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13.4.3. Specific TP Issues

Intangible Property

The domestic law does not specifically provide for transfer pricing rules or special measures for determining the arm’s length price for transactions involving the license or transfer of intangible property. However, since the domestic transfer pricing legislation incorporates the OECD guidelines, guidance contained in the OECD guidelines relating to intangible property would be relevant.

Cost Contribution Arrangements (CCA)

The main principles governing the application of the arm’s length principle in the context of cost contribution arrangements are also the subject matter of a ruling issued by the ATO (TR 2004/1), the contents of which are summarized below.

Concept of a CCA

The concept of a CCA follows that contained in the OECD guidelines, that is, "a contractual arrangement between business enterprises to share the costs and risks of developing, producing or obtaining assets, services or rights, and to define the interests of each participant in those assets, services or rights." In this sense, a CCA is understood to be akin to a 'development only' joint venture and not an 'income sharing' joint venture, though it is considered to be flexible enough to cover arrangements involving the joint exploitation of the results of an activity entailing the joint sharing of income and profits between the participants. The CCAs covered by the ruling are those involving arrangements for developing, producing, or obtaining assets or rights; that is, those typically involving significant commercial failure risks. CCAs involving pure service agreements are addressed separately in another ruling (see below).

Application of the Arm’s Length Principle to CCAs

The fundamental consideration governing the determination of whether the conditions of a CCA accord with the arm’s length principle is whether the arrangement is consistent with what independent parties that are dealing with each other at arm’s length might be expected to have entered into in comparable circumstances. Specifically, the essential considerations involve whether:

  • The arrangement makes business sense (i.e., reflects the economic interests of the parties thereto as would be expected of parties dealing with each other at arm’s length);
  • The terms of the arrangement accord with its economic substance, consistent with what independent parties would have agreed to in similar circumstances;
  • The terms of the arrangement are agreed upon before the CCA activity commences, based on circumstances that are known or reasonably foreseeable at the time the participants enter into the arrangement;
  • The participants have a reasonable expectation of deriving a benefit from the exploitation of their respective interests in the results of the CCA activity;
  • The sharing of contributions is consistent with and proportionate to each participant’s share in the expected benefits from the arrangement; and
  • The entry, withdrawal, or termination from a CCA is on arm’s length terms.

Where a CCA does not comply with the arm’s length principle, the specific countermeasures the ATO may take depend on facts and circumstances of each case, but may include the following:

  • Where the arrangement does not make business sense: appropriate adjustments will be made to the contributions made by the taxpayer;
  • Where the terms of the CCA are inconsistent with its economic substance: appropriate adjustments will be made to increase the taxpayer’s assessable income or reduce the taxpayer’s deductible expenses based on what would have been expected in an arm’s length situation;
  • Where the terms of the CCA have not been agreed up-front: the terms of the CCA may be disregarded entirely;
  • Where the participant has no reasonable expectation of a benefit from the CCA: the countermeasures the ATO may take include disregarding the arrangement entirely and disallowing deductions for any purported contributions to the arrangement, or imputing receipt of an arm’s length consideration for any use made by other parties of tangible or intangible property belonging to the taxpayer;
  • Where there is a disproportionate sharing of contributions compared to the sharing of the benefits expected from the CCA: the ATO may reduce the taxpayer’s net contributions by making or imputing to the taxpayer receipt of a balancing payment. Other countermeasures may include increasing the taxpayer’s interest in the results of the CCA activity and imputing the receipt of an arm's length consideration for the use of the taxpayer’s interest by the other participants; and
  • Where the entry, withdrawal, or termination is not on arm’s length terms: the ATO may impute to the taxpayer or adjust a buy-in or buy-out payment where the taxpayer’s assessable income has been understated as a result of not receiving a buy-in or buy-out payment or receiving a payment less than an arm’s length amount. A similar countermeasure may be taken where the taxpayer’s deductible expenses are overstated as a result of making a buy-in or buy-out payment in circumstances where no payment would have been appropriate or making a payment in excess of an arm's length amount.

