Don't Miss The EU Joint Transfer Pricing Forum's Guidance On The Profit-Split Method

The EU Joint Transfer Pricing Forum (JTPF) assists and advises the European Commission on transfer pricing tax matters. Recently, it issued a report on the application of the profit-split method (PSM) within the EU. 1 The report clarifies key concepts and elaborates under which conditions the method is to be used and how to split the profit.

Being complementary to, and supportive of, the OECD guidance, the report expands on two important parts: (i) justification in applying PSM; and (ii) the allocation keys that can be used to split the profit ("splitting factors"). The report addresses these issues with the aim of exploring how the application of the PSM can be simplified. A summary of the guidance provided under the report is set out below.

What is the profit-split method?

The PSM is one of the transfer pricing methods used to establish whether the conditions imposed on transactions between associated enterprises are consistent with the arm's length principle. The PSM is typically applied when the level of interrelation between transactions is high (for instance, when the parties are involved in the same stage of the value chain) and thus clearly cannot be assessed separately using a one-sided method. This method also applies when the parties to the transaction are jointly contributing to the core earning power of the group (i.e. both parties make a unique and valuable contribution or there exists a shared assumption of economically significant risks). In such cases, it is frequent that the reliable information on a comparable is insufficient and, therefore, the comparable transactions cannot be identified.

The report provides examples and specifics around the application of PSM in a transfer pricing analysis. One of the main benefits of PSM is that it demonstrates a more holistic assessment of a company's transfer pricing policies. In general, there are two mainly used approaches to splitting the profits: (i) the contribution analysis (remuneration attributable based on relative value of contributions); and (ii) the residual profit split analysis (remuneration attributable based on the relative value of contributions after a contribution for which a benchmark exists has been remunerated).

Splitting factors

The report provides a nonexclusive list and an overview of acceptable profit splitting factors that can be employed to split profit in an economically viable way. It also details the advantages and disadvantages of each factor. The...