Introduction
In the modern economy, intangibles such as intellectual property, brands, technology, and know-how play a central role in value creation for multinational enterprises (MNEs). However, pricing transactions involving intangibles poses significant challenges for both taxpayers and tax authorities. The OECD has issued extensive guidance to bring clarity and consistency to this complex area.
What are Intangibles?
According to the OECD, intangibles are assets that are not physical or financial in nature but have value because they can generate income or provide economic benefit. Examples include patents, trademarks, copyrights, proprietary processes, customer lists, and software.
Challenges in Transfer Pricing for Intangibles
Lack of comparable uncontrolled transactions
Difficulty in valuing unique intangibles
Allocation of income among group entities
Determining who owns and controls the intangible
DEMPE Analysis: OECD’s Framework
The OECD emphasizes the need to analyze the Development, Enhancement, Maintenance, Protection, and Exploitation (DEMPE) functions related to intangibles. The entity performing these functions—and bearing the associated risks—should be entitled to the returns.
Steps in Conducting DEMPE Analysis
Identify relevant intangibles and the parties involved
Analyze each party’s contribution to DEMPE functions
Examine the contractual arrangements and align them with actual conduct
Determine the appropriate return based on value creation
Valuation Methods While traditional methods (CUP, CPM, TNMM) may still apply, intangibles often require the use of:
Income-based approaches (e.g., discounted cash flow)
Valuation models like profit split or residual profit split
Hard-to-Value Intangibles (HTVI)
OECD has introduced specific guidance for HTVIs—intangibles for which no reliable comparables exist and future projections are highly uncertain. Tax authorities are allowed to use ex-post outcomes to adjust transfer prices, subject to safeguards.
India’s Approach
India largely aligns with OECD’s approach on intangibles and emphasizes substance over form. Indian tax authorities scrutinize royalty payments, cost-sharing arrangements, and DEMPE analyses in detail.
Conclusion
Pricing transactions involving intangibles is a high-risk area in transfer pricing. MNEs must document and substantiate their DEMPE functions and valuation methodologies thoroughly to defend their positions during audits.
