Anti Abuse Notion of 'Control Over Intangible-Related Functions' is Beyond the Arm's Length Principle (ALP)

Edited on "European Taxation" by IBFD , issue n.5/2018 and also available on a single-article basis.

Posted: 14 Dec 2017 Last revised: 30 Apr 2018

See all articles by Andrea Musselli

Andrea Musselli

Studio Musselli - Economic, Tax and Legal Advisors

Date Written: December 14, 2017


The OECD Transfer pricing guidelines (TPG), in example 17 on Intangibles, deal with a buyer of a research project willing to acquire an intangible property, that may potentially be created through the research process. The TPG re-characterize the purchase of the research as a loan to the researcher, if the buyer lacks ability to control the researcher’s activity. TPG affirm that, in such cases, the loan and not the research purchase is commercially rational and in compliance with conditions independent parties would agree upon i.e. the arm’s length principle (ALP).

Based on economics of contracts and most influential empirical studies on credit rationing in circumstances of example 17, we argue that both the research purchase and the loan are ALP compliant, provided that the necessary adjustments (which are more relevant for the loan) are made. Given the conditions of example 17, which include a high degree of risk associated with the project at an early stage, the competitive position of the investor in the market, and competition between lenders or research providers, it is theoretically irrelevant which contract (loan or research purchase) is concluded; the actual residual claimant of intangible returns, whose remuneration is largely variable, given the assumed risk of a positive or a negative result, is always the funder of the investment, whether he is the lender or the buyer of the research.

This holds true if we correctly calculate loan interest at the rate adjusted for high risk based on the facts of example 17. In a capitalistic economy, the loan would most probably simply not exist because of credit rationing (Stiglitz,Weiss,1981) if the borrower (the research performer) has no collateralizable wealth (theoretically and empirically proved i.e. in Mookherjee-Ray 2002, Stiglitz 2014, De Nardi-Fella 2017) .

Example 17 does not explicitly mention the loan securization or the borrower’s creditworthiness, which we regardless take into account as a necessary adjustment. If the borrower provides collateralizable wealth, the loan could be granted and the same borrower would truly become the residual claimant of the gains or losses of the project; however, this is not due to the control over the research activity, but rather to putting his capital at risk. In any case, securing the loan does not substantiate the contract re-characterization, but only makes the loan an allowable option. The re-characterization of contracts disposed in TPG on the base of lack of control over intangible-related functions is not grounded in theory and also in empirical evidence under the arm’s length principle, despite what OECD affirms.

Proof and main consequences are discussed. Our proposition is regardless the issue, that we accept, that the company funding the investment project must have a “level” of substance such to be not considered a “pure cash box” that is, it must exercise the capability to oversee risks managed by another; clear rules setting the said threshold are necessary.

Keywords: Transfer Pricing, Contract Theory, Credit Rationing, Arm's Length Principle, OECD, BEPS, Intangible

JEL Classification: D86, K34

Suggested Citation

Musselli, Andrea, Anti Abuse Notion of 'Control Over Intangible-Related Functions' is Beyond the Arm's Length Principle (ALP) (December 14, 2017). Edited on "European Taxation" by IBFD , issue n.5/2018 and also available on a single-article basis., Available at SSRN:

Andrea Musselli (Contact Author)

Studio Musselli - Economic, Tax and Legal Advisors ( email )


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