Category: TPG2022 Chapter VIII: Cost Contribution Arrangements

TPG2022 Chapter VIII paragraph 8.33

Company A based in country A and Company B based in country B are members of an MNE group and have concluded a CCA to develop intangibles. Company B has entitlement under the CCA to exploit the intangibles in country B, and Company A has entitlement under the CCA to exploit the intangibles in the rest of the world. The parties anticipate that Company A will have 75% of total sales and Company B 25% of total sales, and that their share of expected benefits from the CCA is 75:25. Both A and B have experience of developing intangibles and have their own research and development personnel. They each control their development risk under the CCA within the terms set out in paragraphs 8.14 to 8.16. Company A contributes pre-existing intangibles to the CCA that it has recently acquired from a third-party. Company B contributes ... Continue to full case

TPG2022 Chapter VIII paragraph 8.32

The following scenario illustrates the guidance on determining participants, the share of benefits, and the value of contributions ... Continue to full case

TPG2022 Chapter VIII paragraph 8.31

For development CCAs, contributions in the form of controlling and managing the CCA, its activities and risks, are likely to be important functions, as described in paragraph 6.56, in relation to the development, production, or obtaining of the intangibles or tangible assets and should be valued in accordance with the principles set out in Chapter VI ... Continue to full case

TPG2022 Chapter VIII paragraph 8.30

It is important that the evaluation process recognises all contributions made by participants to the arrangement. This includes contributions made by one or more parties at the inception of the CCA (such as contributions of pre-existing intangibles) as well as contributions made on an ongoing basis during the term of the CCA. Contributions to be considered include property or services that are used solely in the CCA activity, but also property or services (i.e. shared property or services) that are used partly in the CCA activity and also partly in the participant’s separate business activities. It can be difficult to measure contributions that involve shared property or services, for example where a participant contributes the partial use of assets such as office buildings and IT systems or performs supervisory, clerical, and administrative functions for the CCA and for its own business. It will be necessary ... Continue to full case

TPG2022 Chapter VIII paragraph 8.29

Since contributions are based on expected benefits, this generally implies that where a cost reimbursement basis for valuing current contributions is permitted, the analysis should initially be based on budgeted costs. This does not necessarily mean fixing the costs, since the budget framework may accommodate variability arising from factors such as varying demand levels (for instance budgeted costs may be expressed as a fixed percentage of actual sales). Additionally, there are likely to be differences between budgeted costs and actual costs during the term of the CCA. In an arm’s length situation, the terms agreed between the parties are likely to set out how such differences should be treated since, as stated in paragraph 2.96, independent parties are not likely to use budgeted costs without agreeing what factors are taken into account in setting the budget and how unforeseen circumstances are to be treated. Attention ... Continue to full case

TPG2022 Chapter VIII paragraph 8.28

Whereas it cannot be assumed that the value of pre-existing contributions corresponds to costs, it is sometimes the case that cost could be used as a practical means to measure relative value of current contributions. Where the difference between the value and costs is relatively insignificant, for practical reasons, current contributions of a similar nature may be measured at cost in such cases for services CCAs. However, in other circumstances (for example where contributions provided by the participants vary in nature and include a mixture of service types and/or intangibles or other assets) measuring current contributions at cost is unlikely to provide a reliable basis for determining the value of the relative contributions of participants, and may lead to non-arm’s length results. For development CCAs, the measurement of current contributions at cost (apart from the administrative guidance in paragraph 8.27) will generally not provide a ... Continue to full case

TPG2022 Chapter VIII paragraph 8.27

While all contributions should be measured at value (but see paragraph 8.28 below), it may be more administrable for taxpayers to pay current contributions at cost. This may be particularly relevant for development CCAs. If this approach is adopted, the pre-existing contributions should recover the opportunity cost of the ex ante commitment to contribute resources to the CCA. For example, a contractual arrangement (i.e. the CCA) that commits an existing R&D workforce to undertake work for the benefit of the CCA should reflect the opportunity cost of alternative R&D endeavours (e.g. the present value of the arm’s length mark-up over R&D costs) in the pre-existing contributions, while contributing current activities at cost (see Example 1A in the Annex to this chapter) ... Continue to full case

