

process towards its simplicity and efficiency.

In practice, tax controversies concerning related-party transactions that initially were not focused on transfer

pricing matters may be resolved and/or settled through transfer pricing adjustments. This has proven to be an

effective mechanism to deal with technical tax issues in cases were no mutual understanding exists between

the tax authorities and the taxpayer during the audit and administrative appeal stages and before entering

into the litigation stage.

Our global transfer pricing team, comprised of lawyers and economists, prepared this Special Report in

partnership with Bloomberg Tax & Accounting to share our best practices for transfer pricing controversy with

businesses who may soon find themselves defending their valuations. Please feel free to reach out to the

authors with any questions.

See OECD 2020 Mutual Agreement Procedure Statistics, available at https://www.oecd.org/tax/dispute/mutual-

agreement-procedure-statistics.htm.

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Finally, we would like to acknowledge all the Baker McKenzie attorneys and economists who authored this

piece and the additional contributors from around the world.

Argentina

Martin Barreiro

Mexico

Jorge Narvaez-Hasfura

Carlos Linares-Garcia

Allan Pasalagua-Ayala

Australia

Thomas Brennan

Netherlands

Hub Stolker

Belgium

Géry Bombeke

Poland

Tomasz Chentosz

Canada

Chris Raybould

Spain

Maria Antonia Azpeitia

Davinia Rogel

Bruno Dominguez

China

Abe Zhao

Shanwu Yuan

Sweden

Linnea Back

France

Ariane Calloud

Caroline Silberztein

Laura Nguyên-Lapierre

Jetlira Kurtaliqi

Switzerland

Balthasar Denger

Germany

Florian Gimmler

Daniel Schmeisser

Turkey

Erdal Ekinci

Italy

Chiara Monga

United Kingdom

Jessica Eden

Jukka Karjalainen

Nigel Dolman

Japan

Koji Oshima

Luke Tanner

Akihiko Tsuda

United States

Eric Torrey

Marc Levey

Susan Ryba

Amanda Worcester-Martin

Wenham Shen

Luxembourg

Antonio Weffer

Ukraine

Hennadiy Voytsitskyi

We would also like to thank our Knowledge Management professionals who assisted with this effort: Elizabeth

Boone and Gareth Kelly.

Best Regards,

Carlos Linares-Garcia

Principal Economist

Chair of North America and Latin

America Transfer Pricing Practices

Monterrey

Jorge Narváez-Hasfura

Partner

Chair of Global Tax Dispute

Resolution Practice

Mexico City

I. Introduction: Potential

Avenues to Resolve a Transfer

Pricing Dispute

By Susan Ryba and Ariane Calloud

Global transfer pricing disputes are on the rise. For

many multinational companies, transfer pricing has

been and continues to be their top audit issue.

New transfer pricing issues have surfaced as a

result of the transformational changes to the

business and operating models made by

companies during the Covid-19 pandemic. In this

environment, tax departments strive to proactively

manage their transfer pricing disputes in a manner

that minimizes exposure to potential penalties and

double taxation, as well as efficiently resolve

disputes with the tax authorities located in multiple

jurisdictions. While some transfer pricing disputes

are resolved through litigation, many jurisdictions

still provide taxpayers with good opportunities to

settle transfer pricing issues administratively in a

non-public forum.

In the sections below, we discuss how a taxpayer

might prevent a transfer pricing dispute in advance

using an advance pricing agreement. Then we turn

briefly to the possibility of settlement during audit.

We then focus on the mutual agreement

procedure, which may prevent double taxation

after a domestic transfer pricing determination is

made. We then turn to domestic litigation of

contested transfer pricing issues. Finally, we end

with a discussion of recent trends and

developments in Transfer Pricing.

A. Pre-Audit Prevention

Transfer pricing disputes are among the most

difficult, time-consuming, and expensive tax

controversies that multinational companies can

face. Before a transfer pricing audit begins,

taxpayers should identify which intercompany

transactions are likely to be examined and in which

jurisdictions these examinations could occur. This

planning will allow taxpayers to evaluate the

opportunities available to settle transfer pricing

disputes in each jurisdiction and determine which

dispute resolution forum the company prefers.

While settlement opportunities vary by jurisdiction,

in general, taxpayers can look to settle their

transfer pricing disputes before, during, and after

the audit.

Audit preparation is the key to a successful

settlement at any of these time periods. Because

transfer pricing cases are won or lost based on the

facts, taxpayers must master the factual record. The

earlier the taxpayer begins to understand and

control the relevant facts, the better the chances of

resolving the issues on favorable terms.

Accordingly, by the time the transfer pricing audit

begins, the taxpayer should consider the following:

• Identify the intercompany transactions

likely to be examined and which tax

authorities are likely to examine them;

• Review the intercompany agreements and

other documentation governing the

transactions likely to be examined and

confirm that they support the desired

structure and intercompany allocation

of risks;

The Global Landscape of Transfer

Pricing Controversy: Trends You

Can't Afford to Ignore

• Determine the taxpayer’s theory of the

case, and be able to easily articulate why

the taxpayer’s chosen methodology is the

best method and why other methods were

not selected;

• Identify individuals who possess relevant

facts and documents and consider the best

ways to obtain such information; and

• Identify and preserve documents.

A taxpayer’s ability to present a strong, consistent

position throughout the audit that shows mastery

of the facts will increase the likelihood of achieving

a favorable settlement during the audit.

1. APAs

Advance Pricing Agreements (“APAs”) historically

have been an effective tool to resolve transfer

pricing issues before an audit begins. Some

jurisdictions may provide taxpayers with other

opportunities to obtain transfer pricing certainty

before an audit begins — especially in the context

of compliance programs and regularization

mechanisms.

In France, for example, taxpayers who

are in the "partenariat fiscal," an enhanced

relationship program with the French tax

administration, may obtain certainty on specific

transfer pricing questions during the fiscal year at

issue. APAs, however, continue to be the leading

choice for preventing a transfer pricing dispute.

For a detailed discussion of the APA process and

their advantages and disadvantages, please

see II., below.

2. ICAP

The International Compliance Assurance Program

(ICAP) is a voluntary risk assessment and assurance

program designed by the OECD with the objective

of facilitating open and cooperative multilateral

engagement between MNEs and tax

administrations. In contrast to APAs, ICAP does not

provide an MNE group with tax certainty. Instead,

its objective from a taxpayer perspective is to

The defined period is generally the covered period/s,

plus the following two tax filing periods, provided there

are no material changes.

Argentina, Australia, Austria, Belgium, Canada, Chile,

Colombia, Denmark, Finland, France, Germany, Ireland,

provide comfort if there is a determination from

the tax administrations participating in an MNE

group’s risk assessment that the risk of the

activity/transaction is low. In other words, ICAP

does not examine specific amounts that may be in

dispute, rather, it examines whether or not the

transaction should be considered low risk and,

thus, not a good use of audit resources.

At the conclusion of an ICAP risk assessment, an

MNE will receive outcome letters from each

covered tax administration, containing the results

of the tax administration’s risk assessment and

assurance of the covered risks for the covered

periods. The design, content and wording of the

letter is determined by each covered tax

administration but will typically address: (i) risk

ratings; (ii) any agreement reached as part of an

issue resolution process, and; (iii) confirmation of

the covered risks that are considered to be low

risk, with a statement that it is not anticipated that

compliance resources will be dedicated to a

further review of these risks for a defined period.

In contrast to APAs, ICAP is currently only available

in twenty-two jurisdictions.

Notwithstanding, taxpayers have reported that

ICAP letters may also provide comfort / lessen risk

in other jurisdictions, even those that do not

participate in ICAP. Furthermore, while an APAs

provide tax certainty whereas ICAP only has the

potential to reduce risk, there are certain benefits

to ICAP. ICAP is materially less resource intensive

than audits or APAs. ICAP is meant to leverage

existing information (e.g., CbCR) and a single

documentation package for use by all covered tax

administrations. Consequently, the timeline is

much faster, with outcome letters issued within 24-

28 weeks from delivery of the main risk assessment

documentation. Another benefit of ICAP is that, in

contrast to APAs, it may be well suited to address

one-off transactions (provided the taxpayer

believes it to be low risk).

Italy, Japan, Luxembourg, Netherlands, Norway, Poland,

Singapore, Spain, the United Kingdom, and the United

States.

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Some taxpayers and advisers, however, have

expressed concerns. The concerns are driven by

the perception that some tax authorities may use

the program to collect information for their tax

audits while being reluctant to provide favorable

“low risk” assessments even where these are

warranted. Furthermore, the perspective as to what

constitutes a low covered risk varies across tax

authorities. Thus, it is possible that with the same

fact and transaction pattern a taxpayer receives a

“low risk” outcome letter from some tax authorities

but is targeted for audit by others.

As this is a more streamlined process, it is most

suitable to less complex issues than those often

addressed via APA, such as hard-to-value

intangibles and IP migration. But with the right fact

pattern and transactions, and if it lives up to the

hype, ICAP is arguably the most efficient and

accessible multilateral tools available to MNEs.

Although it is also possible that a taxpayer does

not receive many (or any) “low risk” outcome

letters or that ICAP ends up being an additional

Information Document Request (IDR) in advance of

an audit, the experience of most taxpayers who

have been involved in ICAP has generally been

positive.

B. Settlement Opportunities During

Audit

Some jurisdictions, including the United States,

grant settlement authority to the audit team. In the

United States, for example, the Exam Team has

discretionary settlement authority for transfer

pricing issues being audited by the Large Business

and International (LB&I) Division. In particular,

during an LB&I examination, if a taxpayer

previously settled an issue with IRS Appeals, the

Exam Team has the authority to settle the issue in

the current audit on the same basis.

Exam Teams

during LB&I examinations also have the ability to

settle issues according to written settlement

See I.R.S. Deleg. Order 4-24 (Rev. 1), IRM 1.2.2.5.20

(Dec. 3, 2020).

See I.R.S. Deleg. Order 4-25 (Rev. 2), IRM 1.2.2.5.21

(Oct. 18, 2008).

In some jurisdictions, transfer pricing disputes can lead

to criminal liability. Some countries have laws that

guidelines established by IRS Appeals in

certain situations.

Even in jurisdictions that do not have a formal

process to settle cases during the audit phase,

there still may be an opportunity to reach

resolution. In France, for example, the possibility to

settle a case with the French tax administration

(besides the mere reduction of tax penalties) is not

formally provided by French tax law. The litigation

phase, however, will not start until various steps

have been completed that result in formal

exchanges between the taxpayer and the French

tax administration. These exchanges can help to

narrow the dispute.

Settling transfer pricing issues with the audit team

has several advantages. First, it allows the taxpayer

to resolve the issue quickly. Litigation and other

dispute resolution forums can take many years

following the end of the audit, whereas a

settlement with the audit team is final by the close

of the audit. Second, it is much less expensive than

litigation and other dispute resolution forums.

Third, the dispute and settlement agreement are

not public, which reduces the reputational risk that

can sometimes arise in connection with transfer

pricing litigation. Fourth, it may mitigate criminal

risk in certain circumstances.

Finally, reaching a

settlement allows the taxpayer to better manage

the uncertainty of pursuing litigation, especially

when case law is unclear or nonexistent.

Nonetheless, while it is possible to settle transfer

pricing issues with the audit team, it may be

difficult to reach a settlement on terms acceptable

to the taxpayer. For example, settling transfer

pricing issues with the audit team may create a

disadvantage for the taxpayer. Unlike issues settled

using an APA, issues settled during audit may not

provide protection on the issue for additional tax

years. Further, a determination by the Exam Team

may prevent a taxpayer from being able to claim a

tax credit in another jurisdiction. In such cases,

require certain tax disputes to be referred to the Public

Prosecutor if no resolution has been reached by the end

of the audit. In France, for example, the French tax

administration must report to the Public Prosecutor a

case that led to the application of certain tax penalties in

a tax collection notice at the end of the tax audit phase.

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taxpayers often proceed to other dispute

resolution forums or litigation.

In some jurisdictions, transfer pricing disputes can

lead to criminal liability. Some countries have laws

that require certain tax disputes to be referred to

the Public Prosecutor if no resolution has been

reached by the end of an audit. In France, for

example, the French tax administration must report

to the Public Prosecutor a case that led to the

application of certain tax penalties in a tax

collection notice at the end of the tax audit phase.

While Italian law generally provides that transfer

pricing matters (valuation matters) do not have a

direct criminal impact if the taxpayer discloses its

transfer pricing policy, criminal ramifications are

almost automatic in cases involving deemed

permanent establishment challenges because

Italian tax authorities must report such cases

(omitted tax returns) to the Public Prosecutor. In

such jurisdictions, settlement during the audit can

mitigate criminal risk. Other jurisdictions, like

Spain, require fraudulent intent to trigger criminal

liability in transfer pricing cases. Generally, the

fraudulent intent requirement cannot be met and,

therefore, these cases have no criminal impact.

In some other jurisdictions, the possibility exists to

reach out-of-court settlements through alternative

dispute resolution mechanisms. In Mexico,

taxpayers may file for tax settlements before the

Mexican Tax Ombudsman ("Prodecon"). Prodecon

acts as a facilitator between the Mexican tax

authorities and the taxpayer. This procedure is

called "conclusive agreement" and is available for

taxpayers only during the audit stage.

The

ongoing audit is suspended when the taxpayer

files the adoption of the conclusive agreement.

The conclusive agreement, once executed, cannot

be challenged either through the filing of any

remedy or through the filing of a MAP in terms of

the corresponding double tax convention.

Although the procedure does not provide

protection for other open years, when the business

model remains the same during the following

years, audits may be triggered in connection with

Taxpayers are entitled to request the adoption of a

conclusive agreement at any moment during the audit

and within the 20 days following that in which the final

audit minute is concluded or the letter of observations is

those years in order to include them in the

conclusive agreement procedure, thereby

achieving a multi-year settlement.

Finally, the introduction of alternative disputes

resolution techniques within the MAP process may

be a way to enhance the use of the MAP process.

These techniques may expedite the MAP process

and make it more efficient and final. Perhaps, the

most widely discussed form of these alternative

techniques in the tax area is arbitration. However,

the decision-making authority granted under

arbitration procedures is something that

governments in many jurisdictions are not willing

to give away because they view the taxing faculty

as a sovereign right that cannot be left in the hands

of non-government officials.

C. Post-Audit Settlement

Opportunities Short of Litigation

If a taxpayer cannot resolve all of its transfer

pricing issues during the audit, it must determine

whether any post-audit dispute resolution forums

are available or whether it must proceed to

litigation. The availability of post-audit dispute

resolution forums will vary by jurisdiction. In the

United States, for example, these post-audit

resolution forums are quite developed

In the United States, a common dispute resolution

forum to resolve transfer pricing disputes, short of

litigation, is IRS Appeals. Appeals is an

independent office of the IRS ─ separate and

distinct from the examination function. Appeals

seeks to “resolve Federal tax controversies without

litigation on a basis which is fair and impartial to

both the Government and the taxpayer.”

Appeals

serves a quasi-judicial function by weighing the

available evidence in light of the applicable law to

negotiate a hazards-of-litigation based settlement.

To proceed to Appeals, the taxpayer must request

notified, provided that the tax inspector has qualified the

corresponding facts and omissions.

IRM 8.6.1.1.1(2) (July 1, 2020).

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consideration by Appeals and, in most cases, file a

written protest.

Appeals proceedings are not public, take less time

than litigation, and are not subject to the factual

discovery that often comes with transfer pricing

litigation. Thus, taxpayers often consider taking

U.S. transfer pricing disputes to Appeals before

deciding to litigate. If a taxpayer tries to settle a

transfer pricing case with Appeals, it still has the

option to proceed to litigation should the Appeals

process fail.

If a taxpayer wants to go to Competent Authority

(“CA”), it must do so within 60 days of the

conclusion of the Appeals Conference.

Accordingly, a taxpayer may consider going

directly to a MAP, which may be more efficient

although more time consuming.

For most taxpayers, the ultimate goal is a favorable

settlement of transfer pricing disputes without

having to proceed to litigation. However, for

certain transfer pricing issues, a reasonable

settlement may be impossible short of trial. In such

cases, the taxpayer may choose to skip Appeals

and proceed directly to court. In making this

determination, taxpayers should consider

the following:

• Whether the taxpayer’s issue presents a

new interpretation of existing transfer

pricing law or a similar issue already

considered by the courts;

• The likely outcome of pending transfer

pricing cases and their impact on the

taxpayer’s issue;

• The taxpayer’s prior experience at Appeals

and whether it has been able to

successfully negotiate transfer

pricing settlements;

• An assessment of the climate at Appeals

based on the experience of other

Reg. §601.106(a)(1)(iii); IRM 8.1.1.3(6) (Apr. 4, 2014). All

section references herein are to the Internal Revenue

Code of 1986, as amended (the “Code”), or the Treasury

regulations promulgated thereunder, unless otherwise

indicated.

taxpayers in the same industry or region

with similar transfer pricing issues;

• Whether the taxpayer prefers to keep its

dispute in a non-public forum; and

• To the extent the taxpayer’s transfer pricing

issue continues for multiple years, the

impact of facts in later years on the current

case. Are the facts in later years more or

less favorable?

Other jurisdictions also offer an administrative

appeals option but may require that the tax be

paid in advance. For example, in Spain, once the

STA issues the tax assessment and the taxpayer

signs it in disconformity, the resulting tax needs to

be paid or suspended through provision of a bank

guarantee. Then two possibilities appear prior

to litigation:

• Appeal before the Central/Regional

Administrative Court: This is an Economic-

Administrative procedure, which ends with

a resolution and not with a judgement. If

the taxpayer's position is not accepted, the

litigation process can continue through

the courts.

• Starting a MAP (if applicable): This

suspends the administrative proceeding

until the MAP is concluded.

