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Transfer Pricing Tax Alert - 15 February 2012 - EY - China

Hong Kong Tax Transfer Pricing Alert : 15 February 2012

Cost sharing: trends and challenges
in China

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This article originally appeared in the 9 February 2012 issue of BNA’s Tax Management Transfer Pricing Report Vol. 20 No. 19 on page 899.

By Jessica Tien, Janice Ng and Jane Wu

The authors examine trends and challenges related to the arm’s-length valuation of cost sharing buy-in and intangibles development payments in China.

The increasing complexity of businesses operating in China is leading Chinese subsidiaries of multinational companies to perform high-value-added research and development as well as brand-building activities that cannot be exclusively performed by their overseas affiliates. This has resulted in a growing tendency by Chinese tax authorities to challenge the routine level of remuneration allocated to Chinese affiliates, claiming that the Chinese subsidiaries are economic owners of the intangible assets in their respective region, entitling them to a share of the residual profits earned by the business.

Likewise, as China’s service industry continues to mature, many multinational companies have established regional headquarters in China to pool resources for group affiliates and provide centralized management, procurement, or sales and marketing services to the regional or Chinese group.

Participation in a cost sharing arrangement, therefore, is becoming more popular with Chinese subsidiaries as a way of reflecting their contribution to the market value chain and allowing them to achieve a ‘‘joint investment, joint participation, and shared benefit’’ target.

From a tax perspective, the arrangement can simplify a company’s cross-border intercompany transactions while optimizing its global tax and related administrative burden.

In addition to some of the basic concepts behind cost sharing arrangements, this article will present observations from the authors’ practical experience concerning China-specific trends and challenges related to the arm’s-length valuation of buy-in payments and cost sharing contributions.

Basic principles of cost sharing

The Organization for Economic Cooperation and Development defines cost sharing, or ‘‘cost contribution,’’ as follows:

A framework agreed among enterprises to share the costs and risks of developing, producing or obtaining assets, services or rights, and to determine the nature and extent of the interests of each participant in the results of the activity of developing, producing or obtaining those assets, services or right.1














In the paragraph above, the guidelines suggest that the proportionate share of the overall expected benefits to be received by each participant should be consistent with the participant’s proportionate share of the overall contributions.

Furthermore, unlike intercompany transaction arrangements where only one party acts as the entrepreneur while the others act as routine service providers, manufacturers, or distributors, participants in a cost sharing arrangement are jointly responsible for the development and maintenance of certain intangible assets and are entitled to exploit such intangible assets separately—effectively as an owner, not as service provider or licensee.

Likewise for a services cost sharing arrangement, participants are jointly responsible for the provision of services and are not viewed strictly as service recipients or providers.


1 OECD, Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations, July 2010, Glossary—25, a.k.a. Cost Contribution Analysis.


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