How to Value: Tax/Transfer Pricing

Tax and transfer pricing professionals are mainly concerned with the valuation of intangible assets in the intra-group context.  In assessing the appropriate value for any IP transferred between related parties, professionals refer to the "fair market value", a concept that is defined by the OECD's Transfer Pricing Guidelines.  Fair market value is the estimated amount for which an asset could be exchanged in arm's length transactions as if the two parties were unrelated.  The challenge is that intangibles are not priced by a standard pricing mechanisms in the open marketplace, so the perspectives of both the transferor of the property and the transferee must be taken into account in order to determine a proper price for the IP.  The three methods that are used by tax and transfer pricing professionals when determining the value of IP are: the cost method, the market method, and the income method.  Each of these methods is described in more detail in the Valuation Method section of the homepage.  

The general guidance for applying the arm's length principle, as outlined in Chapter 1 of the OECD Guidelines, pertains equally to the determination of transfer pricing between related parties for IP related transactions.  This principle can however be difficult to apply to controlled transactions involving intangible property because such property has a special character complicating the search for comparables and in some cases making it difficult to accurately determine the value at the time of the transaction.  

Arm's length pricing for IP-related transactions should take into account, for the purposes of comparability, the perspective of the transferor of the property and the transferee.  From the perspective of the transferor, the arm's length principle would examine the pricing at which a comparable independent enterprise would be willing to transfer the property.  From the perspective of the transferee, the transferee will generally be prepared to pay for the IP if the benefit it reasonably expects to secure from the use of the intangibles is satisfactory having regard to other options realistically available.  According to Paragraph 9.80 of the OECD Transfer Pricing Guidelines: “An essential part of the analysis of a business restructuring is to identify the significant intangible assets that were transferred (if any), whether independent parties would have remunerated their transfer, and what their arm’s length value is.”

Paragraph 9.93 of the OECD Transfer Pricing Guidelines then addresses the object to be valued: “The valuation of a transfer of an ongoing concern should reflect all the valuable elements that would be remunerated between independent parties in comparable circumstances. For example, in the case of a business restructuring that involves the transfer of a business unit that includes, among other things, research facilities staffed with an experienced research team, the valuation of such ongoing concern should reflect, among other things, the value of the facility and the value (if any) of the workforce in place that would be agreed upon at arm’s length.”