Documentation of CCAs

The terms governing CCAs are expected to be documented according to the basic guidelines generally applicable to all other international dealings between related enterprises. However, specifically in relation to CCAs, taxpayers are expected to provide documentation consistent with the OECD guidelines, as reflected in the Pacific Association of Tax Administrators (PATA) Transfer Pricing Documentation Package, including the following:

  • A copy of the CCA agreement contemporaneous with its formation (and any revision), together with any other agreements governing the application of the CCA between the participants;
  • A list of the participants, together with any other associated enterprises that will benefit from the CCA;
  • The extent to which associated enterprises which are not CCA participants will make use of CCA property, including the amounts the non-participants will pay as consideration for using the CCA property;
  • A description of the scope of the activities that will be undertaken, including any intangible or class of intangibles that have already been developed or is intended to be developed;
  • A description of the interest each participant has in the results of the CCA activities;
  • The duration of the arrangement;
  • The procedures governing when, and the result where, a participant enters or withdraws from the agreement (i.e., buy-in and buy-out payments) and when the agreement is modified or terminated;
  • The total amount of contributions incurred according to the terms of the arrangement;
  • The contributions each participant bears and the form and value of each participant's initial contributions (including research). This must be accompanied by a description of how the value of such contributions has been determined which accounting principles were used in such determination;
  • A description of the method that was used to determine the share of each participant in the contributions to the CCA. This should include projections that were used to estimate the benefits, and the rationale and assumptions behind the projections, and the explanation for the selection of that particular method;
  • Which consistent accounting method was used in determining the contributions and benefits; and
  • An identification of each participant's expected benefits from the CCA, the extent of such benefits, and which formula and projections were used in the allocation or sharing of the expected benefits.

Intra-Group Services

The approach to the application of the arm’s length principle in the context of intra-group services (i.e., services intended to facilitate the business of the group and are typically performed by a parent company or specific subsidiary for the group as a whole or for particular subsidiary companies) is spelt out in ATO’s Taxation Ruling TR 1999/1, the key elements of which are summarized below.

"Services" for this purpose do not cover the provision of finance or insurance, nor the supply of property or facilities for use or enjoyment (e.g., leasing of equipment). Services supplied in the context of cost contribution arrangements are addressed in a separate ruling (see above), except where the service arrangement governing such supply does not result in the production, development, or acquisition of any property, regardless of the description used by the parties thereto for such supplies.

A service is regarded as having been provided if, at the time the activities involved are performed, another party is reasonably expected or anticipated to derive a benefit, even if such a benefit will not materialize. A benefit is broadly understood in a generic sense as referring to something that is of economic or commercial value (e.g., improvement in the taxpayer’s production of income or profit-making) and for which an independent entity might reasonably expect to pay, or for whose supply the entity might reasonably expect to receive consideration.

Application of the Arm’s Length Principle to Intra-Group Services

The determination of whether services are being or have been provided within a multinational group on an arm's length basis involves two main steps: firstly, identifying the chargeable services provided, and secondly, determining the arm's length consideration for such chargeable services.

Chargeable services include those performed to address the specific needs of a related person (e.g., assistance in planning, raising funds to enable a particular group member to make an acquisition, or the performance of tax compliance functions, centralized services (such as worldwide advertising, personnel recruitment, and training, administration of intangibles and market analyses)).

Non-chargeable services include those relating to functions performed by a member of a corporate group exclusively for its own benefit. These include the shareholder activities of the parent company of a group of companies or the services performed by a subsidiary in its role as a regional headquarters of the group. It is the ATO’s position that the costs of such activities are to be borne solely by the company performing them.

Any of the recognized methods identified above (see Sec. 13.4.1.) may be applied for purposes of determining the appropriate arm’s length charge for services rendered by an entity to a related person. However, the choice of method may be shaped in particular by the specific features of the services provided and the reasonable availability of information on uncontrolled dealings. For example, the ATO acknowledges that the cost-plus method may not always be the most appropriate in all circumstances. The comparable uncontrolled price method may be most appropriate in cases where there is a high level of comparability, while a profit method may be more suitable if the expected value of the service derived by the recipient is far in excess of the cost of providing the specified service, or where the services form part of highly integrated dealings between the associated enterprises.

