Tax Notes International - Volume 106 Number 10

The malfunction of commonly used transfer pricing methods has been central to the problem of base erosion and profit shifting that has motivated the ongoing tax reform efforts of the OECD and its inclusive framework. Nevertheless, the pending pillar 1 and 2 proposals would effect little change in the OECD’s transfer pricing guidelines.

This article explores the damage that has been inflicted on international tax administration by one widely used category of transfer pricing methods, the benchmarking of taxpayers’ profitability under the transactional net margin method (TNMM) of the OECD transfer pricing guidelines and the similar comparable profits method of the U.S. transfer pricing regulations. Unless corrective measures are taken soon by the OECD and the inclusive framework, even after pillars 1 and 2 have been implemented the defective elements of these transfer pricing methods will impair the administration of corporate tax in countries at all levels of economic development.

This article seeks to explain the problems caused by benchmarking methods and to suggest relatively simple, path-dependent measures that might be taken now to improve the effectiveness of benchmarking.

In particular, the article:

• describes how intractable defects in benchmarking methods, especially the problem of wide “arm’s-length ranges,” have for many years facilitated BEPS and threaten to do so even after implementation of pillars 1 and 2;

• offers evidence of grossly wide arm’s-length ranges based on research recently performed by Andrew Hughes and published by Tax Notes; and

• suggests modifications to benchmarking methods that would remain consistent with the arm’s-length principle and with the overall framework of current practices but would determine arm’s-length levels of income with much more certainty.


Michael Durst

Michael Durst is a long-time US tax practitioner, an author on international taxation and developing countries, a former government official and law professor, and a Senior Fellow of the ICTD.