TPG2022 Chapter VIII paragraph 8.26

In valuing contributions, distinctions should be drawn between contributions of pre-existing value and current contributions. For example, in a CCA for the development of an intangible, the contribution of patented technology by one of the participants reflects a contribution of pre-existing value which is useful towards the development of the intangible that is the objective of the CCA. The value of that technology should be determined under the arm’s length principle using the guidance in Chapter I – III and Chapter VI, including, where appropriate, the use of valuation techniques as set out in that Chapter. The current R&D activity under the development CCA performed by one or more associated enterprises would constitute a current contribution. The value of current functional contributions is not based on the potential value of the resulting further application of the technology, but on the value of the functions performed ... Continue to full case

TPG2022 Chapter VIII paragraph 8.25

Under the arm’s length principle, the value of each participant’s contribution should be consistent with the value that independent enterprises in comparable circumstances would have assigned to that contribution. That is, contributions must generally be assessed based on their value at the time they are contributed, bearing in mind the mutual sharing of risks, as well as the nature and extent of the associated expected benefits to participants in the CCA, in order to be consistent with the arm’s length principle. In determining the value of contributions to a CCA the guidance elsewhere in these Guidelines should be followed ... Continue to full case

TPG2022 Chapter VIII paragraph 8.24

Contributions to a CCA may take many forms. For services CCAs, contributions primarily consist of the performance of the services. For development CCAs, contributions typically include the performance of development activities (e.g. R&D, marketing), and often include additional contributions relevant to the development CCA such as pre-existing tangible assets or intangibles. Irrespective of the type of CCA, all contributions of current or pre-existing value must be identified and accounted for appropriately in accordance with the arm’s length principle. Since the value of each participant’s relative share of contributions should accord with its share of expected benefits, balancing payments may be required to ensure this consistency. The term “contributions” as used in this Chapter includes contributions of both pre-existing and current value made by participants to a CCA ... Continue to full case

TPG2022 Chapter VIII paragraph 8.23

For the purpose of determining whether a CCA satisfies the arm’s length principle – i.e. whether each participant’s proportionate share of the overall contributions to the CCA is consistent with the participant’s proportionate share of the overall expected benefits – it is necessary to measure the value of each participant’s contributions to the arrangement ... Continue to full case

TPG2022 Chapter VIII paragraph 8.22

Whatever the method used to evaluate participants’ relative shares of expected benefits, adjustments to the measure used may be necessary to account for differences between the respective shares of expected and actual benefits received by the participants. The CCA should require periodic reassessment of contributions vis-à-vis the revised share of benefits to determine whether the future contributions of participants should be adjusted accordingly. Thus, the allocation key(s) most relevant to any particular CCA may change over time leading to prospective adjustments. Such adjustments may reflect either the fact that the parties will have more reliable information about foreseeable (but uncertain) events as time passes, or the occurrence of unforeseeable events ... Continue to full case

TPG2022 Chapter VIII paragraph 8.21

If an arrangement covers multiple activities, it will be important to take this into account in choosing an allocation method, so that the value of contributions made by each participant is properly related to the relative benefits expected by the participants. One approach (though not the only one) is to use more than one allocation key. For example, if there are five participants in a CCA, one of which cannot benefit from certain services activities undertaken within the CCA, then in the absence of some form of set-off or reduction in contribution, the contributions associated with those activities might be allocated only to the other four participants. In this case, two allocation keys might be used to allocate the contributions. Whether any particular allocation key or keys are appropriate depends on the exact nature of the CCA activity and the relationship between the allocation key(s) ... Continue to full case

TPG2022 Chapter VIII paragraph 8.20

To the extent that a material part or all of the benefits of a CCA activity are expected to be realised in the future and not solely in the year the costs are incurred, most typically for development CCAs, the allocation of contributions will take account of projections about the participants’ shares of those benefits. The use of projections may raise problems for tax administrations in verifying the assumptions based on which projections have been made and in dealing with cases where the projections vary markedly from the actual results. These problems may be exacerbated where the CCA activity ends several years before the expected benefits actually materialise. It may be appropriate, particularly where benefits are expected to be realised in the future, for a CCA to provide for possible adjustments of proportionate shares of contributions over the term of the CCA on a prospective ... Continue to full case