Further, the ATO has published a Practical Compliance Guideline (PCG 2017/2) whereby an option to maintain a simplified transfer pricing record keeping for low value-adding intra-group services is provided to certain eligible taxpayers. As per the aforesaid PCG, the eligible taxpayers have to merely self-assess the fact that their relevant transactions are in compliance with the domestic transfer pricing law. The eligibility criteria for maintaining the simplified transfer pricing record keeping for low value-adding intra-group services, are as follows:

  • Combined value of services received and provided is AUD 2 million or less; or
  • The combined value of services received and provided is greater than AUD 2 million;
    • but for services received by the taxpayer - the total amount charged to the taxpayer must not be more than 15% of the total expenses of the taxpayer’s Australian economic group;
    • but for services provided by the taxpayer - the total amount derived by the taxpayer must not be more than 15% of the total revenue of the taxpayer’s Australian economic group; and
  • Taxpayer has low-value adding intra-group services expenses of not more than 25% of the taxpayer’s pre-intra-group services charges profit;
  • Taxpayer have a mark-up on costs of the relevant services of;
    • 5% or less for services received by the taxpayer;
    • 5% or more for services provided by the taxpayer;
  • Taxpayer has not made sustained losses;
  • Taxpayer has not undergone a restructure within the year; and
  • Taxpayer has assessed his compliance with the transfer pricing rules.

Cases in which no Adjustment will be Made

As a matter of administrative practice, the Commissioner will not make any adjustments to transfer prices for services to achieve strict conformity with arm's length prices in two distinct cases. A taxpayer may rely on such administrative practice in setting its transfer prices, but the decision to do so should be made on a year-by-year basis.

These comprise, firstly, cases where non-core services are provided; that is, services that are not integral to a multinational group’s profit-earning or economically significant activities. Though the actual circumstances of each case would determine whether or not the activities concerned are non-core activities, such activities are broadly understood to include those that support the group's main business and are generally routine but differ from those from which the group derives its income. Examples include administrative, and personnel services, management of remuneration schemes, and other overhead activities, but they generally exclude services such as assistance with production or undertaking market analysis for a distributor or seller of goods or services.

The second instance in which no adjustment will be made is in de minimis cases; that is, cases in which the costs of all intra-group services supplied or acquired are regarded as being relatively small. The benchmark threshold used for this purpose is where the total direct and indirect costs of supplying services to Australian or foreign associated enterprises does not exceed AUD 500,000 in the year concerned. The application of this rule is subject to a number of exceptions where it may not apply, including where an Australian service supplier fails to exercise reasonable care in including all of its allocable expenditure or where the taxpayer group does not exercise reasonable care in categorizing intra-group services as non-core. The de minimis approach may, as a general rule, not be used in combination with other arm’s length methodologies employed within a corporate group.

Related Party Financing Arrangements

On 18 December 2017, the ATO published the finalized Practical Compliance Guideline concerning the ATO compliance approach to taxation issues associated with cross-border related-party financing arrangements and related transactions. The Guideline provides a framework for taxpayers to assess the tax risk of their related-party financing arrangement and understand the position of the ATO in respect of such arrangements. In general, the ATO expects any pricing of a related party debt to be in line with the commercial incentive of achieving the lowest possible 'all-in' cost to the borrower. The ATO expects, in most cases, the cost of the financing to align with the costs that could be achieved, on an arm's length basis, by the parent of the global group to which the borrower and lender both belong.

In order to make a risk assessment of an arrangement, pricing and motivational risk scoring tables are used with values assigned to specific risk indicators, including pricing risk scoring table indicators and motivational risk scoring table indicators.The sums of the indicator values are used to classify the pricing and motivational risk zones, which are then combined to determine the overall risk of a financing arrangement in one of five zones from low to high risk: green, blue, yellow, amber, and red. The higher the level of risk, the greater the amount of compliance resources the ATO will apply in reviewing the arrangement. A sixth zone (the white zone) is for arrangements already reviewed and concluded by the ATO.