D. Competent Authority

At the end of an audit, the transfer pricing

adjustment imposed by the local tax authority may

also have tax consequences in a treaty jurisdiction

that could result in double taxation. In such

circumstances, the taxpayer may seek to have the

issue settled through a MAP. Most income tax

treaties contain an article that provides for a MAP

and arbitration access. The MAP article authorizes

designated officials of the treaty partner

governments (the “CA”) to resolve any cases of

double taxation or other disputes arising from

differing interpretations or applications of the

Historically, Appeals Conferences were ex parte. Now

the IRS has encouraged the audit team to participate in

the settlement negotiations. The taxpayer must consider

the past relationship with the audit team to determine if

it makes sense to participate.

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treaty provisions by their tax administrations.

As a

principle, the conclusion of a tax settlement should

not prevent MAP access for elimination of double

taxation. However, in practice, certain local tax

authorities — for instance, the French tax

administration — may request, as part of settlement

negotiations, that MAP access be given up. For a

detailed discussion of MAP and arbitration

proceedings, please see III., below.

E. Transfer Pricing Litigation

Taxpayers use the settlement options above (see

I.B. and I.D.) to avoid litigation. While some

taxpayers choose to litigate transfer pricing issues,

other taxpayers are forced into litigation as the

only available option to resolve a transfer pricing

dispute. Regardless of jurisdiction, transfer pricing

litigation has several common themes. First, the

filings and proceedings are public in most

jurisdictions. In today’s environment, transfer

pricing cases may be followed not only in the tax

press, but also by the mainstream press and non-

governmental organizations focused on tax issues.

This publicity can create significant reputational

risk with both the public at large as well as other

tax authorities. Second, litigation is expensive.

Transfer pricing litigation is factually intensive and

complicated. Finally, litigation takes a long time. In

many jurisdictions, it can be several years after a

case is filed before it actually proceeds to trial, and

after trial, it can take a few more years before the

taxpayer receives the court’s decision. Even after

receiving the trial court’s decision, there can be

several more years of appeals before a final

decision is reached.

In transfer pricing litigation, taxpayers usually have

a key advantage compared to the tax authority

because the taxpayer possesses the facts (subject

to application of retention rules to be carefully

managed), as well as extensive internal and

external resources. Historically, the tax authority

has been at an information and resource

disadvantage. Tax authorities attempt to combat

this information disadvantage through various

means now at their disposal, including exchange of

information, CbCR, information gathered from

In the United States, taxpayers can skip Appeals and

go directly to the CA through MAP.

third parties, and even tax raids in certain

jurisdictions. In some jurisdictions, the tax authority

has an advantage because taxpayers bear the

burden of proof. In the U.S. Tax Court, for example,

taxpayers must prove that the IRS’s transfer pricing

adjustment is arbitrary, capricious, and

unreasonable. Once this threshold is satisfied, as a

practical matter, the taxpayer must demonstrate

that its existing pricing or an alternative pricing

arrangement satisfies the arm’s-length standard

and produces a more reliable result than the IRS’s

determination. Rules governing burden of proof,

however, vary by jurisdiction. For instance, in

France, the French tax administration must

demonstrate the existence of an undue benefit to a

foreign affiliate and to assess it. If, however, such

indirect transfer of profits has been characterized,

the burden of proof then shifts, and the taxpayer

must demonstrate that the transaction was

arm’s length.

Before initiating litigation, the taxpayer should

choose the appropriate forum, if possible. While

many jurisdictions, including France, do not allow

the taxpayer to choose the litigation forum, others

do. In the United States, for example, taxpayers

can litigate federal civil tax cases in the Tax Court,

federal district court, or the Court of

Federal Claims.

F. Forum Selection Considerations

Where taxpayers have the opportunity to select a

litigation forum, there are several factors taxpayers

should consider to inform this decision. First, does

the forum require the taxpayer to first pay the

proposed tax deficiency or can the taxpayer

litigate without making a payment? In the United

States, the Tax Court is the only forum in which a

taxpayer does not have to pay the proposed tax

deficiency before docketing the case. In contrast,

the taxpayer must fully pay the tax and then file a

refund claim to litigate a transfer pricing dispute in

federal district court or the Court of

Federal Claims.

Taxpayers should also understand how and when

interest is calculated. If the taxpayer can litigate its

transfer pricing dispute in U.S. Tax Court or a non-

See §7422(a); see also §6511, §6532.

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U.S. court that similarly does not require a

payment, taxpayers need to understand whether

interest on the proposed deficiency will continue

to accrue. In U.S. Tax Court, even though the

taxpayer need not pay the deficiency to litigate,

interest accumulates on any unpaid deficiency

while the case is pending in the Tax Court or on

appeal from the Tax Court.

Another important consideration in forum

selection is the existence of favorable or

unfavorable precedent. Taxpayers should examine

all cases potentially relevant to their transfer

pricing dispute to determine the optimal forum.

Taxpayers should also consider the impact of no

precedent in their forum selection decisions.

The location of the trial can be another strategic

consideration. In U.S. Tax Court, taxpayers have

some flexibility to choose the city in which the trial

will occur.

Taxpayers may be able to use this

flexibility strategically. A district court trial offers

less flexibility and generally takes place in the

district in which the corporate taxpayer has its

principal office or place of business.

See §6601, §6621.

See Tax Ct. R. 140(a).

The decision maker and their technical expertise is

a final consideration. Some courts allow for both

jury trials and bench trials while others are limited

to bench trials. In the United States, there are no

jury trials in Tax Court or the Court of Federal

Claims, but a district court has both jury and bench

trials. Tax Court judges handle only tax cases and

tend to have considerable experience handling

complex tax issues. Judges in the Court of Federal

Claims and district court, however, hear a variety of

cases and may have limited experience with tax

cases. Depending on the nature of the taxpayer’s

transfer pricing dispute, the taxpayer may prefer a

decision maker with more or less substantive

tax experience.

See 28 U.S.C. § 1402.

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II. APAs: A Practical Way to

Prevent Transfer Pricing Disputes

By Eric Torrey and Jessica Eden

While many in the field of transfer pricing are

familiar with the concept of APAs, the pace of

developments in the area has been swift. Given the

nature and scope of change in this field, it is worth

revisiting the area and weighing the recent

developments because many are yielding (or are

expected to yield) favorable improvements to the

process of obtaining an APA.

A. Overview of APAs

An APA is the outcome of a process that taxpayers

pursue voluntarily with one or more tax authorities.

The APA that results from such a process ultimately

gives taxpayers and tax administrations advance

certainty related to the transfer pricing matters

covered by the APA. More specifically, an APA

determines the transfer pricing, in advance of the

relevant covered transactions, through an agreed

set of criteria (e.g., method, comparables, critical

assumptions), over a fixed period of time.

There are three forms of APAs:

• Unilateral APAs, which are APAs involving

a taxpayer and a single jurisdiction solely

under domestic law and, only provide

transfer pricing certainty in a single

jurisdiction (and then only if the jurisdiction

of a counterparty does not raise any

transfer pricing adjustments pertaining to

the covered transactions).

• Bilateral APAs (“BAPAs”), which are APAs

involving two jurisdictions that are party to

an applicable bilateral tax treaty and

provide transfer pricing certainty in both

jurisdictions pertaining to the covered

transactions. BAPAs are typically

Para 4.134 TPG 2022

negotiated between the two countries’ CAs

and are generally implemented

domestically through an agreement

between the relevant taxpayers and

each CA.

• Multilateral APAs, which are APAs involving

more than two jurisdictions and provide

transfer pricing certainty in each of the

jurisdictions involved in the process.

However, multilateral APAs typically

require significantly more coordination,

resources, and time compared to unilateral

or BAPAs.

B. Trends in APAs

Transfer pricing disputes are among the most

difficult, time-consuming, and expensive

controversies that arise in tax. With the growing

complexity of the global tax environment and a

rapid increase in global transfer pricing

controversy, APAs are becoming more popular

among taxpayers and tax administrations as an

effective tool for dispute resolution and

prevention. For example, according to the 2021

APA Annual Report from the U.S. Internal Revenue

Service ("IRS") Advance Pricing and Mutual

Agreement ("APMA") Program, the number of APA

applications increased by about 20% from 2020 to

2021. Of this total application pool, about 83%

were bilateral applications. In 2021, APMA’s staff

also increased by about 21% in order to handle the

increasing number of transfer pricing cases. In a

March 2022 statement, the acting director for

APMA, Nicole Welch, stated that the IRS would

prioritize hiring additional employees for the

transfer pricing program and ramp up

engagements with U.S. bilateral tax treaty partners

in person that were suspended as result of the

Covid-19 pandemic. Similarly, according to the

European Commission’s Statistics on APAs in the

EU, the total number of APAs in force increased

from 1,041 (intra-EU) and 593 (EU/non-EU) in 2019

to 1,312 (intra-EU) and 839 (EU/non-EU) in 2020,

representing growth rates of 26% and 41%,

respectively.

The comparable profits method/transactional net

margin method (“CPM/TNMM”) remained the

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dominant transfer pricing method applied in APAs.

For example, for 2021, APMA’s APA Annual Report

shows that the CPM/TNMM applied to 85% of the

tangible and intangible property transactions, and

the operating margin (i.e., the ratio of operating

profit to sales) was still the most common profit

level indicator (“PLI”) used to benchmark results

(65% of the time) while the other PLIs such as the

Berry ratio (i.e., the ratio of gross profit to

operating expenses) and return on total costs

made up the remaining 35%. For service

transactions, the vast majority (90%) also used the

CPM/TNMM.

On September 28, 2022, the OECD released the

first ever Bilateral Advance Pricing Arrangement

Manual (“BAPA Manual”), which was a follow-up to

the inaugural Tax Certainty Day discussions where

all stakeholders (tax policy makers, tax

administrations, business representatives and

other stakeholders) agreed that APAs were an

effective tool for providing advance transfer

pricing certainty. The BAPA Manual reiterates the

best practice from the BEPS Action 14 Final Report

that jurisdictions without BAPA programs should

implement these as soon as they have the capacity

to do so because BAPAs provide a greater level of

certainty for both treaty partner jurisdictions,

lessen the likelihood of double taxation, and may

prevent transfer pricing disputes. The BAPA

Manual recognizes that stakeholders have

identified obstacles that prevent an optimal use of

BAPAs, which leads to these being underutilized in

many jurisdictions. Accordingly, the BAPA Manual

was developed as a guide for streamlining the

BAPA process, providing tax administrations and

taxpayers with information on the operation of

BAPAs, and identifying 29 best practices for an

effective and streamlined BAPA process, with an

aim to reduce the average time to complete a new

BAPA to 24 months for simpler cases and 30

months for more complex cases.

As tax administrations and the OECD continue to

invest in APA programs by increasing staffing and

other resources, and as global transfer pricing

controversy continues to rise, APAs continue to be

an excellent forum for preventing and resolving

transfer pricing issues (particularly the more

Para 4.134 TPG 2022.

challenging ones) and provide tax certainty

to taxpayers.

C. APAs Versus Alternative Dispute

Resolution Mechanisms

APAs can be a useful tool to prevent transfer

pricing disputes. As the OECD Transfer Pricing

Guidelines (“OECD TPG”) notes "APAs are

intended to supplement the traditional

administrative, judicial and treaty mechanisms for

resolving transfer pricing issues. They may be most

useful when traditional mechanisms fail or are

difficult to apply …. APAs provide a greater level of

certainty in both treaty partner jurisdictions, lessen

the likelihood of double taxation and may

proactively prevent transfer pricing disputes."

A key benefit of the APA process as compared to

the traditional administrative inquiry process is the

taxpayer's ability to control the development of the

factual and technical narrative. The APA process

provides greater ability for the taxpayer to focus

the attention of the tax authorities on the most

critical issues to reach resolution. By contrast,

factual and technical development in Tax

Authority-led inquiry processes often digresses

into areas that are ultimately determined to be of

little significance in resolving the matter. This is

also a benefit of APAs over MAP processes,

discussed in III., below, which tend to follow tax

authority-led inquiry processes and so can suffer

from the same convolution of the facts and key

technical issues.

BAPA processes with two CAs also hold a

significant advantage, as compared to unilateral

APA processes involving only one tax authority, of

the natural hedge created by the interests of the

respective tax authorities in a bilateral process.

Where the views of one authority are aligned with

those of the taxpayer, the weight of another Tax

Authority's interpretation can be beneficial in

pushing back on more unusual views on the

guidelines or case interpretation. By contrast,

unilateral APAs are not binding on the other state

tax authority and so have limited benefit in

removing double taxation if the authorities have

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differing views on the appropriate level of reward

in each state.

While APA processes require upfront investment

and can sometimes take a number of years to

negotiate, ultimately a negotiated outcome should

be achievable far in advance of a transfer pricing

dispute resolved through normal administrative

inquiry processes, which may potentially lead to a

MAP or even litigation. Reducing the time taken to

resolve differences in views invariably reduces the

cost, both in monetary and resourcing terms, to

resolve the dispute.

D. Benefits of APAs

In most jurisdictions, an APA will cover a multi-year

prospective period. However, as it can often take

several years to negotiate an APA (particularly on a

bilateral or multilateral basis), the APA agreement

will typically also cover several past years in

addition to the multi-year prospective period.

Once an APA has been signed, subject to meeting

the critical assumptions for the APA to remain valid

and in place, it will provide certainty on the

prospective transfer pricing and avoid future audits

on the covered issues for the term of the

agreement. If facts and circumstances remain

substantially the same, taxpayers could typically

apply for an APA renewal to cover additional future

years through an expedited, less costly, process.

Importantly, as part of the process of agreeing to

an APA, the taxpayer will have a proactive role in

presenting both the facts and proposed transfer

pricing. This can be a significant advantage over

MAPs which take place after an audit process and

in which the taxpayer's involvement can be much

more limited depending on the jurisdictions

involved. The APA application process is the key

opportunity for the taxpayer to ensure both

authorities understand the factual narrative and

technical issues involved.

Where, as is often the case, an APA involves a

novel transaction or difficult analysis, the BAPA

process ensures that both Tax Authorities are

required to consider the position from the other’s

viewpoint, providing greater opportunity for a

balanced outcome even in the most complex

of cases.

Agreeing to an APA may avoid the need for

comprehensive transfer pricing documentation for

the APA term. The OECD Transfer Pricing

Guidelines recognize that the existence of an APA

should reduce documentation requirements for

the term of the APA. This can provide an

administrative cost saving. However, the existence

of this benefit will depend on the specific

documentation rules in the relevant local

jurisdiction. For example, the United Kingdom is in

the process of introducing minimum transfer

pricing documentation requirements to include the

Masterfile, local files, and Summary Audit Trail

(SAT) report. There has been no suggestion to

date that these new documentation requirements

will be overridden by the existence of an APA.

Finally, it is worth noting that the process of

agreeing to a BAPA requires open and transparent

engagement that can ultimately help in

strengthening the relationship between the

taxpayer and relevant Tax Authorities involved.

This can be useful not only in other dealings with

those authorities, but also from a public relations

perspective, in demonstrating the significance the

taxpayer places on cooperative compliance.

E. Is an APA Right for Your Fact

Pattern?

As with most things in life, there is no single

answer that is right for everyone and the same is

true when it comes to deciding whether pursuing

an APA is right for your organization. Every

organization is unique in some way and has its own

facts and circumstances that have to be weighed

individually when making such a decision,

however, there are a number of factors common to

many organizations that we will consider here.

One of the most frequently considered factors is

whether the transactions and/or entities are the

subject of frequent and recurring transfer pricing

audits and disputes. In cases where controversy is

a certainty (or a near certainty), there is a lot to be

gained from pursuing an APA because it will allow

the resolution to be applied to a much greater

number of taxable years, including future years,

where audit and MAP resolutions are likely to

address only the cycle in question. Additional filed

years may also be addressed if the treaty partners

in question allow for an accelerated CA procedure

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(“ACAP”), which extends the resolution to filed but

not yet audited tax years. However, unlike an APA,

ACAP does not extend beyond filed years, nor

does it provide protection against transfer

pricing penalties.

Other circumstances where an APA is frequently

beneficial is where the transaction is expected to

be scrutinized and challenged under audit (e.g.,

hard-to-value intangibles). For some jurisdictions,

even relatively routine transactions are challenged

(e.g., routine distribution) on the basis that there is

some form of local intangible that warrants greater

compensation than what is set out in the transfer

pricing documentation.

It is important for taxpayers to approach the APA

process with the right mindset. The APA process is

normally a voluntary process offered at the

discretion of the tax authorities involved. Tax

authorities often expect that taxpayers seeking an

APA do so for the purposes of resolving or

avoiding double taxation and achieving certainty,

and that they will be more forthcoming with

information and more collaborative than they

might otherwise be in an audit context. Inflexible

taxpayers motivated purely by tax minimization are

less likely to be accepted into the process and, if

they are accepted, less likely to be pleased with

the outcome.

Not all transactions are suitable for APAs. While

different tax authorities have different criteria for

determining whether a taxpayer and/or transaction

is suitable for consideration, there are some more

common factors suggesting that an APA may not

be ideal. These include simple or easily-

benchmarkable transactions where there is little or

no risk of controversy, one-off transactions (e.g.,

sales of machinery and equipment for use in a

manufacturing process), transactions that are of a

nature where resolution through an APA or MAP

process is unlikely (e.g., cases where litigation may

be a preferable means for resolving controversy

should the transaction be challenged), or where a

particular tax authority's views are inconsistent with

Multilateral APAs can be even more powerful than

BAPAs. While the multilateral APAs are gaining more

prominence, they still comprise a fraction of BAPAs

the OECD's guidance, which could lead to an

inability to reach a resolution.

Other factors to consider include the time and cost

for both internal resources and external advisors to

support the taxpayer through an audit/MAP

process as compared to the time and cost

associated with an APA. While pursuing an APA

could be as resource intensive as one audit/MAP

cycle, the APA process is often more time and cost

effective than dealing with repeated audit cycles.

