OECD Admits its Transfer Pricing Guidelines are flawed

Following our highly successful seminar in Helsinki last week, Transfer Pricing Week (TPW) has reported that the OECD agrees with TJN that their transfer pricing guidelines are too complex and need simplification, and, crucially, that the OECD's supposedly "Arm's Length" method for determining cross-border transactions inside multinational groups -- which we argue is fatally flawed in theory and practice -- is not the only tool in the toolbox.

Addressing the seminar in Helsinki, Marlies de Ruiter, newly appointed head of the OECD's tax treaty, transfer pricing and financial transactions division, admitted that the arm's length method "provides a tool to counteract base erosion and profits shifting, but it wouldn't be effective alone."

We, and many of the delegates in Helsinki, would go a whole lot further than that. While the "Arm's Length" method has been promoted by the OECD for over fifty years, and the OECD claims that over 100 non-OECD countries have now adopted the method, delegates to the Helsinki seminar heard from country officials from around the world that the method is impractical in application and is widely being replaced by profit split arrangements such as unitary taxation.

Delegates from the China, Dominican Republic, India, Indonesia, Nigeria and Tanzania spoke about their experiences of being pushed by OECD officials into adopting the arm's length method, but finding that in practice the data needed to make the method work is of poor quality, expensive, information sharing processes are weak, and in worst case scenarios, comparable data simply doesn't exist. Chennai-based transfer pricing practitioner Vikam Vijayraghaven spoke for the majority of delegates when he lamented: "Comparables - whither art thou?"

De Ruiter also seemed to agree with TJN's assertion that the arm's length method fails to prevent multinational companies from using offshore structures to erode the tax base. As TPW reports:

"Among the core issues she identified were the use of hybrid entities and low tax jurisdictions (tax havens), shifting intangibles, transfer mispricing and a lack of information and resources to tackle it."

This appears to be a damning indictment of fifty years of the OECD failing to get to grips with the issue, and even de Ruiter was forced to concede that the evidence of aggressive tax avoidance by prominent global brands does little to instill confidence in the current method:

"The public opinion is that multinational enterprises such as Apple and Google are not paying their fair share. In these examples it is clear that they are trying to shift their profits and its not fair."

Not fair indeed, but we would argue that MNCs take these steps precisely because the current rules, set by the OECD, are quite simply not fit for purpose, which is why the time has come to look beyond the "Arm's Length" method towards other methods which give primacy to economic reality over the legal fictions that MNCs create in offshore secrecy jurisdictions to squirrel their profits away taxes due.

You can read the full TPW article here.