On 10 December 2020, the ATO updated the Practical Compliance Guideline 2017/4 to include certain amendments in 2021 RTP Schedule and a new Schedule 3 dealing with interest-free loans between related parties. The outbound interest-free loans between related parties are considered high transfer pricing risk (amber zone) by the ATO since such loans are not provided by independent parties on an interest-free basis. However, the risk to the taxpayer may be minimized to the blue zone (moderate risk) or the green zone (low risk) with other considerations given in Schedule 3 of the Practical Compliance Guideline. To assess whether an arrangement falls within or outside the amber zone, the taxpayers are required to consider the various factors given in Schedule 3. For an arrangement to be deemed low risk, a reasonable conclusion should be placed that the zero interest is an arm-length condition of the loan, a loan is in substance an equity contribution, or that independent entities would not have entered into the actual loan but would have entered into an equity funding arrangement. The Schedule 3 of Practical Compliance Guideline applies effective 1 January 2020 to existing and newly created related party interest-free loans.

The Practical Compliance Guideline is updated to include a schedule on guidelines for risk assessment for ‘derivative arrangements’ with a related party, which are applicable to existing and newly created related party derivative arrangements effective from 1 January 2019. The schedule sets out specific risk indicators for related party derivative arrangements that are used to hedge or manage the economic exposure of a company or group of companies. Where a derivative is used for commercially rational hedging purposes (i.e., to manage an economic exposure for a company or group of companies), the derivative is normally entered into with an unrelated third party (directly or indirectly). Where the derivative is entered into with a related party, the ATO is likely to consider the arrangement as higher risk, unless the terms and conditions of the related party derivative are then backed out to a non-related party dealing at arm's length in the external market on similar terms. Where a derivative is (either directly or indirectly, via one or more interposed related parties) backed out to the external market to a non-related party dealing at arm's length on similar terms, then the arrangement will be considered in either the green or blue zone (excluding certain arrangements).

A self-assessment should be performed for existing arrangements at the start of each income year with subsequent reviews during the year where additional information becomes available and whenever a new arrangement is entered into. No assessment is needed if an arrangement is deemed to be in the white zone, and there have been no material changes.

Centralized Operating Models ('Hubs')

The ATO has published Practical Compliance Guideline (PCG) 2017/1, which covers the ATO's compliance approach to transfer pricing issues related to centralized operating models involving procurement, marketing, sales, and distribution functions ("hubs"). Effective 1 January 2018, an updated version of PCG 2017/1 is applicable, which mainly covers the ATO's compliance approach for arrangements involving offshore procurement hubs that supply indirect or 'non-core' goods or services (non-core products) to Australian entities. The non-core products includes goods and services that support the operations of a business and cannot be converted into a finished item or resold, such as office equipment, consumables, packaging, fuel, advertising, travel management, and professional services.

The framework set out in the Guideline can be used to assess the compliance risk of the transfer pricing outcomes in accordance with the ATO's risk framework and understand the compliance approach and position of the ATO with regard to the risk profile of a hub.

Risk Management and Governance Review Guide

The ATO has published a guide setting out principles for tax risk management and governance. The guide, which was developed primarily for large and complex corporations, tax consolidated groups, and foreign multinational corporations conducting business in Australia, can also be applied to a corporation of any size if tailored appropriately.


The general transfer pricing documentation requirements (see Sec. 13.4.3.) also apply to the keeping of documentation covering transactions involving the supply of intra-group services. However, in such cases, a number of additional documentation requirements may still need to be met. For example, additional documentation may need to be maintained in respect of:

  • Contracts or agreements for the provision of services between related parties, including documentation on the variations to such contracts and agreements, in the event of a substantial change in the conditions governing the provision of services;
  • Documents in support of the categorization of activities, including the consideration and recognition of non-chargeable activities;
  • Documents in support of the selection of a charging method, and the reasons for considering the selected method as the most appropriate for the particular case;
  • Documents in support of the calculation of cost-based charges;
  • Documents in support of the mechanism used in the determination of amounts to be apportioned among associated enterprises (e.g., formulas and time surveys);
  • Documents in support of the selection of keys used in the apportionment among associated enterprises, and reasons for considering such keys as the most appropriate in the circumstances of each case;
  • Documents in support of the selection of a pricing methodology or methodologies and any documentation showing other methodologies that were considered and rejected; and
  • Documentation evidencing any functional analysis undertaken of the various group members to establish the relationship between the relevant services provided by such members and the members' activities and performance.