APAs are generally also less contentious and more

collaborative than audits and, as previously stated,

should reduce the compliance burden for the

remaining term of the APA.

F. Best Practices for a Successful APA

An APA ─ particularly a BAPA

─ can be a very

powerful tool to address recent, unaudited years,

and to provide tax certainty for several years into

the future. However, as previously discussed, it can

also be an expensive, resource-intensive, and-time

consuming endeavor. Fortunately, there are certain

best practices that can mitigate some of these

pitfalls while also maximizing the likelihood of

success. To introduce what we consider to be best

practices for an APA, it is helpful to first define a

successful APA.

A successful BAPA is one in which the CAs reach a

resolution on all of the proposed covered

transactions. This provides tax certainty,

guaranteeing that there will be no double taxation.

But from the taxpayer’s perspective, the most

successful APAs share other attributes: they are

negotiated quickly, provide a reasonably long

term, and reach a resolution that closely adheres to

what is proposed in the APA request. An APA

request should aim to increase the likelihood of

these objectives

An APA request is a taxpayer's opportunity to

explain its business and its transactions to an

unfamiliar but savvy audience. In contrast to the

audit team, in most jurisdictions the CA will have

no prior experience with, and therefore no

expectations of or biases towards, the taxpayer.

given the complexity of adding a third (or more) CAs.

Accordingly, this discussion will focus on BAPAs.

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Furthermore, in most jurisdictions the CA is staffed

by more experienced transfer pricing professionals

than those that handle audits. This is particularly

the case for less sophisticated tax authorities. Thus,

it is a unique opportunity to not only explain the

facts and circumstances of the business and

transaction but also motivate why a particular

transfer pricing approach is most appropriate. It is

usually a best practice for taxpayers to have

informal or formal discussions with the CAs before

submitting an APA request (e.g., pre-filing

conferences), even if these are not required by the

particular jurisdiction. These discussions often

provide useful feedback and insights from the CAs

that could inform an optimized strategy for

preparing a good APA request.

A good APA request is one which describes the

relevant industry, the particular business, and the

corresponding transactions in a clear and concise

way. The language should avoid insider jargon; on

the contrary, the drafting should reflect that the

reader will be a layperson. Consistent with the

BEPS project and the OECD TPG, the APA request

should inform the reader as to the full supply and

value chains, with particular emphasis on the

corresponding role of the parties to the subject

transactions. A well-written functional and industry

analysis will not only provide sufficient context and

foundation to understand and evaluate the

covered transactions, it should also provide a

compelling motivation for why the proposed

transfer pricing methodology is most appropriate.

In this regard, there should be sufficient

information in the APA request to inform the key

inflection points for the selection of the most

appropriate transfer pricing method.

A seasoned transfer pricing practitioner could read

the prior paragraph and conclude that these best

practices also apply to transfer pricing

documentation prepared for compliance. There is

some truth to this. A good transfer pricing report is

not one that merely provides the bare minimum to

satisfy local requirements and/or provide penalty

protection. A good transfer pricing report is a

proactive audit defense document, a document

that marshals facts in support of the taxpayer's as-

filed position with the aim to avoid being audited

in the first place. That said, there are still certain

differences between good compliance

documentation and a good APA request. For

example, in compliance documentation it may be

tactically advantageous to not fully discredit

alternate transfer pricing approaches and, instead,

focus more on why the proposed transfer pricing

methodology is most appropriate. This provides

the taxpayer with greater latitude in defending its

as-filed position under audit. In an APA, however, it

may be advantageous to offer full-throated

arguments both in support of the proposed

methodology and against the alternatives. After all,

in contrast to recurring audits or to MAPs, neither

tax authority has pre-existing views of the specific

transactions for this taxpayer, much less a position

they may feel compelled to defend. The APA

request will not only provide the information on

which the CAs establish their view, it also provides

a compelling argument supporting the proposed

agreement. If done right, the proposed agreement

will anchor the negotiation.

A high-quality APA request may require a greater

up-front investment. However, this investment

should pay dividends. The better the APA request,

the less additional information should be required

by the CAs. Naturally, the fewer (and less onerous)

information requests, the less post-request effort

required. In other words, a greater up-front

investment could be more than offset by lower

post-request costs. But arguably, the more

important benefit is a shorter negotiation period

(i.e., a shorter period of uncertainty). This may also

result in a greater prospective term.

To streamline and expedite the APA process, it is

very important for the taxpayers and/or their

advisors to be in regular contact with the CAs in

order to facilitate the review, due diligence,

negotiation, finalization, and implementation of the

APA. Taxpayers should also try to work with the

CAs to agree on a project plan outlining the

timelines for each stage of the process.

If the taxpayer has other affiliates with similar

transactions and fact patterns the value of an APA

can be further compounded. For example,

consider an MNE that owns unique, very valuable

manufacturing technology. This technology allows

it to command significant market share and

generate premium profits. It licenses this

technology to subsidiaries around the world who

manufacture and sell to third parties. This fact

pattern strongly benefits from an APA (e.g., hard-

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to-value intangibles and premium system profits

make the MNE an attractive audit target). But this

fact pattern also would strongly benefit from a

network of BAPAs. After the first BAPA, the

company could reap significant synergies if it

pursued additional BAPAs for its other

subsidiaries. Beyond the obvious synergies in the

APA request itself, there will be synergies in the

negotiations as the CA in the jurisdiction of the IP

owner will already be familiar with the fact pattern

and the transactions. In other words, the

investment in the BAPA for subsequent

jurisdictions should be significantly less than that of

the first. Moreover, the CAs in these other

jurisdictions will often take comfort in knowing that

a prior resolution was reached. This prior

negotiation will also provide comfort to the new

CAs ─ i.e., what I’m agreeing to was also agreed to

by another CA in a subsidiary jurisdiction under

substantially similar fact patterns. The larger the

network of BAPAs, the smaller the investment per-

APA and per-jurisdiction. But, far more importantly,

the larger the network of BAPAs, the greater the

tax certainty for the MNE.

G. Key Questions ─ Survey of

Jurisdictions

The discussion below addresses certain important

questions from the perspective of various

jurisdictions.

The below synthesizes a survey of

seasoned, on-the-ground transfer pricing advisers.

1. What is the Risk that an APA Application

Could Lead to an Audit?

In an APA process, tax authorities expect that

taxpayers will be collaborative and transparent,

sharing detailed information about their

businesses and transactions. After all, this is a

taxpayer-initiated procedure. In light of this,

taxpayers may be concerned that the information

shared could be used to either initiate audits

where none would have otherwise taken place, or

to better identify exposures in ongoing audits. In

Australia, Canada, China, France, Germany, Italy,

Japan, Mexico, the Netherlands, Spain, Switzerland, the

United Kingdom, and the United States.

France is a notable exception of a jurisdiction where

an ongoing APA negotiation does not preclude the

initiating of an audit for a year within the proposed APA

general, an APA application alone should not

increase the risk of audit. This makes sense as it

would seem to be a poor policy for tax authorities

to disincentivize APA applications in this way.

However, an exception could be an increased risk

of audits for recent years that are not within the

proposed APA term. This is why it is generally

recommended that an APA request propose roll-

backs for any open years that have not been

audited, although the availability of this coverage

varies from jurisdiction to jurisdiction.

APAs provide protection against audits insofar as

the guidelines in most jurisdictions

prohibit the

tax authority from initiating audits for years that are

within the proposed APA term. However, in the

event that the CAs are not able to reach resolution

on some or all the covered transactions, or should

the taxpayer reject the outcome or withdraw from

the process, there may be an increased risk of

audit. For example, in the United States, APMA is

required to inform the taxpayer's audit team if

either the proposed APA does not reach resolution

or if they identify an exposure that the APA does

not remedy. While certain jurisdictions bar the tax

authority from sharing information gleaned from

an APA procedure with the audit team (e.g.,

France, Spain, Japan), others make clear that any

information provided during an APA process can

be used in an audit (e.g., Canada). The United

States makes a clear distinction that factual

information can be used as evidence in any

administrative or judicial proceeding (including in

an audit), though non-factual information (if

identified as such) shared in the APA process

cannot be used as evidence in any administrative

or judicial proceeding.

It is worth noting that in certain circumstances,

APAs can be shared with the audit functionto

manage or mitigate existing audits. As noted

above, an APA could be used to prevent an

expected audit from taking place. Moreover, it is

sometimes possible to suspend audits through an

term. Similarly, CA proceedings in Switzerland are

generally conducted independently from the activities of

both the federal and cantonal tax administrations

(although there is a certain amount of coordination

taking place in practice).

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APA. This possibility depends on the jurisdiction

and sometimes is at the discretion of the tax

authority. In general, the likelihood of suspending

an audit is greater if the APA request is filed before

the audit has made significant progress.

2. How Robust Are the Specific Rules and

Guidance for an APA?

As discussed throughout this Special Report, APAs

in general and BAPAs in particular have

proliferated. In this regard it is perhaps not

surprising that many key jurisdictions provide

rather robust rules or guidance for BAPAs. This is

the case for the vast majority of jurisdictions

surveyed. Notable exceptions are Australia (for

unilateral APAs), Mexico and Spain

(comprehensive rules but no guidance), and

Switzerland (no specific legal framework for APAs

which are governed on the basis of the mutual

agreement provisions contained in tax treaties). It

is worth noting that a few jurisdictions have either

recently provided robust rules or guidance for the

first time, or have updated their guidance (e.g.,

Germany, the Netherlands). Furthermore, other

jurisdictions are expected to provide updated

guidance in the near future (e.g., Canada, the U.S.).

3. Ease of Acceptance into the APA Program

For many of the jurisdictions surveyed, acceptance

into the APA program is relatively easy as long as

the procedural and substantive requirements are

met. However, several jurisdictions have additional

barriers to admittance. Some, for example, appear

to reject APA requests that involve transactions

that are either viewed as having a clear tax

minimization purpose or are otherwise

problematic (e.g., Australia, Canada).

Conversely,

other jurisdictions may have a dim view of APA

requests if they believe that the transaction is

either low risk or not significant enough (in

currency terms) to warrant an APA (e.g., the U.K.).

In this instance, tax authorities are generally

fielding an increasingly greater volume of APA

In the United States, APMA recently publicly stated

that it is reevaluating its acceptance criteria and

considering being more selective in their acceptance

process. See, Erin Slowey, “IRS Reevaluating Advance

Pricing Agreement Selection”

requests and, sensibly, they want to obtain the

greatest value from their APA program.

Other jurisdictions may decline admittance into

their APA program when, for example, they deem

the taxpayer has not been sufficiently collaborative

and transparent, they deem the primary objective

of the transaction is tax avoidance, or one of the

parties is in a listed, low-tax jurisdiction (e.g.,

Australia, Canada, China, Germany, Japan, the

Netherlands).

It is worth noting that being accepted into a BAPA

process by both jurisdictions does not necessarily

guarantee that the CAs will reach an agreement.

But there are instances where acceptance does

guarantee an agreement. For example, the U.S. -

Germany tax treaty calls for mandatory arbitration

should the CAs fail to reach a resolution after two

years after the commencement date of the case,

which is defined as the earlier of i) the date on

which the CAs have exchanged position papers

setting forth their initial negotiating positions, or ii)

two years from the earliest date on which the

information necessary to undertake substantive

consideration for a mutual agreement has been

received by CAs.

4. How Complex is the APA Application

Process?

In general, the APA application process is relatively

straightforward. However, straightforward

applications can still be relatively onerous in terms

of the information required by the taxing

authorities to accept and process the case. In

certain jurisdictions, the taxpayer is in practice

required to participate in a pre-file conference and,

in some instances, provide additional information

or participate in additional pre-file conferences to

address the CA's due diligence concerns before

being invited to apply for an APA (e.g., Australia,

Canada, China, Germany). One benefit of the

recent Covid-19 pandemic is that some tax

Bloomberg Daily Tax Report, (Oct. 6, 2022),

https://news.bloombergtax.com/daily-tax-report/irs-

continues-to-reevaluate-advance-pricing-agreement-

selection.

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authorities now accept digital submissions (e.g.,

the United States).

5. Negotiation Process: Are the Information

Requests Significant and Onerous? How

Rigorous is the Technical Analysis?

In our experience, BAPA processes require

significant information and likely will involve

technical, rigorous analysis. Furthermore, it is not

uncommon for CAs to examine other

intercompany transactions outside of the proposed

scope of the APA to get a better sense of the

overall impact from controlled transactions on the

relevant entity. For example, both Canada and the

United States may request that the scope of the

APA be expanded to cover other transactions

where they are interrelated and are most reliably

evaluated together. Some CAs will also examine

considerations beyond income tax (e.g.,

withholding tax, permanent establishment, anti-

avoidance provisions, characterization

of payments).

Notwithstanding the foregoing, information

requests via the APA program are arguably less

onerous and the process less contentious than

would be faced under audit. Furthermore, and as

discussed in the best practices section, II.F., above,

the scale and breadth of information requests can

be mitigated through a high-quality APA request.

In contrast to audits, APA processes generally

involve more skilled professionals at the tax

authority, which is beneficial to complex, nuanced

fact patterns and transactions, and the

counterweight of another CA that may take a more

sympathetic view of the transaction. During the

APA process, authorities also take into account

OECD guidelines and do not just rely on domestic

laws in the review.

6. Tax Authorities’ Views of Unilateral vs.

Bilateral APAs

Just over half of the jurisdictions surveyed noted a

strong preference for bilateral or even multilateral

APAs over unilateral APAs. This reflects a hesitation

or even unwillingness to commit the time and

resources for a unilateral APA only to have to

revisit the matter under MAP. Likewise, certain CAs

(e.g., the United States) have a strong preference

against a unilateral APA where a tax treaty is in

place because the unilateral APA process prevents

bilateral discourse and negotiation on the covered

issues; in such cases, the treaty partner that is not a

party to the unilateral APA may not agree to

providing any needed correlative relief via MAP

(where required) if they were not a party to those

unilateral discussions and agreement. In these

jurisdictions, the basis for requesting a unilateral

APA often needs to be justified in order to gain

acceptance (e.g., when there is no tax treaty).

The remaining jurisdictions are more receptive of

unilateral APAs. These include China (where

unilateral APAs have been heavily promoted over

the last few years), Italy, Japan, Mexico, Spain,

and Switzerland.

7. What is the Typical Term of an APA?

Many countries have a five-year term (inclusive of

jurisdictions that propose terms of three to five

years). Some jurisdictions are more flexible. For

example, while Canada typically limits the term to

five years at the time of request, given the time

needed to negotiate and conclude APAs, the

Canada Review Agency (“CRA”) will generally offer

to extend the term so that there are at least two to

three prospective years. The United States likewise

prefers that an APA request be filed early enough

so that the proposed APA term covers at least five

prospective years and, like Canada, would seek to

extend the APA term beyond five years in the case

of protracted negotiations to ensure that the APA

continues to offer prospective application. Other

jurisdictions could allow for a term greater than

five years but these are not common (e.g.,

Netherlands - in exceptional cases thereby

requiring a mid-term review).

The availability of rollback years varies. Some

jurisdictions exclude rollbacks altogether (e.g.,

France) or notes that they are at the discretion of

the tax authority (e.g., Germany). China is an outlier

in potentially accepting rollbacks for as many as 10

years. In Japan, rollbacks are not allowed for

unilateral APAs, but can be applicable to bilateral

and multilateral APAs. Canada is the same in that

unilateral APAs are effective as of the first unfiled

tax year at the time the APA is signed and no

rollback to any filed years is permitted. Even years

that are filed while the unilateral APA is under

negotiation are not eligible for coverage under the

unilateral APA.

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8. What is the Likelihood that an APA will be

Revoked or Otherwise Canceled?

There is almost universal certainty in that APAs

cannot be revoked or otherwise canceled

provided the critical assumptions and other terms

of the APA are met, as well as the monitoring and

reporting requirements. One exception is if the

taxpayer does not act in good faith (e.g., purposely

withholding or misrepresenting information

relevant to the APA).

In the U.S., there is very recent case law limiting the

IRS’s discretion to cancel an APA. In late August of

this year, the Sixth Circuit held in Eaton Corp. &

Subs. v. Commissioner

that the IRS had the

burden of proving that there were grounds to

cancel the APAs under generally applicable

contract-law principles and the IRS failed to meet

that burden.

Eaton Corp. & Subs. v. Commissioner, 47 F.4th 434 (6th

Cir. 2022) (reversing the U.S. Tax Court’s determinations

that APAs are administrative determinations that are not

H. Key Takeaway

As tax administrations and the OECD continue to

invest in APA programs by increasing staffing and

other resources, and as global transfer pricing

controversy continues to increase, APAs, and

BAPAs in particular, continue to be an excellent

option for preventing and resolving transfer

pricing issues (particularly the more challenging

ones) and provide transfer pricing certainty to

taxpayers vis-à-vis the covered transactions.

subject to review under contract principles and that an

arbitrary and capricious standard of review applies).

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III. Avoiding Double Taxation –

International Remedies

By Laura Nguyen-Lapierre

A. Overview of MAP and Arbitration

From a treaty perspective, there are two types of

double taxation that may arise:

• Juridical double taxation arises where the

same profit or income is subject to tax in

the hands of the same legal entity for the

same time period by two different

countries. Examples of juridical double

taxation arise in the event of a conflict of

residence, or from an adjustment

regarding the attribution of profits to a

permanent establishment (PE) dealing with

its head office.

• Economic double taxation arises where

two countries tax the same profit or income

in the hands of two legally distinct entities.

It can result from a transfer pricing

adjustment between two associated

enterprises situated in two jurisdictions.

Both juridical and economic double taxation can

be eligible to MAP provided by the applicable

bilateral tax treaty. MAP is provided under Article

25 of the 2017 OECD Model Tax Convention

and

Article 25 of the 2021 UN Model.

