Form C YA 2022: Trade / Brand Name / Intellectual Property in respect of Controlled Transactions

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What are Intangible Assets?

The very nature of intangibles makes them challenging to define.

A physical product may be seen, touched, or pointed to, whereas an intangible product, such as an idea or know-how, does not have any physical properties.

According to the definition provided by the OECD, an intangible asset is “anything that is capable of being owned or controlled for use in commercial activities but is neither a physical asset nor a financial asset.”

Categories of Intangible Assets

When addressing problems with transfer pricing that are associated with intangible assets, it is not uncommon for distinct classes of intangibles to be broken out and labelled.

There are instances when distinctions are drawn between trade intangibles and marketing intangibles, between “soft” and “hard” intangibles, routine and non-routine intangibles, and various other classifications and categories of intangibles.

Transfer pricing requires related parties to price transactions between themselves based on the arm’s length principle.

This is the price that independent entities would have agreed to in comparable circumstances if they acted to maximise their economic return from the transaction.

However, transfer pricing through intellectual property (IP) has become a more widespread channel of profit shifting in recent decades since moving intangibles is easier; it can be done digitally, and it is very easy to sell or license intangibles all over the world compared to manufactured goods.

Recent changes were made to Form C by the Inland Revenue Board in preparation for the YA 2022. One of the most critical changes is for those businesses participating in transfer pricing arrangements.

As a result, the disclosure items have been significantly expanded to cover new areas.

These new areas include stating the characterisation of your company by reference to its functional profile, the business restructuring undertaken by the group during the year, and whether or not your company engages in cash pooling activities, performs any research and development activities or owns any intellectual properties.

Form C Requires Additional Disclosures

A great number of multinational corporations use a strategy in which any intellectual property that is developed within the group is transferred into a “title holding” entity or a centralised IP holding company (legal owner).

This company is responsible for ensuring that the legal ownership of the intellectual property is maintained in one centralised entity within the corporation.

Other members of the group may be required to pay royalties or licencing fees to the entity that legally owns the intellectual property to make use of it.

This is true even though the person who legally owns the intellectual property may have only played a minor role in the process of developing the IP.

Hence, for the purposes of transfer pricing, the criteria for ownership are not limited to legal ownership alone; rather, they also include Economic Ownership.

Economic ownership is typically determined through a Development, Enhancement, Maintenance, Protection, and Exploitation (DEMPE) analysis of intangibles.

A taxpayer involved in controlled transactions must indicate if the Company owns any trade/ brand name/ intellectual property in Form C effective from YA 2022.

To provide an appropriate response to this question, we must have an understanding of the terms “trade/brand name / intellectual property”

Trademarks, Trade Names and Brands

A trademark is a unique name, symbol, logo or picture that the owner may use to distinguish its products and services from those of other entities.

A registration mechanism is typically utilised to provide evidence of the proprietor’s rights in a trademark.

The registered owner of a trademark can prevent others from using the trademark in a manner that could lead to consumer misunderstanding in the market.

If the trademark is consistently put to use and the registration is maintained appropriately, it is possible to maintain trademark registration indefinitely.

It is possible to establish a trademark for a product or service, and that trademark can apply to a single product or service or an entire line of products or services.

A trade name (often but not always the name of an enterprise) may have the same force of market penetration as a trademark and be registered in some form similar to a trademark. The brand names of particular multinational corporations may be instantly recognisable and may be used in the promotion or marketing of a wide range of products and services.

Photo: Shelly Chang

Sometimes the terms “trademark” and “trade name” are used in place of “brand,” as though all three concepts were synonymous.

In some situations, the term “brand” refers to a trademark or trade name that carries a certain amount of social and commercial value.

A brand may be thought of as an amalgamation of intangibles and/or other things, such as:

  • trademarks,
  • trade names,
  • customer relationships,
  • reputational qualities, and
  • goodwill.

It may sometimes be difficult or impossible to segregate or separately transfer the various items contributing to brand value. Intangible assets can be grouped together to form a brand, or a single intangible asset might make up a brand.

Intellectual Property

Intellectual property (IP) is a type of intangible asset that is non-physical in form, the value of which can be determined by the possibility that it could generate revenue and which, due to the nature of the asset, can be legally protected.

The most common types of IP are:

  • Patents;
  • Trademarks;
  • Copyrights; and
  • Trade Secrets.

Each one of them is eligible for legal protection, which implies that to make use of these assets, one must do so through parties that are either the owners of the applicable intellectual property rights or have had these rights transferred to them (e.g. through franchising or licencing agreements).

What happens if you own any Trade/ Brand Name/ Intellectual Property

If the legal owner of the intangible is economically responsible for all functions, assets and risks concerning the Development, Enhancement, Maintenance, Protection, and Exploitation (DEMPE) of the intangible lifecycle, the OECD Guidelines indicate the legal owner of the intangible is likely to have the right to expect full rights to any profits derived from the use of that intangible

As a result, even significant forms of advertising, marketing, and promotion on the taxpayer’s part may be considered by the IRB to be brand enhancement activities, which may result in an expectation of compensation for economic ownership.

In The Case Of LG Electronics India Private Ltd

  • L.G. Electronics India Pvt. Ltd. (‘the Taxpayer’) is a subsidiary of L.G. Electronics Inc., Korea (‘associated enterprise’) and is engaged in the business of manufacturing and sale of consumer electronics products in India under the brand name “LG“.
  • During the relevant year, the Taxpayer incurred advertisement, marketing and sales promotion expenses (‘AMP expenses’), amounting to 3.85% of sales.
  • As per the analysis of the Transfer Pricing Officer (‘TPO’) applying the Bright Line Test, the ratio of AMP expenses to sales of the Taxpayer was higher than the average of the similar ratio of two comparable companies, namely Videocon Appliances Ltd – 0.12% and Whirlpool of India Ltd – 2.66%, average AMP expense of the two comparables being 1.39%.
  • The TPO held that the excess AMP expenditure incurred by the Taxpayer was towards the creation of the brand ‘LG‘ in India which is legally owned by the associated enterprise. Therefore, the associated enterprise should have compensated the taxpayer for the excess AMP expenditure incurred by it.
  • The Dispute Resolution Panel (‘DRP’) upheld the order of the TPO. Also, it directed that a markup of 13% be charged to account for the opportunity cost (10.50%) and entrepreneurial efforts (2.50%) undertaken by the Taxpayer.
  • Accordingly, an addition of Rs 182.71 crores was made to the income of the taxpayer.
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