Inbound Distribution Arrangements

On 13 March 2019, the ATO published the Practical Compliance Guideline 2019/1 concerning the ATO compliance approach to transfer pricing issues associated with the following activities of inbound distributors:

  • Distributing goods purchased from related foreign entities for resale; and
  • Distributing digital products or services where the intellectual property in those products or services is owned by related foreign entities.

The Guideline is applicable for existing as well as new inbound distribution arrangements.

The inbound distributor is an intermediary between the producer of a good and another entity in the distribution channel or supply chain. A distributor earns a gross profit from the difference between the price at which they sell the good, and the price which they pay. A distributor incurs various selling and administrative costs that must be covered by this gross profit in order for it to make a net profit. In relation to the distribution of digital products and services, an inbound distributor is an intermediary between the intellectual property owner and the customer or end-user of the digital product or service. Inbound distributors include entities that sell to retailers, merchants, contractors, or industrial, institutional, or commercial users.

The Guideline provides a framework that can be used by taxpayers to assess the transfer pricing risk and understand the ATO compliance approach based on the transfer pricing risk profile of the inbound distribution arrangement. The transfer pricing risk of inbound distribution arrangements is assessed by comparing the profit outcome of the arrangements against the ATO's profit markers for inbound distributors. The profit outcome is analyzed using earnings before interest and tax (EBIT) relative to sales, which is considered to provide a reasonable basis for the ATO to identify transfer pricing risks for inbound distribution arrangements. The profit markers (EBIT margins) and risk assessment (high, medium, low) are provided in the Guideline for certain industry sectors, namely life science industry sector, information and communication technology sector, motor vehicle sector, and general distributors.

On the basis of the Guideline, ATO may assess the transfer pricing risk of inbound distribution arrangements and rate the transfer pricing risk having regard to a combination of quantitative and qualitative factors. On the basis of the risk assessment, the ATO may apply compliance resources to review, as also to monitor, test, and/or verify the transfer pricing outcomes of the inbound distribution arrangements.

Business Restructuring

The approach to the application of the arm's length principle in the context of business restructurings is set out in ATO's public ruling TR 2011/1EC, the key elements of which are summarized below. "Business restructuring" is understood to refer to arrangements of multinational enterprises (MNEs) through which business functions, assets, or risks are transferred between jurisdictions.

Basic Approach to the Application of the Arm's Length Principle

The main objective behind the application of the transfer pricing rules in the context of business restructuring is to ensure that the consideration given by a taxpayer for the supply or acquisition of property under an international agreement in respect of such restructuring is consistent with what an independent person dealing at arm's length with the supplier or provider would have paid.

Application of Arm's Length Principles

The ATO recommends a 3-step approach in setting or reviewing transfer pricing for international dealings between associated enterprises in respect of business restructuring arrangements.

The first step involves characterizing the international dealings between the associated enterprises in the context of the taxpayer's business. This involves, among other things:

  • The identification of the scope, type, and value of the international dealings with associated enterprises involved in the business restructuring;
  • The performance of functional analyses of the pre and post-restructuring business activities affected by the business restructuring;
  • Reference to any relevant contracts concluded to implement the business restructuring (e.g., contracts for the sale of property) and those containing the terms of the pre and post-restructuring arrangements for the business activities covered by the restructuring; and
  • An examination of whether the contractual terms are consistent with the outcomes of the functional analyses and determine the true nature, terms, and effects of the business restructuring.