In the event of economic double taxation resulting

from a transfer pricing adjustment, Article 9-2 of

the OECD Model Tax Convention (where included

Model Tax Convention on Income and on Capital 2017

(Full Version), OECD Publishing, Paris.

United Nations Model Double Taxation Convention

Between Developed and Developing Countries 2021.

See OECD 2020 Mutual Agreement Procedure

Statistics, https://www.oecd.org/tax/dispute/mutual-

agreement-procedure-statistics.htm (last accessed on

Sept. 22, 2022).

in the applicable bilateral treaty) can provide the

possibility for the Contracting States to eliminate

double taxation unilaterally, without the need to

open a MAP (a similar provision is provided by the

2021 UN Model).

According to available MAP data (OECD

statistics

), a total of 6,478 MAP cases were

pending as of the end of 2020, out of which 3,503

were transfer pricing cases.

Among the 2378 cases closed in 2020, 51% were

concluded with a full elimination of double

taxation or resolution of taxation not in accordance

with the treaty. In 16% of cases, a unilateral relief

was granted and in 7% of cases they were resolved

via domestic remedy.

The average time for transfer pricing cases is 35

months (versus 18.5 months for other cases). As it is

an average, there are disparities among countries,

some being closer to a 2-year time line (e.g.,

Australia, Belgium, Canada, Korea, Netherlands,

Switzerland…) while other have far longer time line

(e.g., 47 months for China, 63 months for India, 41

months for Japan, 59 months for South Africa, 47

months for the US…).

B. Procedural Aspects

Bilateral tax treaties generally provide for the

resolution of disagreements or questions

regarding the interpretation or application of the

treaty, in line with Article 25 of the 2017 OECD

Model or of the 2021 UN Model.

In the below

discussion, we will focus on the MAP and

arbitration procedure as provided by the OECD

Model, unless otherwise specified.

1. MAP Under Bilateral Tax Treaties

The deadline for the submission of MAP requests

under treaties is generally three years from the

date of the "first notification" of the action resulting

Guidance on MAP under the UN Model is developed

in Part 2 of the 2021 “Handbook on Avoidance and

Resolution of Tax Disputes.”

Particular bilateral treaties may depart from the OECD

Model in certain respects, so the applicable treaty

provisions should always be reviewed carefully. In

addition, some countries supplement the general

guidance provided by the OECD with national guidance.

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in taxation not in accordance with the provisions of

the Convention.

Although it is inconsistent with BEPS Action 14, a

few countries have argued that their domestic

statutes of limitations may be applied to preclude

CA consideration even prior to the deadline set by

the treaty. More commonly, countries may take the

position that their domestic statutes of limitations

limit the application of a CA agreement if the treaty

is silent on the matter of deadlines. Others

maintain that this approach is barred by the

standard treaty language providing that, "any

agreement reached shall be implemented

notwithstanding any time limits in the domestic law

of the Contracting States." Given the variety of

interpretations applied, the positions of the

relevant CAs should be confirmed on a case-by-

case basis as early as possible.

Most treaties, in line with the prior OECD Model

(2014), require that the CA process be initiated in

the Contracting State where the person requesting

consideration is a resident, while the 2017 OECD

Model provides that the MAP request must be

presented to the CA of either Contracting State.

This change in the 2017 version was made to

reinforce the general principle that access to MAP

should be as widely available as possible and to

provide flexibility.

As a practical matter, a common practice is to file

the MAP request simultaneously in both States

(some countries require or strongly encourage this

approach).

The MAP is divided into two stages:

• An internal phase, during which the

procedure takes place exclusively between

the taxpayer and the CAs of the State to

which the case was presented. The CAs

make a preliminary assessment of the

taxpayer’s objection and may resolve the

issue without moving beyond the first

(unilateral) stage of the MAP.

See the Communication from the Commission to the

European Parliament and the Council: A Fair and

Efficient Corporate Tax System in the European Union: 5

Key Areas for Action (June 17, 2015).

• A bilateral phase, which is initiated when

the CA initially seized considers whether

the taxation complained of is due, wholly

or in part, to a measure taken in the other

State.

Although the CAs are not required by treaty to

reach a mutual agreement, and treaties do not set

a deadline for the conclusion of such agreements

per se, the BEPS Action 14 Final Report specifies an

average time frame of 24 months as a minimum

standard for the resolution of MAP cases. Statistics

(see III.A., above) show that this time frame is not

the standard for transfer pricing cases in practice

but given the MAP Forum peer review process (see

below, III.D.), it could be hoped that CAs will strive

to reach a resolution within this period, all the

more where mandatory arbitration applies as

described below, in III.B.3.

2. MAP Under the European Directive

On October 10, 2017, the EU adopted a directive

(2017/1852) on tax dispute resolution mechanisms

(“European Directive”), as part of the EU Action

Plan for A Fair and Efficient Corporate Tax System

in the European Union.

The European Directive introduces an effective and

efficient framework for the resolution of tax

disputes concerning the interpretation and

application of tax treaties and conventions. It

builds on existing systems in the EU, including the

European convention of July 23, 1990

(“Arbitration Convention”). However, the scope of

the European Directive is broader than the one of

the Arbitration Convention because it covers

disputes concerning the interpretation and

application of bilateral tax treaties among Member

States and is not restricted to transfer pricing

disputes and adjustments in connection with the

allocation of profits to a PE. Furthermore, the legal

nature of the European Directive makes it a more

powerful legal instrument than the Arbitration

Convention.

The European Directive applies to any complaint,

submitted from July 1, 2019, onward, regarding

Convention on the Elimination of Double Taxation in

Connection with the Adjustment of Profits of Associated

Enterprises (90/436/EEC).

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questions of dispute relating to income or capital

earned in a tax year commencing on or after

January 1, 2018, unless the CAs decide to apply the

European Directive with regard to complaints

submitted prior to July 1, 2019 or to earlier

tax years.

Overview of Procedure

The complaint must be submitted by the taxpayer

within three years from the receipt of the first

notification of the action resulting in, or that will

result in, the question in dispute.

The taxpayer has to simultaneously submit the

complaint with the same information to each CA

and has to indicate in the complaint which other

Member States are concerned.

The European Directive provides for a detailed

time frame for each step of the procedure. Each

CA shall acknowledge receipt of the complaint

within two months from the receipt of the

complaint. Each CA shall also inform the CAs of the

other Member States concerned of the receipt of

the complaint within two months of the receipt.

The CAs of each of the Member States concerned

shall make a decision on the acceptance or

rejection of the complaint within six months of the

receipt thereof or within six months of the receipt

of the additional information, whichever is later.

The CAs shall inform the affected person and the

CAs of the other Member States of their decision

immediately. Within a period of six months from

the receipt of a complaint, or within six months of

the receipt of the additional information,

whichever is later, a CA may decide to resolve the

question in dispute on a unilateral basis, without

involving the other CAs of the Member

States concerned.

Where the CAs of the Member States concerned

accept a complaint, they must endeavor to resolve

the question in dispute by mutual agreement

within two years, starting from the last notification

of a decision of one of the Member States on the

acceptance of the complaint. The period of two

years may be extended by up to one year at the

request of a CA of a Member State concerned to

all of the other CAs of the Member States

concerned, if the requesting CA provides

written justification.

Double taxation is regarded as eliminated if the

profits are included in the computation of taxable

profits in one State only, or if the tax chargeable to

those profits in one State is reduced by an amount

equal to the tax chargeable on them in the other.

Parallel Recourse Under Bilateral Treaties

The submission of a complaint puts an end to any

other ongoing proceedings under the MAP or

dispute resolution procedure under an agreement

or convention that is being interpreted or applied

in relation to the relevant question in dispute.

Other ongoing proceedings concerning the

relevant question in dispute shall end with effect

from the date of the first receipt of the complaint

by any of the CAs of the Member

States concerned.

Denial of Access

A taxpayer may be denied access to the dispute

resolution procedure provided by the European

Directive where penalties were imposed in that

Member State in relation to the adjusted income or

capital for tax fraud, willful default and gross

negligence. Where the commencement of judicial

or administrative proceedings could potentially

lead to such penalties, and if these proceedings

were being conducted simultaneously with any of

the proceedings referred to in the European

Directive, a CA may stay the proceedings under

the European Directive, as of the complaint's date

of acceptance until the date of the final outcome of

those proceedings.

Member States may deny access to the dispute

resolution procedure on a case-by-case basis,

where a question in dispute does not involve

double taxation. In this case, the CA of said

Member State has to inform the taxpayer and the

CAs of the other Member States concerned

without delay.

Articulation with the Arbitration Convention

By effect of the amendment by the protocol

adopted in 1999, the Arbitration Convention has

been automatically extended every five years since

December 31, 2004, unless contracting states

decide otherwise. The European Directive requires

that other MAPs or dispute resolution procedures,

if any, are terminated to benefit from the European

Directive's application. This would exclude parallel

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submissions under the Arbitration Convention and

the European Directive, although there is no

specific provision as of today as to the articulation

between the Arbitration Convention and the

European Directive.

3. Arbitration Under Bilateral Tax Treaties

33 countries

opted in for the introduction of a

mandatory arbitration provision into their

applicable tax treaties through the Multilateral

Convention to Implement Tax Treaty Related

Measures to Prevent Base Erosion and Profit

Shifting ("MLI").

Under the MLI, the mandatory binding arbitration

rules will apply only if both parties to a treaty have

opted in and agree on the procedures to be

implemented.

Irrespective of (and prior to) the application of the

MLI, some bilateral tax treaties also include an

arbitration clause in the event of unresolved

taxation by the CAs under a MAP.

Examples of

such treaties include those between:

• the United States and Belgium,

Based on the OECD Arbitration Profiles as of

September 16, 2022: Andorra, Australia, Austria,

Barbados, Belgium, Canada, Curaçao, Fiji, Finland,

France, Germany, Greece, Hungary, Ireland, Italy, Japan,

Lesotho, Liechtenstein, Luxembourg, Malta, Mauritius,

the Netherlands, New Zealand, Papua New Guinea,

Portugal, Singapore, Slovenia, Spain, Sweden,

Switzerland and the UK. Although not included in the

OECD Arbitration Profiles, Denmark and Namibia chose

to apply Part VI (Arbitration) of the MLI.

The MLI is the result of the work conducted under and

further to the OECD/G20 Base Erosion and Profit

Shifting Action 15. Pursuant to the MLI, if two countries

opted in for the mandatory arbitration clause, this clause

will be introduced in the bilateral convention in force

between these two countries. The text of the MLI is

available here: https://www.oecd.org/tax/treaties/beps-

mli-signatories-and-parties.pdf (accessed on Sept. 22,

2022).

This clause was introduced in the OECD Model by the

2008 update.

Article 24.7 of the USA/Belgium double taxation

convention (“DTC”) signed on Nov. 27, 2006.

Article 26.6 of the USA/Canada DTC signed on Sept.

26, 1980, as amended by protocols through 2007.

• the United States and Canada,

• the United States and France,

• the United States and Germany,

• the United States and Spain,

• the United States and Switzerland,

• France and Germany,

• France and the UK, and

• the Netherlands and the UK.

Where the CAs are unable to reach an agreement

under the MAP phase within two years,

the

unresolved issues can be solved through an

arbitration process, at the request of the person

who presented the case.

The OECD Commentary on Article 25 specifies

that recourse to arbitration is “not automatic; the

person who presented the case may prefer to wait

beyond the end of the two-year period (for

example, to allow the CAs more time to resolve the

case under paragraph 2) or simply not to pursue

the case.”

Article 26.5 of the USA/France DTC signed on Aug. 31,

1994, as amended by the protocols signed on Dec. 8,

2004, and Jan. 13, 2009.

Article 25.5 of the USA/Germany DTC signed on

August 29, 1989, as amended by the protocol signed on

June 1, 2006.

Article 26.5 of the USA/Spain DTC signed on February

22, 1990, as amended by the 2013 protocol signed on

Jan. 14, 2013.

Article 25.6 of the USA/Switzerland DTC signed on

Oct. 2, 1996, as amended by the protocol signed on

Sept. 23, 2009.

Article 25.5 of the Germany/France DTC signed on

July 21, 1959, as amended by the MLI.

Article 26.5 of the UK/France DTC signed on June 19,

2008, as amended by the MLI.

Article 25.5 of the UK/Netherlands DTC signed on

Sept. 26, 2008, as amended by the protocol signed on

June 12, 2013.

In contrast, the 2021 UN Model provides for a three-

year deadline.

In contrast, the 2021 UN Model provides that

arbitration should be requested by the CA of one of the

Contracting States.

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The "Sample mutual agreement on arbitration"

included in Annex to the Commentary on Article

25 provides that the two CAs will each appoint one

arbitrators, within 60 days after the request for

arbitration has been received by both CAs. The

arbitrators will then select a Chair within 60 days

after the date on which the last of the initial

appointments was made.

The OECD Model leaves the mode of application

of the arbitration process to be settled by mutual

agreement. The "Sample mutual agreement on

arbitration" takes as its starting point the “last best

offer” approach, i.e., each CAs is required to give

to the arbitration panel a proposed resolution of

the issue involved and the arbitration panel

chooses between the two proposals which were

presented to it, without including a rationale or any

other explanation of the decision.

In recognition of the fact that in some cases,

especially those which involve complex legal

questions, the CAs may prefer to receive a more

elaborate decision, the "Sample mutual agreement

on arbitration" also provides for an alternative

“independent opinion” process, i.e. the arbitrators

are presented with the facts and arguments by the

parties based on the applicable law, and then

reach their own independent decision which is

based on a written, reasoned analysis of the facts

involved and applicable legal sources. CAs can

agree to use that independent opinion process on

a case-by-case basis.

CAs may adopt a combined approach, adopt the

independent opinion approach as the generally

applicable process with the last best offer

approach as an option or limit themselves to only

one of the two approaches.

As part of the “last best offer” approach, the

"Sample mutual agreement on arbitration"

recommends the following time frame:

• Within 60 days of the appointment of the

Chair, each CA must submit to the

arbitrators a proposed resolution, which

may be supported by a position paper.

• Each CA may also submit within 120 days

after the appointment of the Chair a reply

submission with respect to the proposed

resolution and supporting position paper

submitted by the other CA.

• The arbitration decision has to be

delivered within 60 days after the

reception by the arbitrators of the last reply

submission or, if no reply submission has

been submitted, within 150 days after the

appointment of the Chair.

In case of an alternative “independent opinion”

process, the recommended time frame is as

follows:

• Each CA must provide to the arbitration

panel and to the other CA any information

that it considers necessary for the panel to

reach its decision, within 120 days after the

election for the alternative process.

• Contrary to the "last best offer" approach,

it is expected that one or more meetings of

the arbitration panel and both CAs can be

necessary to discuss the case, and the

person requesting arbitration is entitled to

present a written submission of its position

to the arbitrators and, if the CAs and

arbitrators all agree, to make an oral

presentation during a meeting of

the arbitrators.

• It belongs to the arbitrators to develop the

procedural rules on an ad hoc basis that

govern the “independent opinion”

arbitration process.

• The decision of the arbitration panel has to

be delivered to the CAs in writing within

365 days after the date of the appointment

of the Chair.

The “Sample mutual agreement on arbitration”

suggests that the mutual agreement that

incorporates the solution arrived at should be

completed and presented to the taxpayer within

180 days after the date of the communication of

the arbitration decision.

4. Arbitration Under the European Directive

Where the CAs of the Member States concerned

have not reached an agreement on how to resolve

the question in dispute within the two-year period

(possibly extended by one year), the

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CA of each of the Member States concerned has to

inform the affected person and indicate the

general reasons for the failure to reach agreement.

This phase, which follows the MAP phase, is

referred to as the arbitration phase.

The arbitration phase is divided into three periods:

• The CAs must constitute an Advisory

Commission (consisting of representatives

of both tax authorities concerned and

independent persons of standing) or an

Alternative Dispute Resolution Commission

(providing flexibility in the choice of

dispute resolution methods);

• The latter has to render its opinion; and

• The CAs must reach a final decision.

The Advisory Commission or the Alternative

Dispute Resolution Commission has to deliver its

opinion to the CAs of the Member States

concerned no later than six months after the date

on which it was set up; this period may be

extended by three months.

The dispute resolution process applied by the

Advisory Commission is the "independent opinion"

process. As an alternative to the process applied

by the Advisory Commission, any other type of

dispute resolution process, including the "final

offer" arbitration process (otherwise known as "last

best offer" arbitration), can be agreed by the CAs

of the Member States concerned and applied by

the Alternative Dispute Resolution Commission.

The CAs concerned have to agree on how to

resolve the question in dispute within six months of

the notification of the opinion of the Advisory

Commission or Alternative Dispute Resolution

Commission. The CAs may make a decision that

deviates from the opinion of the Advisory

Commission or Alternative Dispute Resolution

Commission. However, if they fail to reach an

agreement as to how to resolve the question in

dispute, they shall be bound by that opinion.

It should be noted that some countries (e.g.,

France, Germany, Spain) have reserved their rights,

under the MLI reservations, to exclude from

mandatory arbitration pursuant to the MLI any case

that falls within the scope of application of an

arbitration procedure established by the EU, such

as the Arbitration Convention, or the European

Directive, or any subsequent regulation.

C. Articulation with Domestic

Litigation

The possibility of resorting to MAP must be

anticipated because it needs to be articulated with

the strategy adopted within the framework of the

management of the transfer pricing dispute in

order to be fully effective.

For example, although it is not in accordance with

stated OECD principles, tax authorities still may

request that the taxpayer renounces the right to

MAP within the framework of a tax settlement; it

will therefore be necessary for the taxpayer to be

able to determine the cost/benefit balance of a tax

settlement with regard to double taxation which

would not be eliminated.

Moreover, “serious penalties” applied as part of

the tax audit that have become definitive may

prevent access to the MAP.

Finally, a MAP is, in theory, completely compatible

with judicial proceedings. Nevertheless, it is

essential to coordinate the timing of the two

procedures, depending on the objective sought.