TPG2022 Chapter VIII paragraph 8.19

The relative shares of expected benefits might be estimated based on the anticipated additional income generated or costs saved or other benefits received by each participant as a result of the arrangement. An approach that is frequently used in practice, most typically for services CCAs, would be to reflect the participants’ proportionate shares of expected benefits using a relevant allocation key. The possibilities for allocation keys include sales (turnover), profits, units used, produced, or sold; number of employees, and so forth ... Continue to full case

TPG2022 Chapter VIII paragraph 8.18

In cases where CCA activities are outsourced, an arm’s length charge would be appropriate to compensate the entity for services or other contributions being rendered to the CCA participants. Where the entity is an associated enterprise of one or more of the CCA participants, the arm’s length charge would be determined under the general principles of Chapters I – III, including inter alia consideration of functions performed, assets used, and risks assumed, as well as the special considerations affecting an arm’s length charge for services and/or in relation to any intangibles, as described in Chapter VII and Chapter VI (including the guidance on hard-to-value intangibles) ... Continue to full case

TPG2022 Chapter VIII paragraph 8.17

As described in the previous paragraphs, it is not necessary for the CCA participants to perform all of the CCA activities through their own personnel. In some cases, the participants in a CCA may decide to outsource certain functions related to the subject activity to a separate entity that is not a participant under the standard of paragraph 8.14 above. In such situations, the participants to the CCA should individually meet the requirements on exercising control over the specific risks they assume under the CCA. Such requirements include exercising control over the outsourced functions by at least one of the participants to the CCA. In circumstances in which the objective of the CCA is to develop an intangible, at least one of the participants to the CCA should also exercise control over the important development, enhancement, maintenance, protection and exploitation functions that are outsourced. When ... Continue to full case

TPG2022 Chapter VIII paragraph 8.16

To the extent that specific contributions made by participants to a CCA are different in nature, e.g. the participants perform very different types of R&D activities or one of the parties contributes property and another contributes R&D activities, the guidance in paragraph 6.64 is equally applicable. This means that the higher the development risk attached to the development activities performed by the other party and the closer the risk assumed by the first party is related to this development risk, the more the first party will need to have the capability to assess the progress of the development of the intangible and the consequences of this progress for achieving its expected benefits, and the more closely this party may need to link its actual decision-making required in relation to its continued contributions to the CCA to key operational developments that may impact the specific risks ... Continue to full case

TPG2022 Chapter VIII paragraph 8.15

A party would also not be a participant in a CCA if it does not exercise control over the specific risks it assumes under the CCA and does not have the financial capacity to assume these risks, as this party would not be entitled to a share in the output that is the objective of the CCA based on the functions it actually performs. The general principles set out in Chapter I of these guidelines on the assumption of risks apply to situations involving CCAs. Each participant makes particular contributions to the CCA objectives, and contractually assumes certain risks. Guidance under Section D. 1 of Chapter I on delineating the actual transaction will apply to the transfer pricing analysis in relation to these risks. This also means that a party assuming risks under a CCA based on an analysis under step 4(i) of the framework ... Continue to full case

TPG2022 Chapter VIII paragraph 8.14

Because the concept of mutual benefit is fundamental to a CCA, it follows that a party may not be considered a participant if the party does not have a reasonable expectation that it will benefit from the objectives of the CCA activity itself (and not just from performing part or all of the subject activity), for example, from exploiting its interest or rights in the intangibles or tangible assets, or from the use of the services produced through the CCA. A participant therefore must be assigned an interest or rights in the intangibles, tangible assets or services that are the subject of the CCA, and have a reasonable expectation of being able to benefit from that interest or those rights. An enterprise that solely performs the subject activity, for example performing research functions, but does not receive an interest in the output of the CCA, ... Continue to full case