Pillar Talk: Chatting through the latest developments in global TP rules

On 19 February 2024, the Organization for Economic Co-operation & Development (OECD) and G20 Inclusive Framework presented its highly anticipated Amount B report.

Forming part of the two pillar approach to international tax reforms, Amount B provides for a simplified and streamlined approach to the application of the arm’s length principle to in-country baseline marketing and distribution activities. It focuses especially on addressing the taxation needs of low-capacity countries. The content included in Amount B report released in February has now been incorporated into the OECD Transfer Pricing Guidelines.

BEPS backstory

With 102 countries and jurisdictions now joined to the Multilateral Instrument on BEPS (Base Erosion and Profit Shifting), the two-pillar model was introduced to address the tax challenges arising from globalization, specifically digitalization. The intention has been to restructure corporate tax law worldwide in order to ensure fairer taxation of multinational companies overall.

The second pillar (pillar two) includes the introduction of a global minimum tax rate of 15%, with Global Anti-Base Erosion Rules (GloBE) forming a crucial part of this.

Pillar two has been designed to ensure that large multinational enterprises pay a minimum level of tax on income arising in each of the jurisdictions where they operate. Some countries are already moving to implement the pillar two. Others are in the process of drafting the rules into legislation. It is anticipated that widespread implementation will have occurred by 2025.

Amount B is for Baseline Activities

Amount B is a key feature of pillar one, which aims to expand and redistribute taxing rights in favor of market states over resident states. Pillar one applies in full to very large corporate groups with an annual turnover of more than €20 billion and a return on sales of more than 10%. This means it is likely to only apply to around 100 multinational enterprises (MNEs). Clearly, the target is large and highly profitable technology groups.

Alongside this redistribution rule, Amount B aims to simplify and standardize baseline sales and marketing activities that apply to all internationally operating companies engaged in in-scope activities. After publishing two consultation papers in December 2022 and July 2023, the final report on Amount B was released on 19 February 2024.

The Amount B approach intends to apply the arms-length principle to baseline marketing and distribution activities between related entities. It is anticipated that this will reduce administration and the number of potential disputes between taxpayers and tax authorities regarding the transfer pricing of distribution companies within an international group. This should also minimize the risk of subsequent double taxation and provide the companies affected with greater planning certainty.

Sales activities in scope

The baseline marketing and distribution activities in scope of Amount B can include wholesalers (distributors) as well as commercial agents and commission agents. It generally covers broad marketing, sales and logistics functions, such as buying goods for resale, performing promotional or advertising functions, warehousing goods, identifying customers, concluding sales and processing orders, invoicing and collection or providing customer support.

Retail activities are generally ‘out of scope’ if they account for more than 20% of annual net revenues on a three-year rolling average. Additionally, the distribution activity must relate to tangible items (goods). The distribution of intangible assets is out of scope, as is trading in commodities and the provision of services.

Distribution must be categorized as a routine activity in the broadest sense, which means that the possession and use of valuable intangible assets (e.g. trademarks and patents) are regularly excluded.

Additionally, a predefined range of operating expenses limits the scope of Amount B.

Step-by-step determination of a net margin

If a distribution company falls within the scope of Amount B, the transaction-based net margin method (TNMM) is considered to be the most suitable method for determining its transfer prices. For the distribution company as a tested party, a net return (EBIT in relation to sales) is determined using a bandwidth calculated according to the following scheme:

• Firstly, the company is categorized into one of three industry groups according to the type of products sold.
• The factor intensity is then determined by comparing operating assets and operating expenses in relation to sales. This results in a categorization into one of five classes.
• The combination of industry group and factor intensity class results in a target margin of between 1.50% (simplest industry group, lowest factor intensity) and 5.50%, whereby fluctuations within a range of +/- 0.5 %-points around the target margin are permitted.
• In order to adjust for cases where the functional profile of the sales company is particularly high or low, the ratio of operating assets to sales is limited upwards and downwards by a cap and collar mechanism.
• Finally, the net margins calculated after the previous steps are adjusted (increased) depending on the credit rating of the respective country. The poorer the rating, the higher the (risk) premiums for the return to be achieved. In the case of a good or very good rating (up to and including BBB), the surcharge does not apply.

Authorizing simplification rules

Individual states can prescribe or authorize simplification rules. The returns determined as part of Amount B are to be understood as target margins by which the sales companies should be steered, if necessary by applying year-end adjustments (outcome testing). These margins were determined via a comprehensive global database analysis commissioned by the OECD. This means that companies and tax authorities no longer need to carry out their own time-consuming, dispute-prone analyses.

As a result of the Amount B report issued on 19 February 2024, additional sections have now been added to added to the OECD Transfer Pricing Guidelines as an Annex to Chapter IV. It is now up to the individual countries to decide whether to apply the regulations - either mandatorily or optionally as a safe harbor - or to continue to follow the generally applicable rules. Application should be possible for all financial years beginning on or after 1 January 2025.

Further information on how national legislators and tax authorities in key countries are positioning themselves will be shared by CLA Global and the team at DHPG.

For further information

Further information on how national legislators and tax authorities in key countries are positioning themselves will be shared by CLA Global and the team at DHPG.

To download the full Pillar One Amount B report, please visit https://www.oecd.org/tax/beps/pillar-one-amount-b.htm

Benno Lange
Senior Partner
DHPG
https://www.dhpg.de/en/company/team/detail/benno-lange


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