For example, the implementation of a MAP may

require the taxpayer to withdraw from the litigation

or waive the benefit of res judicata; or, on the

contrary, the existence of a judicial proceedings

may delay the processing of the MAP, or even

block access to arbitration in the event of a judicial

decision becoming final.

In effect, the submission of the question in dispute

to procedures covered by the European Directive

for instance does not prevent a Member State from

initiating or continuing judicial proceedings or

proceedings for administrative and criminal

penalties in relation to the same matters. Similarly,

the taxpayers may have recourse to the remedies

available to them under the national law of the

Member States concerned. However, where the

affected person has commenced proceedings to

seek such a remedy, the terms of the six-month

period (under which the CAs have to make a

decision on the acceptance or rejection of a

complaint) and the two-year period (under which

the CAs have to endeavor to resolve the question

in dispute) respectively shall commence from the

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date on which a judgment delivered in those

proceedings has become final or on which those

proceedings have otherwise been definitively

concluded or where the proceedings have

been suspended.

For the application of the European Directive,

where a decision on a question in dispute has

been rendered by the relevant court or other

judicial body of a Member State, and the national

law of that Member State does not allow it to

derogate from the decision, that Member State

may provide that:

• Before an agreement has been reached by

the CAs under the MAP on that question in

dispute, the CA of that Member State is to

notify the CAs of the Member States

concerned of the decision of the relevant

court or other judicial body, and that

procedure is to be terminated as from the

date of such notification.

• Before the affected person has made a

request for an Advisory Commission to be

set up, the provisions relating to the

resolution by an Advisory Commission do

not apply if the question in dispute had

remained unresolved during the whole of

the MAP. In this case, the CA of that

Member State is to inform the CAs of the

Member States concerned of the effect of

the decision of the relevant court or other

judicial body.

• The dispute resolution process with the

Advisory Commission is to be terminated if

the decision of the relevant court or other

judicial body was rendered at any time

after an affected person made a request to

set up an Advisory Commission but before

the Advisory Commission or the

Alternative Dispute Resolution Commission

has delivered its opinion to the CAs of the

Member States concerned. In this case, the

CA of the relevant Member State

concerned is to inform the other CAs of the

Member States concerned and the

Action 14 - OECD BEPS,

https://www.oecd.org/tax/beps/beps-actions/action14/

(accessed on Sept. 22, 2022).

Advisory Commission or the Alternative

Dispute Resolution Commission of the

effect of the decision of the relevant court

or other judicial body.

• A careful review of the applicable treaty/EU

provisions and national regulations is

therefore key to ensure an efficient

articulation of international remedies

(bilateral or EU) and domestic procedures.

D. Peer Review Information

The BEPS Inclusive Framework members

agreed on:

• a peer review process to evaluate the

implementation of this standard and

• to report MAP statistics under a newly

developed reporting framework.

The peer review process was launched at the end

of 2016, with 82 jurisdictions to be reviewed in 10

batches and is now completed:

• In stage 1, jurisdictions’ implementation of

the Action 14 Minimum Standard was

evaluated and recommendations were

made where jurisdictions had to improve

in order to be fully compliant with the

requirements under this standard. In

February 2021, the final batch of stage 1

peer review reports were published: based

on OECD data, “Of the more than 1750

recommendations made, about 66% (+/-

1150) relate to deficiencies in tax treaties

with respect to the MAP article. Around

34% (+/- 600) of the recommendations

relate to MAP practices and policies that

are not in line with the

minimum standard.”

• The follow-up of the recommendations was

measured in stage 2 of the process. Stage

2 reports for the 82 jurisdictions that were

peer reviewed in batches 1-10 have been

published from August 2019 until

September 2022. Based on OECD data,

"For the 82 jurisdictions reviewed in stage

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2, many have improved their performance

with respect to the prevention of disputes,

the availability of and access to MAP, the

resolution of MAP cases and the

implementation of MAP agreements.”

IV. Global Trends and

Developments in Transfer Pricing

Controversy

A. Coca Cola─U.S. Controversy

By Marc Levey

The recently-decided Coca Cola case provides an

important model for transfer pricing globally. Not

only does the decision follow OECD principles, but

it lays out, in detail, how to analyze a transfer

pricing matter, prepare transfer pricing

documentation, analyze marketing intangibles,

ensure important legal agreements are properly

executed, and ultimately defend against a transfer

pricing case.

On November 18, 2020, the U.S. Tax Court ruled

that the IRS had not abused its discretion under

§482 when it reallocated more than USD 9 billion

in income for tax years 2007 to 2009 to petitioner

Coca-Cola from its foreign

manufacturing affiliates.

The case is factually straightforward. Below, we

illustrate the relationships among the U.S. parent

company (Coca-Cola), its foreign manufacturing

affiliates (known as “Supply Points”), its local

foreign service companies (“ServCos”), its

independent foreign bottlers, and its “extremely

valuable” intangible assets, including trademarks,

logos, patents, secret formulas, and “the best-

known brand in the world.”

This section and the discussions of Altera, Medtronic,

and Facebook, below, are adapted from a chapter

authored by Marc Levey in Transfer Pricing

Developments Around the World 2022 (2022), 77-83,

with permission of Kluwer Law International.

Coca-Cola Co. & Subsidiaries v. Commissioner, 115

T.C. 145 (2020).

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In applying the transfer pricing method on which

its return position was based, the taxpayer relied

on the terms of an IRS Closing Settlement

Agreement for the years 1987 through 1995 (the

“Closing Agreement”).

Specifically at issue was

whether the court would follow the 10-50-50

apportionment formula for allocating income from

the sale of beverage concentrate to its Supply

Points pursuant to the Closing Agreement. Coca-

Cola followed this formula for years after the

expiration of the Closing Agreement. Coca-Cola

argued that the IRS’s use of a new method ─ the

Comparable Profits Method (“CPM”) ─ was both

inappropriate and misplaced.

The key decision

points in the Coca-Cola case tackle many distinct

transfer pricing topics, as summarized below.

1. Most Appropriate Method

The court determined that the CPM was an

appropriate, reliable, and conservative transfer

pricing method for determining the amounts that

the Supply Points should have paid Coca-Cola for

using its intellectual property. The Tax Court found

that Coca-Cola’s Supply Points were essentially

“wholly-owned contract manufacturers” executing

steps in the beverage-production process, and that

Coca-Cola, rather than its Supply Points, owned

“virtually all the intangible assets needed to

produce and sell” the company’s beverages. In

light of these findings, the court concluded that the

CPM was “ideally suited” to determine Coca-Cola’s

compensation for the use of its intellectual

property because the CPM was capable of

determining an arm’s-length profit for the Supply

Points without reverting to the value of Coca-Cola’s

particular valuable intangible assets. The court

went into extraordinary detail in analyzing the

Supply Points’ Profit and Loss Statement, noting

that its return on assets dramatically exceeded

both the comparable firms reviewed and their

returns on assets by five to seven times their

returns. The court agreed with the IRS that Coca-

Taxpayer would have sought CA relief but had been

turned away by the IRS in anticipation of litigation.

The Tax Court had concluded in an earlier decision

that the taxes were creditable because the taxpayer met

both prongs of the compulsory test. See Coca-Cola Co.

& Subsidiaries v. Commissioner, 149 T.C. 446 (2017).

The court also considered the secondary argument

that the Supply Points owned intangible assets in the

Cola’s appropriate comparable parties for the CPM

analysis were the unrelated bottlers because they

operated in the same industry, with similar

relationships to Coca-Cola, using its items of

intangible property to perform similar functions.

Ultimately, the court found the IRS’s CPM analysis

conservative because the bottlers generally were

entitled to a higher rate of return than the Supply

Points, had less restricted rights, and could be

terminated at will.

The court considered the theories proposed by

Coca-Cola to establish that the Supply Points

owned valuable marketing intangibles, namely,

legal ownership and economic, beneficial

ownership.

The court reviewed the trademark

registrations and found that the Supply Points were

not the legal owners of the trademarks nor

marketing intangibles, citing the lack of adequate

contractual terms. Specifically, the court reviewed

the taxpayer’s legal agreements to determine if the

marketing intangibles were conveyed by contract,

whether the contracts granted specific rights of

ownership interest to the Supply Points or the

contracts made clear that any marketing

intangibles were the property of Coca-Cola. The

court found the contracts provided that the long-

term licenses were terminable at will and did not

grant territorial exclusivity, nor guarantee a supply

of production.

Key points to note here are:

• marketing intangibles to be asserted by a

taxpayer must be established by contract;

• the non-exclusivity and termination at will

of the licenses would not constitute a “sale”

or conveyance under intellectual property

law;

form of “long term licenses.” Citing former Reg. §1.482—

4T(f)(a)(i)(A), which provided in part that the “legal owner

of an intangible pursuant to intellectual property law of

the relevant jurisdiction … or contract terms … will be

considered the sole owner of the respective intangible

unless such ownership is inconsistent with the economic

substance of the underlying transactions.”

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• taxpayers cannot affirmatively use the

economic substance doctrine to assert

marketing intangibles;

• pure advertising is an annual expense and

likely would not constitute brand building

or “non- routine” expenses; and

• the agreements were not economically

sustainable as noted above.

Applying the CPM during audit, the IRS

determined that the ratio of operating profit to

operating assets (“ROA”) for six of Coca-Cola’s

seven Supply Points during the years 2007 to 2009

was between 21.5% and 94%. The interquartile

range of ROAs of Coca-Cola’s independent

bottlers was 7.4% and 3.8%. After the IRS

reallocation of income from the Supply Points to

Coca-Cola, the ROAs of the six Supply Points were

between 34.3% and 20.9%. The Tax Court noted

that these ROAs remained higher than almost 80%

of the manufacturers analyzed by the IRS, which

included Pepsi, Nestle, and other prominent

beverage firms.

2. Three Alternatives Rejected

Coca-Cola proposed three alternative transfer

pricing methods to support its contention that, in

arm’s-length transactions, Coca-Cola’s foreign

Supply Points would receive most of the income

that Coca-Cola derives from foreign markets. The

Tax Court rejected all three, as follows:

Comparable Uncontrolled Transaction (“CUT”)

method found “aggressive” and

“mathematically and economically unsound:"

This method generally compared Coca-Cola’s

Supply Points to fast-food master franchisers such

as McDonald’s. The court identified several flaws in

this comparison, including that beverages and fast-

food products are not similar products nor in the

same general industry or market. Further, the Tax

Court observed that Coca-Cola’s Supply Points did

not have similar long-term contracts, territorial

exclusivity, nor management responsibilities of

fast-food master franchisers. Also, because Coca-

Cola’s analysis did not include data from unrelated

party transactions involving the transfers of

trademarks, secret formulas, and other intangible

property used in producing branded beverage

products, the court concluded that the CUT

method’s reliability was questionable.

Residual Profit Split Method (“RPSM”) found

“wholly unreliable:” The proposed RPSM

involved estimating a value for non-routine

intangibles that Coca-Cola asserted were the

property of the Supply Points. This estimate was

based on capitalized advertising costs less

amortization, rather than on external market

benchmarks nor brand building expenditures. The

court found this estimation method unreliable for

two basic reasons: (1) the lack of consensus about

whether the costs of advertising can be capitalized

into intangible assets, particularly as these

expenditures were annual expenses and not

typically susceptible to capitalization; and (2) these

assets would have no value to an unrelated party

because an unrelated party could not use the asset

without infringing Coca-Cola’s trademarks.

The court also identified several other flaws in the

proposed RPSM. For example, it determined that

the Supply Points were the relevant controlled

taxpayers under the §482 regulations, rather than a

combination of Coca-Cola’s Supply Points and

local foreign service companies. The court also

found that Coca-Cola, not its Supply Points, was

the owner of the intangible assets involved in the

transactions at issue. Regardless, the court found

that it would not be appropriate to exclude the

value of Coca-Cola’s own intangible property

determinations of the relative value of non-routine

intangible property in the RPSM.

Coca-Cola’s unspecified method: Coca-Cola

based this method on the fee structure typically

used to compensate hedge fund managers. The

court determined that the method “does not

remotely resemble any of the ‘specified methods’

for valuing intangibles under the §482 regulations”

because it compensated Coca-Cola only for asset

management services, and not for the use of the

intangible assets.

3. Blocked Income Ruling Reserved

The Tax Court reserved ruling on Coca-Cola’s

argument that Brazilian law would have prevented

Coca-Cola’s Brazilian Supply Points from paying

more than a small fraction of the hundreds of

millions of dollars of additional income that the IRS

determined should be reallocated from the

Brazilian Supply Points to Coca-Cola. The IRS

asserted that under Reg. §1.482(h)(2), the “blocked

income” regulations, the provisions in Brazilian law

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should not be considered when determining an

arm’s-length transfer price.

Coca-Cola argued,

alternatively, that the regulation is inapplicable,

that the regulation’s conditions for taking Brazilian

law into account were met, or that the regulations

are invalid.

Because the validity of the blocked income

regulation is currently before the Tax Court in 3M

Co. & Subs. v. Commissioner, the Court in the

Coca-Cola case decided not to rule on these

arguments until an opinion is issued in the 3M

Case. The 3M Case was fully briefed in 2016 and is

awaiting decision.

Interestingly, these cases will challenge the validity

of the IRS Treasury regulations issued in 1994

which made standards for challenging blocked

income rigorous, if not practically unachievable.

The two pending cases each involve licensing of

intangibles by a U.S. corporation to its Brazilian

affiliates. IRS concedes that Brazilian law limited

the royalties that could be paid, but argues that

these affiliates could pay dividends, which they

could have reported as a royalty increase.

4. Collateral Adjustments Allowed

The Tax Court also allowed two types of collateral

adjustments for the years 2007 to 2009:

• the IRS’s adjustment of Coca-Cola’s losses

under §987 for its Mexico Supply Points

after the IRS reallocated income from the

Mexico Supply Points to Coca-Cola,

and

• reductions or offsets of the royalty amounts

owed by Supply Points to Coca-Cola as a

result of the adjustments, equal to the

amount of dividends these Supply Points

had previously remitted to Coca-Cola to

satisfy their royalty obligations.

Changes to the Brazilian financial regulations effective

2023 will make the blocked income

argument ineffective.

The court rejected Coca-Cola’s arguments and found

that it had jurisdiction to review the adjustment, that the

computation of the adjustment was neither premature

nor dependent on Mexican law, and that the re-

computation was a necessary part of “produc[ing] the

same result that would have occurred if [Coca-Cola] and

For the dividend offsets, the Tax Court rejected the

IRS’s argument that any offset was barred by Coca-

Cola’s failure to file the explanatory statements

required for taxpayers electing dividend offset

treatment for taxpayer-initiated §482 adjustments.

This was the only taxpayer win in the case. The Tax

Court instead found that Coca-Cola substantially

complied with this requirement in the “peculiar

circumstances of this case,” where the explanatory

statements “would have added nothing to the IRS’s

sum of knowledge” about Coca-Cola’s adjustments

and offsets.

5. The Appeal

The day after the opinion was published, Coca-

Cola stated that it was “disappointed with the

outcome,” is considering “potential grounds for its

appeal,” and “intend[s] to continue to vigorously

defend our position.” Accordingly, the next step is

to the Sixth Circuit Court of Appeals. Considering

that Appellate courts typically address errors in the

application of the law or a misrepresentation of the

factual record,

it will be interesting to see the

approach by the Appellant Coca-Cola.

6. Conclusion

What does the Coca Cola case say about the future

of transfer pricing? Of course, any transfer pricing

case is highly fact specific, but there is always a

message to be learned. The Coca-Cola case

highlights the importance of legal agreements.

The starting point to assert that Coca-Cola’s

affiliates possess economically beneficial

marketing intangibles starts with the legal

relationship by and between the respective parties.

The court painstakingly reviewed the Distribution

and/or License Agreements and found that Coca-

Cola’s legal agreements did not support its

argument that the Supply Points possessed non-

routine marketing intangibles.

its Mexican branch had reported income consistently

with the arm’s-length standard from the outset.”

One factual issue is the court’s statement that the

Supply Points did not have similar non-routine

intangibles. One would think this may be different than

what was represented to the IRS in the “old” APA.

This section was prepared with contributions from 17

Baker McKenzie offices.

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Further, the court thoroughly reviewed the Supply

Points’ Profit and Loss Statements. This is typically

done because the easiest way to understand a

party's functional and risk profile is to understand

how they spend their money. This was most

relevant in the court's consideration of the

marketing intangible issue.

The clear message here is to pay close attention to

your legal agreements and whether your transfer

pricing policy is closely aligned with them. OECD

Action Items 8 to 10 also make this point clear.

B. Global Transfer Pricing Cases

By Caroline Silberztein and Jetlira Kurtaliqi

Transfer pricing controversies are increasing in

number, complexity and amounts at stake, all over

the globe. Several factors contribute to this

phenomenon. First, the global transfer pricing

framework has become more sophisticated with

detailed OECD and domestic guidance being

issued on topics such as business restructuring,

intangibles, and financial transactions. Second, tax

authorities have increased capabilities including

access to tools and databases. In many countries,

dedicated audit teams that are specifically trained

in transfer pricing and international tax matters

have been set up. Further, fiscal pressure and

governments' need for extra revenues, combined

with the perception of transfer pricing being an

This section was prepared with contributions from 17

Baker McKenzie offices.

For instance, in France, a transfer pricing case will be

automatically denounced to the public prosecutor where

the total amount of reassessed taxes exceeds EUR

100,000 and one of the following penalties is applied:

the 100% penalty for opposing a tax audit, the 80%

penalty for abuse of law, hidden activity, fraudulent

manoeuvres, undisclosed accounts and profits derived

from criminal offences; or the 40% penalty for wilful

neglect and abuse of law when at any time during a six-

year period the taxpayer has already been subject to a

40%, 80% or 100% penalty.

area of aggressive tax optimization, lead to closer

scrutiny and more in-depth assessments.