The second step involves the selection of the most appropriate transfer pricing methodology or methodologies involving, among others:

  • The identification of the available data based on which an arm's length consideration for the dealings (separately and in their entirety) may be determined; and
  • A determination of the most appropriate arm's length pricing methodology or methodologies, depending on the facts and circumstances of the particular case.

The third and final step involves applying the most appropriate method and determining an arm's length result, which involves, among other things, the following:

  • A determination of the consideration that independent parties dealing at arm's length in comparable circumstances might reasonably be expected to agree to; and
  • The performance of a comparability analysis is based on available data about arrangements between independent parties that are dealing with each other at arm's length in comparable circumstances.

Documentation of Business

Although the documentation in support of the decision-making process involving the overall strategy of a corporate group would usually be prepared at the global, regional, or product/functional level, the local entity belonging to the group will also be expected to prepare detailed local documentation at its own level. As a general rule, the usual guidelines governing the documentation of transfer pricing practices (see Sec. 13.4.3.) also apply to business restructuring. However, at the very minimum, the local entity is also expected to maintain documentation in relation to the following:

  • The corporate group's internal analyses, reports, submissions, and calculations pertaining to its decision to undertake the restructuring and to shift particular functions, assets and risks;
  • Documentation which describes the business context in which the restructuring is undertaken and the benefits and efficiencies that the parties (both the entire group and the individual members) expect to derive from it;
  • Any contracts that are relevant to the business restructuring, including those that were concluded for its implementation (e.g., contracts for the sale of property), as well as contracts containing the terms of the pre and post-restructuring arrangements for the business activities that are affected by the restructuring;
  • Documentation of functional analyses undertaken of the functions performed, assets used and risks assumed by the parties under both the pre and post-restructuring arrangements for the business activities covered by the restructuring; and
  • Documentation of comparability analyses undertaken based on available uncontrolled comparables data to determine the arm's length pricing chosen for the business restructuring.

Commissionaire Structures

The general guidelines governing the application of the arm’s length principle apply in situations involving commissionaire arrangements. Within the specific context of a business restructuring, the ATO has stated that where such restructuring involves one entity assuming the role of a service provider to a principal, as in the case of a commissionaire arrangement, consideration will be given to whether the principal might realistically have had the option to employ other entities in the marketplace to perform such services if it were an independent party.

Mobile Offshore Drilling Units

The ATO has published Practical Compliance Guideline (PCG) 2020/1 on 19 February 2020 (applicable before and after its issue), which covers the ATO’s compliance approach to transfer pricing issues related to projects involving the use of mobile offshore drilling units owned by non-residents, such as drill-ships, drilling rigs, pipe-laying vessels and heavy-lift vessels in Australian waters.

Generally, these assets are the subject of lease-in lease-out arrangements whereby the asset is sourced from the non-resident owner via a chain of related party bareboat leases, it may also include related party bareboat leasing directly from the non-resident (legal or in-substance) owner. The PCG addresses transfer pricing issues related to the use of these assets in Australian waters by the operator, be it one or more of:

  • An Australian tax resident; or
  • A non-resident entity with a permanent establishment in Australia.

The ‘Operator’ refers to the entity or entities ensuring the performance of the drilling (or similar) contract in satisfaction of the project specifications, coordinating the mobile offshore drilling units and highly skilled personnel operating it.

The PCG does not apply in certain specified cases.

The framework set out in the Guideline can be used to assess the compliance risk of the transfer pricing outcomes in accordance with the ATO's risk framework and understand the compliance approach and position of the ATO with regard to the risk profile of an offshore drilling and associated activities.

Permanent Establishment (‘AOA Approach’)

Australia has made a reservation to the use of the current version of Article 7of the OECD Model Tax Convention, which inter alia envisages the Authorized OECD Approach.

The domestic law does not recognize dealings between different parts of one entity in as much as that that only income from, and expenditure with, other entities can be allocated to a PE, thereby implying that Australia follows the Relevant Business Activity approach when attributing arm’s length profits to PEs, and specifically, notional transactions between the PE and the head office are not recognized as part of the attribution process. This approach is outlined in Taxation Ruling TR 2001/11.