I’d like to share a comment that I recently saw from a TP adviser in relation to a draft intercompany agreement. The agreement – which was not drafted by us, by the way – concerned software development services charged on a cost-plus basis.
The comment was:
“The margin should be defined as arm’s length margin based on a benchmarking analysis performed, which is updated from time to time and as a result the margin is amended.”
It's a well-intentioned comment, and one we often encounter when working with TP professionals for the first time. It covers similar ground to questions that we’re often asked such as: “Do we have to specify the mark-up (or margin, or price) in the agreement? Can’t we just refer to the TP policies or benchmarking studies, as updated from time to time?”
The answers are, respectively, “Yes, the agreement needs to actually specify the mark-up,” and, “No, you can’t try to ‘future-proof’ your agreements by only referring to TP policies.”
There is a simple reason for this. A so-called ‘agreement’ isn’t actually an agreement at all if it doesn’t clearly state the remuneration as a defined amount, or at least in a way that is objectively ascertainable.
To illustrate the point, imagine that you are thinking of moving jobs, and you are in discussion with your prospective new employer.
You: What’s the basic salary?
Prospective employer: We benchmark ourselves against salaries for comparable roles offered by comparable organisations.
You: OK, so what does that look like?
PE: We’d rather not put that in writing at this point, because we like to be flexible.
You: So when will I know?
PE: We generally benchmark salaries at the end of each year. We’ll tell you then.
You: But …
PE: Obviously we’ll pay you something every month. And then we’ll look back at your pay at the end of the year, and adjust it if we need to.
You: Well… thanks for the offer. I’ll let you know.
On a more serious note, all of this links in with a trend that is clearly affecting multinational groups. Namely, the convergence of the requirements of substance, operational governance, data management and robust records across a number of areas, including transfer pricing, VAT, customs, legal and regulatory compliance.
This trend requires multinationals to respond in various ways. One of those is to have in place genuine legal agreements that create a firm legal foundation for the corporate group. Not fake agreements that pay lip-service to compliance.