Many tax administrations start challenging transfer

pricing methods by focusing on controversies

involving the burden of proof, the selection of

reliable comparables, management fees and

royalties. As they become more sophisticated, they

tend to challenge the functional analysis presented

by the taxpayer and the resulting selection of the

most appropriate method, with possible structural

effects on the taxpayer's business model in cases

where they disregard the identification of the risk

taker or entrepreneur. They also tend to tackle

issues on business restructurings, intangibles

valuation and financial transactions.

With the media and political attention on the BEPS

project and the perception of transfer pricing as

being an area of aggressive tax optimization,

controversies emerge from the interaction

between transfer pricing and anti-abuse measures.

In several countries, transfer pricing cases can have

criminal ramifications.

Further, new stakeholders

appear, as transfer pricing challenges may result

not only from tax audits, but also from complaints

lodged by employee representatives

or even by

competitors or the civil society (as the latter can

bring alleged non-adherence to the OECD TPG

before National Contact Points under the OECD

Guidelines for Multinational Enterprises).

This section focuses on transfer pricing

controversies that have been brought before tax

courts in recent years. The majority of transfer

pricing controversies are still settled at the pre-

litigation level, although the proportion varies from

country to country. For instance, in China, cases

As an example, in 2016, McDonald's France employee

representatives filed a complaint for "organized tax fraud

laundering" that related to the group's transfer pricing

policy regarding royalties paid by McDonald's France to

a Luxembourg associated entity. The procedure ended

on June 16, 2022, when the Paris Judicial Court

validated a CJIP (judicial public interest agreement)

signed between the French Financial Public Prosecutor

and several French companies of the McDonald's group

for which the sum of the duties and penalties due under

the global settlement and the public interest fine

amounted to more than EUR 1 billion.

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are typically resolved through settlement

arrangements with SAT China, as taxpayers worry

that tax litigation may damage their public image.

In the Netherlands, the majority of cases are

settled pre-litigation. By contrast, in India,

settlements are not the norm and transfer pricing

litigation is abundant. That being said, a general

trend toward greater reliance on courts is

observed globally. The increase in transfer pricing

adjustments leads taxpayers to need principled

solutions, especially for recurrent transactions, and

settlements. For instance, in Belgium, it is

estimated that while six or seven years ago, 95% of

transfer pricing controversies were settled pre-

litigation, this proportion would be closer to 85%

today.

1. Scope of Transfer Pricing Litigation

Recently, the Polish and Spanish courts have

addressed the question of when transfer pricing

analysis applies.

The Polish Provincial Administrative Court in

Poznań

characterized the free-of-charge

redemption of shares as a transaction subject to

transfer pricing regulations and documentation

requirements. In justification of its position, the

court referred to a broad definition of the

controlled transaction concept covering all

economic activities. According to the court, the

introduction of a relatively broad definition of a

controlled transaction is intended to include

arrangements that may not be considered

transactions in the common sense of the word,

such as restructurings, cost sharing agreements,

partnership agreements, cooperation agreements,

or liquidity management agreements,

among others.

The Polish Supreme Administrative Court

also

ruled that a free-of-charge guarantee is a

transaction subject to transfer pricing regulations

and documentation requirements, confirming that

a broad definition of the controlled transaction

Provincial Administrative Court in Poznań, Case No. I

SA/Po 454/20 (Nov. 17, 2020).

Supreme Administrative Court, Case No. II FSK 1475/19

(Feb. 3, 2022)

Sara Lee Southern Europe SL, Supreme Court of

Spain, Case No. 3730/2020 (Nov. 3, 2020).

concept should be adopted, covering all

economic activities.

In Spain, other legal principles, such as tax fraud,

may supersede transfer pricing rules. The Supreme

Court of Spain illustrated this approach in its Sara

Lee Southern Europe SL decision

Sara Lee

Southern Europe SL acquired from a French

related entity some shares of various loss-making

related companies through intragroup loans to

finance these acquisitions. Consequently, the

Spanish taxpayer deducted the financial expenses

of the loans received and the impairment losses of

the shares acquired. In this case, the arm’s length

price of the relevant transactions was not

discussed, but rather the economic substance of

the shares acquisition. The Spanish Tax Authorities

concluded that the shares acquisition lacked

substance having only a tax avoidance purpose,

and therefore applied the anti-abuse clause of

fraud of law to eliminate the effects of the

transaction carried out. The Supreme Court of

Spain ruled in favor of the Spanish Tax Authorities

pointing out that the regularization of transactions

through the application of article 9.1 of double tax

treaties can be carried out without the need to

resort to the transfer pricing methods if internal

general anti-abuse clauses are applied.

2. Delineation of

Transactions/Recharacterization of Transactions

The circumstances in which a tax administration

may recharacterize or disregard the transaction

structured by the taxpayer has been addressed in

the OECD TPG since 1995.

Further, a new

paradigm based on control over risk, financial

capacity and DEMPE

functions was established in

the 2017 OECD TPG with the new guidance on the

accurate delineation of actual transactions.

The

cases below illustrate how different courts have

addressed these issues.

Paragraphs 1.36 1.41 of the 1995 OECD TPG.

DEMPE means development, enhancement,

maintenance, protection and exploitation.

Paragraphs 1.139 to 1.148 of the 2022 OECD TPG.

Recharacterization of Transactions/Sham

Transactions

The Canadian Cameco case

is an important

decision on the recharacterization issue. Cameco

was a Canadian headquartered uranium producer,

refiner, and processor. The Russian and United

States governments executed an agreement in

1993 to allow Russia to sell uranium from its nuclear

weapons arsenal. Cameco led a consortium of

companies to negotiate purchase agreements for

the Russian uranium (and over time uranium from

other suppliers). While the initial contracts were

negotiated by Cameco, Cameco designated what

would become its Swiss subsidiary as the signatory

to the contracts. At the time, the market price of

uranium had been stable for decades and the

contracts were not expected to be profitable.

However, an unexpected jump in the price of

uranium resulted in significant profits being

realized by Cameco's Swiss subsidiary. The CRA

argued that all of the profit should be recognized

and taxed in Canada.

The Crown advanced three arguments: (1) the

transaction was a sham, (2) the transaction should

be recharacterized under 247(2)(b) and (d) of the

Canadian Income Tax Act ("Act"), or (3) the

transaction should be repriced under 247(2)(a) and

arguments. The Crown appealed (dropping the

sham argument from its appeal).

The Canadian Federal Court of Appeal upheld the

Tax Court finding and noted the following about

the recharacterization power in 247(2)(b) and (d):

• the test is whether hypothetical arm's-

length parties would enter into the

transaction or series, and not whether the

specific taxpayer would do so; and

• the provision does not contemplate

replacing a transaction with anything that

would result in the separate existence of

the Swiss subsidiary being ignored or

effectively being amalgamated.

Her Majesty the Queen v. Cameco Corporation,

Canadian Federal Court of Appeal, Case No. 2020 FCA

112 (June 2020).

The Canadian Federal Court of Appeal also noted

that the Crown did not challenge the factual

findings of the Tax Court on appeal, and as such,

no change to the decision regarding the

applicability of 247(a) and (c) of the Act was

warranted or possible. The important takeaway

from this case is that 247(2)(b) and (d) of the Act do

not allow the CRA to simply disregard the separate

existence of a foreign subsidiary and tax an entity

as if the subsidiary does not exist.

The Tax Court of Canada reaffirmed the limits to

recharacterization set out in Cameco in the

Agracity

decision.

Control over Risk and Financial Capacity

to Bear the Risk

In the Swedish Pandox case

, the Swedish tax

authorities (STA) attempted a recharacterization

based on the control over risk and financial

capacity requirements to support risk allocation. In

this case, the STA placed greater importance on

where the value was produced within the group.

According to the STA, an important value driver

was the investment strategy developed by the

Swedish parent company. Further, the STA claimed

that the risk control was very low in the subsidiaries

and the subsidiaries should therefore only retain a

residual reflecting a risk-free investment. The

Swedish company claimed, however, that the

management was passive during the holding

period and there were no actual transactions;

hence, no transaction could be priced incorrectly,

as Swedish law does not allow for reclassification

of transactions unless Swedish law supports it

(ergo not solely via the guidelines). The court ruled

that the parent company's involvement in the

subsidiaries, after the initial investment, was low

and therefore the risk control could not be

attributed the way the STA claimed. The question

of whether a reclassification had occurred and if

Swedish law allowed for such reclassification was

not assessed by the court.

Agracity Ltd. v. The Queen, Tax Court, Case No. 2020

TCC 91, August 2020.

Pandox, Case No. 13265-20, February 25, 2022.

Would a Transaction Have Happened at

Arm's Length?

In the

Blackrock case,

the English Upper Tribunal

(UT) ruled on the economically relevant

characteristics of transactions, both actual and

hypothesized. The Blackrock Group acquired the

Barclays Global Investors business in December

2009. During the course of the acquisition,

Blackrock Holdco 5 LLC ("LLC5") incurred debits in

respect of interest and other expenses relating to

USD 4 billion worth of loan notes ("Loans") issued

in return for the loan it received from its parent,

BlackRock Holdco 4 LLC. On the issue of whether

the Loans would have been made in an arm's

length relationship, the UT noted that the

hypothetical transaction entered into by an

independent enterprise must be sufficiently

comparable with the actual transaction for the

purpose of testing it. Accordingly, the UT

determined that the first-tier tribunal erred in law

by inferring third party covenants that were absent

because, for a comparison to be useful, the

economically relevant characteristics of the

situations being compared must be

sufficiently comparable.

Because no loan for USD 4 billion would have

been made on an arm's length basis, the proper

application of the transfer pricing rules resulted in

the entirety of LLC5's interest deductions

being disallowed.

On the issue of whether the debits were wholly

attributable to an unallowable purpose, the UT

found "ample evidence" that securing a tax

advantage for the group was a main purpose of

the creation of LLC5. The UT accepted that LLC5

had both commercial and tax advantage purposes,

but for the tax advantage purpose there would

have been no commercial purpose. All the debits

were apportioned to the unallowable purpose

and disallowed.

The Commissioners For HMRC and Blackrock Holdco

5, LLC, Upper Tribunal, Case No. [2022] UKUT 00199

(TCC), July 19, 2022.

See Paras 2.18 through 2.22 of the 2022 OECD TPG.

Favorable decision of the Federal Tax Court in ADM

Argentina SA s/Appeal, June 5, 2016; Favorable decision

This decision can be appealed.

3. Selecting the Most Appropriate Transfer

Pricing Method

Tax authorities no longer hesitate to challenge the

selection and implementation of the most

appropriate method. In particular, a trend toward

profit split discussions has been observed.

Comparable Uncontrolled Price Method

and Commodities

The 2017 OECD TPG contains specific guidance on

the application of a Comparable Uncontrolled

Price (“CUP”) method for commodities

transactions.

A recent Argentinian decision

is a leading case

for the whole industry of Argentine exporters of

commodities. In this decision, the Federal Tax

Authority ("Federal TA") adjusted the export prices

of commodities transferred by ADM Argentina and

assessed income tax. The Federal Tax Court

revoked the tax assessment and confirmed ADM

Argentina's tax position. The court concluded that:

• the Federal TA’s adjustments were not

reasonable but were arbitrary because

adjustments and assessment were made

only with respect to certain export

operations where the official price at the

time the export transaction was agreed

upon was lower than the official price when

the goods were loaded; and

• the export transactions of third-party

companies used as external comparables

were not valid for transfer pricing purposes

because they have significant irregularities

and deficiencies. The Court of Appeal

confirmed the Federal Tax Court decision

and ADM Argentina's tax position. The

Supreme Court of Justice dismissed the

complaint appeal filed by the Federal TA,

and the ruling issued by the Federal Tax

of the Court of Appeals in ADM Argentina S.A. v.

Dirección General Impositiva s/ recurso directo de

organismo externo (Aug. 29, 2017); and Favorable

decision of the Supreme Court in ADM Argentina S.A. v.

Dirección General Impositiva s/ recurso directo de

organismo externo (Oct. 28, 2021).

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Court in favor of ADM cannot be further

challenged.

Cost Plus Method

Philips France SAS,

a French taxpayer, provided

contract R&D services to its Dutch parent for which

it was remunerated at cost +10%. For its R&D

activity, the taxpayer received government

subsidies from 2003 to 2007. Philips France SAS

deducted from the cost base of the contract R&D

services the amount of the subsidies and research

tax credit it received. The French Tax

Administration (FTA) denied the deduction of the

subsidies and research tax credit and thus applied

the 10% mark-up on the full cost base.

The French Supreme Court ruled against the FTA

because the deduction of subsidies from the cost

base did not constitute a "transfer of profits

abroad" and allowed the reduced cost base for

calculation of the arm's length remuneration.

Profit Split Method

In the Engie case,

the Administrative Tribunal of

Montreuil reviewed the FTA’s substitution of the

Profit Split method (PSM) for the method applied

by the taxpayer. The French company Engie was

engaged in the liquefied natural gas (LNG)

business with two Luxembourg and U.S.

subsidiaries. Engie carried out operations on the

spot market, under an intercompany service

agreement. The subsidiaries entrusted their

cargoes to Engie, which found customers on the

spot market and sold the excess LNG. Engie was

compensated with a cost +10% remuneration. The

FTA recharacterized Engie as a co-entrepreneur

instead of a service provider, notably because:

• The functions performed by Engie went

beyond those of a simple service provider,

insofar as Engie can carry out sales on the

spot market without receiving instructions

Philips, Supreme Court of France, Case No. 405779

(Sept. 19, 2018).

For the question of whether to include stock-based

compensation in the cost base, see specific

developments in the context of cost-sharing

arrangements, notably in the Altera decision (See

IV.B.5., below).

from its subsidiaries during the solicitation

and approval procedure.

• Engie bore almost all the risks related to

the spot activity and has a high value-

added intangible asset through the master

sale and purchase agreement (“MSPA”)

signed with the customers.

The FTA considered the most appropriate transfer

pricing method to be a 50/50 PSM between Engie

and its subsidiaries. The Administrative Tribunal of

Montreuil decided in favor of the FTA. The

taxpayer has appealed the decision.

Despite

being a low-level tribunal decision, it may have a

significant impact on the FTA’s ability to substitute

the transfer pricing method selected by

the taxpayer.

Conversely, in a case where a Ukrainian taxpayer

applied the PSM, the selection of this method was

challenged by the Ukrainian tax administration.

The Ukrainian Supreme Court

established a new

precedent on the application of the PSM in favor of

the tax administration. The case relates to a joint

venture engaged in the extraction and sale of oil.

Three controlled transactions were in place: the

purchase of technology services, the sale of oil,

and the sale of fixed assets. For the purchase of

services, the parties applied a PSM, arguing that

joint knowhow and development of valuable

technology was involved. The Tax Office applied

the cost plus method relying on BvD

Ruslana comparables.

The significance of the OECD TPG (which are not

part of Ukrainian domestic law) was reconfirmed by

the appeals court. The Supreme Court confirmed

that a PSM may be applied if (i) the operations are

highly integrated or (ii) the parties contribute

valuable intangibles. Further, it clarified the burden

of proof rules in transfer pricing cases, stating that

while the burden of proof rests with the Tax Office,

including the burden to prove the wrongfulness of

Société Engie, Administrative Tribunal of Montreuil (1st

chamber), Case No. 1812789 (Jan. 14, 2021).

Appeal No. 21PA01277.

The Sixth Appeal Administrative Court decision on

Case No. 620/1767/19 (Dec. 22, 2021).

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the method selected, the taxpayer is required to

substantiate its method. In this case, the taxpayer

failed to (i) justify the relevant profit allocation, (ii)

provide evidence of the use of knowhow, and (iii)

comment on the rejection of traditional methods.

Accordingly, the tax administration prevailed.

In a 2020 decision,

the Italian Supreme Court

did not challenge the selection of the PSM but

instead its practical determinations, accepting the

position of the Tax Office that an additional

allocation key (resulting in a higher allocation of

profits to the Italian taxpayer) was appropriate. The

allocation key added by the Tax Office (besides the

two original ones selected by the taxpayer, i.e., the

quantities of oil transported and distance in

kilometers of the pipeline) related to the

maintenance costs incurred by the three

companies participating in the PSM.

The application of the Residual PSM was disputed

three times by Japanese courts. In the NGK case,

a Japanese resident entity engaged primarily in

the manufacture of ceramic products. NGK

licensed patent and manufacturing knowhow to its

Polish subsidiary ("Sub A"). Sub A manufactured

particulate removal devices (DPF) for diesel engine

cars and sold DPF to automobile manufacturers in

Europe through another affiliated entity in

Germany. Shortly before the establishment of Sub

A, the European Commission (EC) introduced a

series of regulations for exhaust gas emissions. The

regulations targeted black particles caused by

incomplete combustion of fossil fuels, which

particularly affected diesel vehicles. NGK's DPF

was effective in reducing the amount of black

particle emission. As a result of demand driven by

the regulations as well as improvements in

manufacturing techniques at Sub A leading to

higher yields, Sub A's profitability

significantly increased.

The tax authorities concluded that royalty income

from Sub A was below the arm's length price

established based on the Residual PSM. A key

issue of contention was how the residual profit split

factor was to be calculated. The tax authority's

position was that contributions of each party to the

Supreme Court of Cassation, Case No. 11387 (Feb. 25,

2020).

development of important intangible assets should

be factored into the profit split (i.e., DPF R&D

expenses for NGK and expenses relating to

manufacturing improvement for Sub A). NGK

argued that the depreciation expenses of Sub A

should also be included because their large capital

investment significantly contributed to their

high profit.

The courts held that the contribution factor is not

necessarily limited to intangible assets, and that

other interrelated factors contributed to the high

profit. It was therefore appropriate to include

residual depreciation expense (excess over the

normal level of depreciation expense obtained

from the comparable companies for routine return)

in the split factor for Sub A. In terms of other

factors, the courts considered: 1) scale profit and 2)

NGK's decision to make a large-scale investment in

Poland ahead of competitors. The scale profit was

attained by reduced manufacturing costs per unit

as a result of a substantial sales increase. The

courts recognized Sub A's contribution to the scale

profit and held that Sub A's excess depreciation

expense should be included in the split factor. In

contrast, the courts rejected the tax authority's

argument that NGK's decision regarding the

upfront investment should be included in the split

factor for NGK, on the grounds that such a

decision by a parent company on a large

investment in its subsidiary should generally be

recouped by dividends, and it is not considered

appropriate to take it into account when it comes

to determining a residual profit split factor.

Unlike previous cases, the NGK case is unique

because the court acknowledges for the first time

that there is a factor other than those relating to

important intangible assets (i.e., scale profit) that

can be included in the split factor under the PSM,

and that the factor can be split among associated

companies relevant to the transaction in the same

manner as those related to important intangible

assets. This decision could require the Japanese

tax authority to change their way of applying the

Residual PSM in a transfer pricing audit going

forward.

The Tokyo High Court (appellate court), NGK case

(NGK Insulators, Ltd.) (Mar. 10, 2022).

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4. Comparability Analysis

Taxpayer's Functional Analysis and

Loss-Making Situation

In a French case

where the French taxpayer sold

products to intragroup distribution companies

abroad, the FTA challenged the loss-making

situation of the taxpayer, arguing that the latter was

not a principal and, as such, should not bear any

losses. The French Supreme Court ruled in favor of

the French taxpayer. In the case at hand, the

taxpayer notably set the subsidiaries' sales prices

to end customers and had a functional profile

allowing it to bear economic losses related to the

operation of its business.

Sufficiently Reliable Comparables

Courts commonly rule on the requirements for

comparables to be sufficiently reliable. See, for

instance, a Polish decision

in which the tax

authorities had not taken into account the specific

contractual terms of the transaction carried out by

the taxpayer (limitation of risks, exclusion of liability

for defects in the goods, lack of necessity to store

the goods) and Turkish decisions on the need to

adjust comparables for market differences.

Another Italian decision

indicated that courts

should take into consideration all the weaknesses

of certain comparables presented by the Italian

Tax Office.

Government and Other Local Constraints

In a Bluestar decision,

a French taxpayer did not

invoice management fees to its Chinese and

Brazilian affiliates, unlike its English and Italian

affiliates. The FTA considered that the uncharged

management fees consisted in a transfer of profits

by the French taxpayer to the Chinese and

Brazilian entities. The Administrative Court of

Appeal of Versailles ruled against the taxpayer,

considering that it had not demonstrated “in

particular in the absence of a formal refusal by the

Chinese and Brazilian authorities, that the

SAS SKF Holding France, French Supreme Court, Case

No. 44313 (Oct. 4, 2021).

Judgment of the Provincial Administrative Court in

Szczecin, Case No. I SA/Sz 604/20 (Dec. 2, 2020).

Italian Supreme Court of Cassation, Case No. 15668

(May 17, 2022).

legislation of each of these countries would

prohibit the payment of management fees by

resident companies to French companies.”

In a Bureau Veritas decision,

the Administrative

Court of Appeal of Versailles recognized that local

constraints must be considered when determining

the level of an arm's length royalty. In this decision,

the taxpayer entered into franchise agreements

with its subsidiaries giving them access to its

technical and administrative services, remunerated

by a royalty fee. For its Brazilian and Indian

subsidiaries, the taxpayer applied lower royalty

rates due to constraints resulting from Brazilian

and Indian “legal, exchange control and criminal”

legislations. Noting that the subsidiaries benefited

from the same services as the other subsidiaries of

the group, the FTA considered this practice as a

renouncement of royalties at the usual rates and

proceeded to reassessments.

The Administrative Court of Appeal of Versailles

censured the FTA's position by recognizing that

local constraints, other than tax, place the

subsidiaries in a different situation from the

independent comparables retained in the

taxpayer's panel, justifying the use of lower royalty

rates with the subsidiaries. The court emphasized

that the cap on royalties in Brazil and India “does

not derive from their tax legislation but from

measures of broad general scope, mainly

economic, aimed at protecting the internal

market.” In the case at hand, it is important to note

that the taxpayer succeeded in producing “amply

documented and detailed” analyses. By contrast,

the same court determined that the elements

The Administrative Court of Appeal of Versailles

censured the FTA's position by recognizing that

local constraints, other than tax, place the

subsidiaries in a different situation from the

independent comparables retained in the

taxpayer's panel, justifying the use of lower royalty

rates with the subsidiaries. The court emphasized

Bluestar Silicones France, Administrative Court of

Appeal of Versailles, Case No. 16VE00352 (Feb. 9, 2021).

SA Bureau Veritas, Administrative court of appeal of

Versailles, Case No. 19VE01727 (Nov.18, 2021).

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that the cap on royalties in Brazil and India "does

not derive from their tax legislation but from

measures of broad general scope, mainly

economic, aimed at protecting the internal

market." In the case at hand, it is important to note

that the taxpayer succeeded in producing "amply

documented and detailed" analyses. By contrast,

the same court determined that the elements

provided were considered insufficiently precise in

another French decision Société Générale on

February 9, 2021

5. Intangibles

Development, Enhancement, Maintenance,

Protection and Exploitation (DEMPE) functions

were introduced in the 2017 OECD TPG as a key

component of the analytical framework for

transactions involving intangibles.

The Ghent Court of Appeal

ruled on the

temporal application of this new concept in

Belgium. Referring to the 2017 OECD TPG, the

Belgian tax authorities claimed that an abnormal or

benevolent advantage was provided by the

taxpayer to another group entity, because the

taxpayer exercised the DEMPE functions with

respect to the IP and incurred all risks for which the

taxpayer was not remunerated. The taxpayer

argued that DEMPE as a new concept was not

present in the 1995 OECD TPG and that therefore

one should consider the OECD TPG that were

available at that time. According to the Ghent

Court of Appeal, only the OECD TPG and legal

framework known at the time of the transactions

should be taken into account. A more recent

version of the OECD TPG may only be used to the

extent that it provides clarifications to older OECD

TPG without extending the scope of the latter. To

date, we are not aware of any appeal that has been

filed regarding this decision.

Selection of a CUT/ CUP or CPM/ TNMM Method:

Major U.S. Decisions

In a 2016 U.S. Tax Court case, Medtronic, provided

in a matter that centered around which transfer

pricing list reflected the contributions from the

Société Générale, Administrative court of appeal of

Versailles, Case No. 18VE04115 and 19VE00405 (Feb.9,

2021).

company's Puerto Rican subsidiary when

calculating the arm's-length royalty rates for an

intercompany licensing transaction. In refuting the

IRS USD 1.36 billion tax deficiency, the court

rejected the IRS's use of the CPM, which

considered the level of profit made by a company

in a controlled transaction. Instead, the court used

an uncontrolled transaction method (CUT) that

relied upon transactions by and between unrelated

parties to benchmark the related party

intercompany transaction. The court also

disagreed with aspects of the taxpayer's CUT

analysis, noting that it failed to make adjustments

to account for significant differences between the

license of devices and leads to Medtronic Puerto

Rico and the third-party (Pacesetter) agreement,

which arose from a litigation settlement. Thus, the

court favored an outcome that it believed was

arm's length with certain adjustments to arrive at

an arm's length royalty rate.

In 2018, a three-judge panel disregarded the

court’s opinion requiring a more extensive

determination that Medtronic could use a

settlement with another supplier. Notably, the

Eighth Circuit found that the court did not make "a

specific finding as to what amount of risk and

product liability expense was properly attributable

to Medtronic Puerto Rico." Accordingly, the Eighth

Circuit vacated and remanded the Tax Court's

decision finding that the lack of certain factual

findings prevented it from evaluating whether the

CUT method was the best method, and whether

proper adjustments were made.

The decision led to a second Tax Court decision

that addressed those issues. The second trial

began in June 2021, and it has since concluded.

This second trial focused on the selection of the

most reliable transfer pricing method, as well as

the determination of any necessary adjustments to

the results of applying the CUT method. In the

second trial, Medtronic and its experts continued

to assert that the CUT method was the most

reliable method to price the instant licensing

agreement, while the IRS and its experts continued

to assert that the CPM was the best method. More

Court of Appeal Ghent (5th chamber) Case No.

2016/AR/455 (June 8, 2021).

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particularly, the IRS asserted that the differences

between the third-party agreement and the instant

royalty transaction were too significant to be

resolved through adjustment and that the CPM

determined profit that more accurately reflected

an arm's length result.

At the conclusion of this second trial, the trial

judge suggested the use of the CUT method as the

best method. The trial judge did, however,

observe that it may be possible to use the third-

party agreement as an unspecified method.

This case highlights the most important transfer

pricing concepts, namely, concepts that involve

what functions were performed, what risks were

assumed and what assets were employed more

specifically; the trial judge did not identify the risk

in the comparable transaction. One can posit that

the IRS is moving away from basic arm's length

principles in a manner that simply justifies its

position and gets the best answer for it.

On August 18, 2022, the Tax Court issued its recent

opinion in Medtronic v. Commissioner,

holding

that only a new, unspecified method could

adequately calculate the appropriate §482 royalty

rate. This alternative method used a three-step

approach based on Medtronic's proposed analysis

making adjustments in the third stage, thus,

resulting in a largely 2-1 profit split between

Medtronic and its Puerto Rican subsidiary. In

rejecting the IRS's position, the Tax Court

determined that Medtronic's position was an

appropriate measure of the intercompany royalty

by and between Medtronic and its subsidiary and

thus increasing the income allocated to the U.S. tax

by Medtronic. While the tax years at issue for

Medtronic were 2005 and 2006, the

consequences for future years could be significant.

Based on Medtronic's Form 10-Q, Medtronic

anticipates that tax and interest could give rise to

amounts owing of up to USD 2 billion

Note that

this case was remanded by the Eighth Circuit,

which noted the Tax Court's failure to properly

scrutinize the comparability of Medtronic's use of

the CUT method. The IRS set its position based on

the CPM, which has gained greater use and

T.C. Memo 2022-84.

acceptance by the Tax Court, despite the recent

Coca Cola Company case, discussed above, at

IV.A.

The decision has not yet been finalized so the time

is running for Medtronic to either file for

reconsideration or appeal.

The Amgen, Inc. case is similar to Medtronic.

According to the petition filed with the U.S. Tax

Court, the IRS asserted a USD 3.6 billion plus

interest tax deficiency for the taxable years 2010 to

2012. Proposed tax adjustments for taxable years

2013 to 2015 have also been issued. It appears the

issues center around the Company's Puerto Rican

manufacturing facility and how profits are allocated

between the U.S. company and these Puerto Rican

manufacturing operations. The answer to the

petition filed on August 2021 was filed in

November 2021; thus, the case has been joined.

While this case is just getting underway, it will

prove interesting to follow in the wave of transfer

pricing cases currently being pursued by the IRS.

Hard-to-Value Intangibles

In the Facebook case the U.S. Tax Court will

decide whether the taxpayer correctly valued its

intangible property, e.g., trademarks and

copyrights, regarding its licensing transaction with

its Irish affiliate. The IRS assessed a value of USD

13.6 billion rather than the USD 6.5 billion cited by

the taxpayer. The case was a battle of experts

concerning the appropriate value of the

intellectual property at the time of the transfer. The

key issue for the court is whether the taxpayer paid

what an unrelated company would have paid for

Facebook's September 2010 platform technology.

The trial started in early 2020 when dozens of

current and former Facebook employees testified.

Following a 16-month delay due to the COVID-19

pandemic, the trial resumed in person on October

11, 2021. As the case continued, the court heard

vast amounts of testimony from researchers and

consultants on matters of accountancy, digital

marketing and monetization efforts.

See "Medtronic Decision Might Trigger Up to $2

Billion Tax Liability," Tax Notes (Sept. 2, 2022).

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This case presents an interesting analysis of

Facebook’s technology notwithstanding the

significant money involved. It may also shed some

light on the unique and difficult issue of

benchmarking the OECD’s Approach to Highly

Valuable Intangibles. Contemporary databases are

not always helpful because those types of

companies are virtually integrated; thus, using

them as a CUT is difficult at best. The OECD issued

its “Hard-to-Value Intangible Guide” to provide

assistance regarding this difficult issue and offer

alternatives to defaulting to a profit split or residual

approach. The court’s opinion may be the first

opportunity for judicial analysis on this

significant issue.

Cost-Sharing Arrangements

On July 27, 2015, the U.S. Tax Court unanimously

ruled in favor of the taxpayer in Altera

Corporation & Subsidiaries v. Commissioner

and invalidated a Treasury Regulation

promulgated under §482. Reg. §1.482-7(d)(2)

(2003) ("Final Rule"), which required controlled

participants in a qualified cost-sharing

arrangement (“QCSA”) to include amounts

attributable to stock-based compensation in their

cost pool.

The case arose because the IRS exercised its

discretion under §482 to allocate income from

Altera International to Altera U.S. by increasing

Altera International's cost-sharing payments by an

amount relating to stock-based compensation. The

sole purpose of the adjustments was to bring

Altera into compliance with the Final Rule, and the

Final Rule was the sole basis for such adjustments.

On June 7, 2019, the U.S. Court of Appeals for the

9th Circuit, in a split 2-1 decision overturned the

July 2015 Tax Court decision. Generally, the 9th

Circuit held that companies in cost-sharing

agreements (“CSAs”) should share the cost of

employee stock-based compensation in the cost

pool of their CSAs. The 9th Circuit focused on the

development of the Tax Code, the perceived intent

by Congress and the Tax Reform Act of 1986 that

led to the addition of the “commensurate with

income standard.” In short, the 9th Circuit decision

Altera Corp v. Commissioner, 145 T.C. No. 3 (July 27,

2015).

held that Treasury's requirement that stock-based

expenses be shared under a CSA was reasonable

despite any empirical evidence that showed that

unrelated parties dealing under a similar

arrangement would not share such an expense.

The Tax Court further found Treasury's adherence

to the APA Act met the act's intent and further that

the public comments were not particularly helpful.

On February 10, 2020, Altera filed a petition for a

writ of certiorari asking the U.S. Supreme Court to

review the 9th Circuit's decision. The Supreme

Court denied Altera's petition for certiorari, so the

9th Circuit stands, at least if and until another

circuit hears the case and there is split among

the circuits.

In July 2021, the IRS Office of Chief Counsel

released AM 2021-004, a memorandum regarding

"Non-SBC CSAs" and "reverse clawback"

provisions triggered by, e.g., Altera v.

Commissioner.

Specifically, AM

2021-004 provided guidance on the timing of IRS

adjustments related to the non-stock-based

compensation (“SBC”) CSAs and on double-

counting issues related to such adjustments. AM

2021-004 also signals the IRS's confidence that it

can hold taxpayers to their reverse clawback

provisions, despite the statute of limitations being

closed for years in which the taxpayers incurred

the SBCs at issue.

In AM 2021-004, the IRS first addressed the

appropriate year for a §482 adjustment to include

SBCs for Non-SBC CSAs that contained a reverse

clawback provision. Some taxpayers drafted their

CSAs to allow for the possibility that any

adjustment for SBCs would be taken into account

in the year of the triggering event. AM 2021-004

states that the IRS should make adjustments to any

open year in which the SBCs were incurred.

Because Taxpayers in Non-SBC CSAs have "IDC

shares that are not equal to their RAB shares… the

IRS has the authority to correct this imbalance by,

for instance, adjusting the results of a CST [cost

sharing transaction] in the year in which the IDCs

or intangible development costs, were incurred"

(AM 2021-004 at 5 (citing Reg. Paragraph 1.482-

926 F.3d 1061 (9th Cir. 2019), rev'g 145 T.C. 91 (2015),

cert. denied, 141 S. Ct. 131 (2020).

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7(i)(2))). The IRS authority to make allocations

clearly "exists regardless of the existence or lack of

a reverse clawback provision …"

Accordingly, the

IRS concluded that an adjustment to an open year

(as described above) would reduce the amount of

the true-up due in the year in which the triggering

event occurred (again, regardless of what the

reverse clawback stated (or did not state)). This

prevented double-counting of SBCs.

AM 2021-004 also addressed where the IRS could

make adjustments, even if the year in which IDCs

incurred was closed, clarifying that it could make

allocations "in an appropriate year" under Reg.

§1.482-7(i)(5) (allocations when cost-sharing

transactions are consistently and materially

disproportionate to RAB shares)—i.e., in closed

years as well.

For example, if taxpayers

disregarded their reverse clawbacks and failed to

include the true-up payments due in their income,

despite the triggering event, the IRS could use the

tax benefit rule to make adjustments for the

unshared SBCs in the year of the triggering event.

Also, if taxpayers tried to remove or modify the

reverse clawbacks, the IRS could make

"appropriate adjustments" to reflect the

unmodified contract or otherwise ensure the

results are consistent with arm's length

principles.

n conclusion, AM 2021-004 makes clear that the

IRS should make adjustments to include SBCs to

open years in which the IDCs were incurred. The

IRS further emphasizes that the IRS can hold

taxpayers to their reverse clawbacks to pursue

adjustments, where the SBCs were incurred in

closed years.

Marketing Intangibles

The French Supreme Court

ruled that flagship

expenses incurred by Ferragamo France SAS, a

French distributor contributing to the value of the

brand owned by its foreign parent, may in certain

AM 2021-004 at 5.

See AM 2021-004 at 5-6.

AM 2021-004 at 6.

AM 2021-004 at 7.

Ferragamo France, French Supreme Court, Case No.

425577 (Nov. 23, 2020), confirmed by the Administrative

cases constitute an indirect transfer of profits

abroad. The taxpayer purchased products from its

Italian parent company and distributed them in its

stores in France. It reported a gross margin higher

than comparables it had identified (explained by

an additional 25% discount granted by its parent

company) but suffered operating losses between

1996 and 2009.

The FTA observed that the salary costs and certain

expenses (particularly rent) borne by the taxpayer

were "noticeably higher" than those incurred by

the comparables identified by the taxpayer. Thus,

the FTA considered that the surplus of expenses

borne by the taxpayer was an advantage granted

to its Italian parent company, owner of the

trademark, and that this surplus was not

compensated by the higher gross margin granted

to it.

The French Supreme Court ruled against the

taxpayer, stating the following:

"Supporting additional expenses of salaries and

rents compared to independent companies was

aimed at increasing the value of the Italian brand in

a strategic market in the luxury goods sector."

The taxpayer did not prove that it had received any

consideration for the advantage in question by

merely asserting that it was profitable between

2010 and 2015.

Substantiating an Arm's Length Royalty

In the case of an Italian taxpayer paying royalties to

its Swiss parent company, the Italian Supreme

Court of Cassation

confirmed the position of the

Tax Office, stating that the Italian taxpayer had not

substantiated its position and did not rebut the

reassessment performed by the Tax Office that

entailed the following:

• Exclusion of intercompany sales from the

royalty base

Court of Paris on June 30, 2022, which judged the case

after referral from the French Supreme Court.

Supreme Court of Cassation, Case No. 9615 (Apr. 5,

2019)

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• Application of the lower percentage

mentioned in a 1980 circular letter that

provided a specific safe harbor rule on

royalties, with no comparable search or

alternative analyses

In another Italian case

where the Italian taxpayer

charged royalties to foreign associated licensees

based on their profitability, the Italian Supreme

Court of Cassation considered the royalty rate to

be too low in light of the results (measured

applying the resale price method) reached by the

foreign entities. Further, in contrast to the above

decision, the Italian Supreme Court of Cassation

decided in favor of the inclusion of intercompany

sales in the royalty base.

6. Business Restructurings

Conversion of a Distributor into a

Commercial Agent

Confirming a well-established trend in French case

law, the French Supreme Court, in a Piaggio

decision,

affirmed that the conversion of a

distributor into a commercial agent entails a

transfer of clientele. In this case, the taxpayer was

converted from an exclusive distributor of vehicles

of the "Piaggio" brand in France to a commercial

agent for its Italian parent company. The French

Supreme Court considered that the taxpayer had

created its own customer base — independently

from the strong reputation of the Italian brand in

France — through a network of retailers, notably for

the following reasons:

• It had developed its independent strategy

for the French market; and

• It had established and managed a vast

network of retailers for which it determined

the volumes and models to buy as well as

its own commercial policy in terms of

pricing and after-sales services.

Supreme Court of Cassation, Case No. 1232 (Jan. 21,

2021).

Piaggio, Supreme Court of France, Case No. 418817

(Oct. 4, 2019)

Conversion of a Manufacturer into a Consignment

Manufacturer

The Dutch Court of Appeals issued a decision

concerning the conversion of a Dutch industrial

zinc production facility into a consignment

manufacturer, operating on behalf of a regional

principal located in Switzerland. The taxpayer took

into account a conversion fee of EUR 28 million as

compensation for the restructuring on the basis

that an existing agreement was terminated with

one year's notice.

The Dutch tax authorities (DTA) increased the tax

assessment to EUR 188 million on the basis that

either the conversion fee should have been

calculated as compensation for the transfer of an

ongoing concern, or on the basis that the Dutch

entity had not effectively been converted to a

routine service provider. The taxpayer prevailed at

the district court level, as the court found that the

taxpayer did not perform non-routine functions on

the year of the tax assessment. As such, the DTA

had not met its burden of proof to claim higher

compensation for a transfer of value, or the non-

recognition of the conversion. During the court of

appeals procedure, the taxpayer and the DTA

agreed on a settlement, whereby the taxpayer

agrees to apply a PSM to recognize the

contributions of the Dutch entity. The settlement

resulted in an adjusted taxable profit of EUR

122 million.

Post-Acquisition Transfer of Functions, Assets and

Risks (FAR)

The Tel Aviv District Court held in favor of the

taxpayer in the Medingo decision

regarding a

deemed transfer of FAR. In 2010, the Roche group

acquired the full share capital of an Israeli

company. Six months after the acquisition, four

intragroup agreements were entered into, with

Dutch Court of Appeals, Case No.

ECLI:NL:GHSHE:2020:968 (Mar. 13, 2020).

District Court, Israel v. Medingo Ltd, Case No 53528-

01-16 (May 8, 2022).

retroactive effect, all of which were set to expire by

the end of 2013:

• an R&D agreement pursuant to which the

taxpayer provided R&D services with a

remuneration at cost +5% (All the IP

developed was wholly and exclusively

owned by Roche);

• a support services agreement pursuant to

which the taxpayer provided services in the

areas of marketing, technical support and

management as well as support advice

regarding the use of patents in exchange

for a cost +5% remuneration;

• a manufacturing agreement pursuant to

which the taxpayer provided Roche with

manufacturing and packaging services with

a remuneration at cost +5%; and

• a license agreement pursuant to which the

taxpayer granted Roche the right to use

the IP developed up to that point (Roche

shall manufacture, use, sell, exploit

commercially, continue to develop related

products and grant sub-licenses to related

entities in the Roche Group.).

In January 2012, the taxpayer's employees were

notified that the operations in Israel would be

terminated, no later than on December 31, 2013.

On November 1, 2013, an agreement was signed

between the taxpayer and a number of companies

from the Roche group for the sale of the taxpayer's

old IP for approximately USD 45 million. The Israel

tax authority (ITA) classified all the transactions as a

single scheme aiming at the transfer of the main

FAR of the taxpayer to the Roche group. The ITA

considered that such a transfer occurred

immediately following the taxpayer's acquisition in

2010. As such, considering that this transfer

constituted a capital transaction liable to tax, the

ITA considered that the value of the FAR

transferred and subject to taxation was the 2010

acquisition price, i.e., USD 160 million (with certain

adjustments). The court concluded that the transfer

Sierra Spain Shopping Centers Services SLU, National

Court of Spain, Case No. 151/2022 (Jan. 25, 2022).

SAS Groupe LAGASSE EUROPE, Administrative Court

of Appeal of Versailles, Cases No. 18VE00059 and

18VE02329 (Jan. 28, 2020).

of the taxpayer's FAR occurred in 2013 (date of the

actual transfer) and not on the taxpayer acquisition

date as supported by the ITA. This decision is

consistent with the Israeli precedent (especially the

Broadcom ruling, cited repeatedly in the decision).

7. Management Fees

The National Court of Spain

denied the

deductibility of fees for strategic management

services provided to a Spanish entity by its

Portuguese related party because of insufficient

supporting documentation provided by the

taxpayer. The National Court considered that the

invoices provided were too generic and the

description of services in the invoices referred to

an intragroup agreement that had not been

provided. Additionally, the court considered that

the internal correspondence provided as proof of

services rendered would only support the

existence of habitual and ordinary relationships

between the staff of the Spanish and Portuguese

entities. Based on the above arguments, the

National Court concluded that the requirements

set out in the Spanish legislation to support the

deductibility of the management services (i.e.,

actual provision, benefit, and utility to the

recipient) had not been met. This judgment can

still be appealed.

The Administrative Court of Appeal of Versailles

issued a similar decision,

considering that simple

invoices, without any other material evidence, are

not sufficient to evidence the performance of

services. The Court observed that no proof was

provided by the taxpayer to corroborate the

effective performance of the invoiced services

(such as agendas, minutes of meetings or any

other document detailing the nature of the

services provided).

The Italian Supreme Court of Cassation

100

ruled

against a taxpayer, considering that the mere

existence of an intercompany agreement

regulating the services received is not sufficient to

prove the effectiveness of such services and their

100

Italian Supreme Court of Cassation, Decision No.

13085 (June 30, 2020).

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benefit for the Italian entity. It also pointed out that,

although an indirect charge methodology can be

accepted, if the allocation keys used are not clear,

the identification of the benefit received can

become more challenging, making the position of

the recipient entity harder to support.

For information regarding whether or not to take

into account local constraints that restrict the ability

to charge management fees to Brazil and China,

see IV.B.4., above.

8. Financial transactions

In February 2020, the OECD issued, for the first

time, guidance on the transfer pricing aspects of

financial transactions. The aim was to “contribute

to consistency in application of transfer pricing and

help avoid transfer pricing disputes and double

taxation.”

101

The French Supreme Court

102

provided some

useful clarifications regarding the types of

evidence that a taxpayer may provide to establish

that the interest rate of an intragroup loan is at

arm's length. To demonstrate that this rate was

equal to the rate that financial institutions or

organizations would have granted — considering its

own characteristics and, in particular, its risk profile

— the borrowing company provided economic

analyses. The Administrative Court of Appeal of

Paris dismissed the analyses provided by the

taxpayer, stating that the credit rating was not

determined on the basis of the borrowing

company's own situation to the extent that the

consolidated financial statements of the subgroup

— formed by the borrowing company and its

subsidiaries and sub-subsidiaries — were taken into

account. Ruling in favor of the taxpayer, the French

Supreme Court ruled that the risk profile of the

borrowing company should be assessed with

regard to the consolidated economic and financial

situation of the company and its subsidiaries.

The French Tax Supreme Court further stated that

a benchmarking study based on rating systems

developed by rating agencies could be used

101

See Executive Summary of Transfer Pricing Guidance

on Financial Transactions (Feb. 2020).

102

Apex Tool Group, French Supreme Court, Case No.

441357 (Dec. 29, 2021).

irrespective of the fact that the taxpayer did not

prove that the companies used as benchmarks had

the same level of risk as the borrowing entity, due

to their heterogeneous business sectors. In effect,

such rating systems are commonly used to

compare the credit risks of the rated companies

after considering their sector of activity.

Recent German case law

103

brings up interesting

elements regarding loan write-off and the

deductibility of write-off expenses. In 2010, a

German limited partnership ("KG") granted a loan

to its wholly owned Turkish subsidiary ("T"). The

loan was interest bearing with 6% p.a., but

unsecured. In 2011, KG decided to liquidate T.

Thus, KG wrote off its loan and interest receivable

against T and declared the write-off expense as tax

deductible. The German tax authorities denied the

deduction because the loan was unsecured. The

Federal Tax Court held that refraining from

stipulating a collateral for a shareholder loan may

not be at arm's length. Such deviation from the

arm's length principle may cause a write-off of the

loan receivable and, thus, lead to a reduction in

income. This reduction in income can be reversed

based on Section 1 of the German Foreign Tax Act

(“GFTA”). Article 9 OECD-MC does not prohibit

such income adjustment. It should be noted that

the local tax court had determined that a third

party would not have granted the loan to T without

a security. This finding was binding for the Federal

Tax Court.

Another German decision

104

was issued with

similar facts. As of 2004, a Belgian entity ("B NV")

had a settlement account with its German parent

company ("A GmbH"). Loan receivables of A

GmbH against B NV under this settlement account

were interest bearing with 6% p.a., but unsecured.

In September 2005, A GmbH waived its loan

receivable claim against B NV to the extent the

loan was seen as unrecoverable. A GmbH wrote off

its loan and interest receivable against B NV and

declared the write-off expense as tax deductible.

The German tax authorities denied the deduction

based on Section 1, paragraph 1 of the GFTA

103

Federal Tax Court of Germany, Case No. I R 19/17,

February 19, 2020, Federal Tax Gazette II 2021, 223.

104

Federal Constitutional Court of Germany, Case No. 2

BvR 1161/19, IStR 2021, 363 (March 4, 2021).

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because the loan was unsecured. The case was

brought before the Federal Tax Court.

105

The

Federal Tax Court upheld the denial of the

deduction (see similarly, Case No. I R 19/17, above).

A third party would have made the loan issuance

dependent on the provision of collateral.

Thereafter, the taxpayer filed a constitutional

complaint. The German Federal Constitutional

Court upheld the complaint and overturned the

Federal Tax Court's ruling. It had violated the

taxpayer's fundamental right to a lawful judge, as

the Federal Tax Court had refrained from making

an application for a preliminary reference ruling to

the ECJ, in violation of EU law (Article 267

paragraph 3 of the TFEU). Unexpectedly, the

Federal Constitutional Court's ruling included not

only the constitutional assessment of the case at

hand but also a critical analysis of the substantive

tax aspects. Most notably, the Federal

Constitutional Court held that it was

incomprehensible that the Federal Tax Court had

simply assumed that third parties would have fully

secured the loan.

In Case No. I R 32/17,

106

the German Federal Tax

Court again dealt with an income adjustment due

to the write-off of an unsecured intercompany loan

receivable. At first, the Federal Tax Court

confirmed its case law according to which Section

1, paragraph 1 of the GFTA allows for an income

adjustment in case of a write-off of an unsecured

loan receivable. However, in its ruling, the court

took a more differentiated view on the arm's

length principle in an intercompany finance

context. In contrast to previous decisions, it found

that the lack of loan collateralization does not per

se render the loan incompatible with the arm's

length principle. Rather, an overall assessment

105

Case No. I R 73/16 (Feb. 27, 2019).

106

Federal Tax Court of Germany, Case No. I R 32/17,

BFH/NV 2022, 49 (June 9, 2021).

must be made as to whether a third party would

have granted such a loan under the same

conditions. In that regard, arm's length behavior

can be evidenced by reference to not only third-

party banks, but any other creditor if there is a

market for such (unsecured) finance transaction. If

a loan is unsecured and there is a market for such

loan where third parties would have agreed on a

higher interest rate to compensate for the risk due

to the lack of collateral, an adjustment of the

interest income shall have priority over the non-

recognition of the write-off of the receivable.

In Luxembourg, for the first time, a court ruled on

the subject of profit participating loans (PPL) in the

Blackstone decision.

107

The Luxembourg

administrative tribunal overturned an assessment

made by the Luxembourg tax authorities (LTA) that

recharacterized a portion of the profit-linked

variable interest on a PPL, issued by a Luxembourg

company ("LuxCo"), as dividends subject to 15%

withholding tax. Previously, the LTA had entered

into a tax ruling with LuxCo that provided that the

profit-linked interest would be accepted to the

extent that such interest was at arm's length and in

line with transfer pricing principles. However, the

LTA recharacterized a portion of the variable

profits as a hidden dividend subject to a 15%

withholding tax. LuxCo provided a fixed interest

rate benchmark study ("TP Study") demonstrating

that the applied annual variable interest rate was

still within the TP Study's ranges and thus aligned

with the terms and conditions of the ruling. The

court sided with the Luxembourg taxpayer that the

PPL's profit-linked interest payments were still

within the range of the TP Study and thus

compliant with the terms and conditions of the

Luxembourg tax ruling.

107

Blackstone/GSO Debt Funds Europe S.à.r.l.,

Administrative Tribunal of Luxembourg, Case No. 43264

(July 13, 2021).

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V. Final Remarks

With exacerbated transfer pricing audits occurring

across the globe, taxpayers may employ alternative

mechanisms to properly manage their transfer

pricing disputes and possibly prevent important

tax assessments, penalties, and double taxation.

APAs, in their different modalities, offer an

excellent option to prevent and resolve transfer

pricing disputes and provide transfer pricing

certainty to taxpayers vis-à-vis the covered

transactions. When a dispute arises during an

audit, however, taxpayers may seek to resolve

disputed issues with the tax authorities in one or

multiple jurisdictions before going into litigation.

Some of these alternatives allow for resolution

during the audit, through a direct interaction with

the relevant audit authorities. In other cases, the

taxpayer may use alternative dispute resolution

mechanisms involving official facilitators.

These alternatives range from the initial discussion

of the merits of the potential transfer pricing

adjustments, the clarification of the taxpayers'

positions, the formal rebuttal of the positions put

forward by the tax administration still at the

administrative stage, MAPs, settlement options and

arbitration procedures. Taxpayers resort to the

alternatives referred above to avoid litigation,

which in most cases is public and can create

significant reputational risk in today’s environment.

Litigation is expensive, factually intensive,

complicated and takes a long time, but sometimes

it is necessary.

As such, high quality court precedents have

marked the global trends and developments in

transfer pricing controversy. These court

precedents derived from cases where taxpayers

either exhausted all pre-litigation alternatives

without any success or in cases where taxpayers

decided to litigate.

Well-known cases like the Coca Cola — U.S. case,

allow taxpayers and tax authorities to enhance

their transfer pricing positions and interpretations

by achieving a clearer understanding of what a

reasonable transfer pricing policy should stand for.

Cases like the Coca-Cola case, lay out, in a quite

impressive detail, how to analyze a transfer pricing

matter, prepare transfer pricing documentation,

analyze marketing intangibles, ensure important

legal agreements are properly executed, and

ultimately defend against a transfer pricing case.

Any transfer pricing case is highly fact specific, but

as we were able to see, there is always a message

to be learned. The Coca-Cola case highlights the

importance of legal agreements that should be

perfectly aligned to the specific transfer pricing

policy. The transfer pricing documentation needs

to be integrated with the corresponding

supporting evidence, chief among which, the legal

agreements reflecting the transfer pricing positions

in full detail. Taxpayers are recommended to

integrate a proper defense file and have it readily

available in case a questioning is triggered by the

tax authorities.

Reviewing different tax court cases across many

jurisdictions sheds light on the future of transfer

pricing disputes. Because transfer pricing

adjustments generate an important amount of tax

revenues, many tax administrations have

challenged a wide range of transfer pricing

positions; from the mere selection of transfer

pricing methodologies and reliable comparables

to a more sophisticated questionings related to

business restructurings/conversions, hard-to-value

intangibles, and financial transactions. Disputes

also emerge from the interaction between transfer

pricing and anti-abuse measures.

These cases create an important reservoir of

information that taxpayers should consider in order

to align their transfer pricing policies to current

interpretations and act accordingly.

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