ATAX MANAGEMENT ANSFER PRIG VOL 12, NO. 23 SPECIAL REPORT APRIL 14 2004 Europe as One Market: A Transfer Pricing Economic Analysis of Pan-European Comparables Sets By Peter Meenan, Roman Dawid, and Jorg Hulshorst Table of Contents B. General Comparability for the T lines I Introduction S-3 C Comparability Analysis Process II. The European Single Market Initiative he TNMM A. Treaty of Rome in 195 1. European Financial Database S-10 B Further Harmonization in the Eighties 2. Refining the Comparability Analysis.. S-11 C Monetary Union 3. Finalizing the Comparability Harmonization of Legal Framework Analysis S-11 E. Conclusion D. SI S-11 IiI Is Europe One Market? -Overview of V. Empirical Analysis of"Is Europe One Previous Research Appendices S-6 Market?' S-11 A. Price Convergence S-7 Specific Tests Intra-EU Trade Fl 1. Refinement of the Comparability European Financial Market Integration Selection Process for the specific D. Profit Convergence E, Summary of Previous Research 2. An Outcome of the Specific Tests- bility and ma rkets in the oecD Uneven Data Distribution by Guidelines and the TNMM Comparability Analysis Process s-9 3. Statistical Analysis of the Specific A Market Comparability for the TNMM S-14 the OECD guidelines S-9 B. Broader Tests 1. Overview of the Broader Tests Statistical Analyses Report No. 43 2. Interquartile Range Tests for Broader Tests Circulate this Special Report to practitioners 3. Supplementary Tests for Broader involved in transfer pricing C Conclusions Regarding the Emp Then FiLE behind the Special Reports tab in Analysis of"Is Europe One Marke the Tax Management Transfer Pricing VI Conclusion November-April binder. VIIL. Excerpts from EU Commission Paper on Taxation in the internal Market CPYRIGHT 2004 BY THE BUREAU OF NATIONAL AFFAIRS, INC., WASHINGTON, D. C. 20037 ISSN 1C63-2C69
s2(vo.12, 3 About the Authors Dr. Peter Meenan is a U. S. Principal who is located in Deloittes Tokyo offices as of June 2004. Meenan was previously in Deloitte's Dusseldorf and London offices, where he had specialized in European transfer pricing issues since his transfer to Europe in 1997. Meenan joined Deloitte's transfer pricing practices in the New York office in 1993. Before joining Deloitte Meenan was an economic professor at California Sate University and at Loyola College in the United States He holds a Chartered Financial analyst certification Dr. Roman Dawid is an economist and senior manager with Deloitte's German Transfer Pricing Group, and is based in Dusseldorf, Germany. Before joining Deloitte, Dawid worked as a research and teaching assistant at the university of Bochum Dr. JOrg Hulshorst is an economist and manager with Deloitte's german Deloitte, Hulshorst worked for over four years with a big multinational insurance group,holding positions in both the primary and the reinsurance businesses of the company. Prior to this he was a research and teaching assistant at the University of Dresden <6. This Special Report is provided to subscribers to Tax Management Transfer Pricing Report. Extra copies of s report are available for $250 each. The following quantity discounts are avail copies,15%, 26-50 copies, 20%; 51-100 copies, 25%. To order copies, call toll-free(800)223-7270, or in Wash- ington, D.C., call 785-7191 Copyright2004 TAX MANAGEMENT INC, a subsidiary of The Bureau of National Affairs, Inc. TMTR ISSN 1063-2069
ANALYSIS ol.12,no.23)s3 Analysis Europe as One Market: A Transfer Pricing Economic Analysis of Pan-European Comparables Sets By PETER MEENAN, ROMAN DAWID, AND JORG comparability HULSHORST' principles n for Economic fer pricing guide I.Introduction he transactional net ma widely used transfer p the operating profits o "tested", party) to an profits developed from nies. There is an eme whether the thi country pan-Eurc reliable whether pricing methods th country-specif portant for trans ners, and mu tently apply undue cost bt Pa ch as op- ng pront most frequentl tain forms of th range of results plus method, as e75th percentile, which is require the use of third ethod of determining an TAX MANAGEMENT TRANSFER PRICING REPCRT ISSN 1063-2069 BNA TAX 414-04
(Vo.12,No,23) ANALYSIS Executive Summary a Analysis compares pan-European results to country-specific results. This paper presents original Deloitte Touche re- search analyzing the issue whether pan-European comparables sets provide statistically different arms-length ranges of results compared to an arms-length range of results formed by European country-specific comparable companies a widely accepted statistical methods used. The approach is scientific in that the paper in our analysis. Arm'slength ranges of comparable companies are generated for al teet epted statistical Economic Cooperation and Development transfer pricing principles, conservative statistIc to test the reasonableness of these assumptions. The approach assumptions and statistical a Economlc evidence indicates that European markets are integrating or have integrated. As a prelude to the statistical analysis, the authors briefly review whether the critical legal factors that allow undistorted economic activities between he European states'markets are already in place, so that it is reasonable to test whether Europe is an integrated market for transfer pricing purposes. Further, economic studies that test the results of these European Union initiatives are re- viewed as to whether EU product and financial markets have converged in prices, intra-EU trade, profits, etc. The evidence demonstrates that the most significant market impediments among EU member states have been abolished, and that the foundation for a highly integrated European market is already in place the economic evidence indicates that Eu- ropean markets are integrating (or have integrated)and that in many ways the levels of price or profit differences among European countries are not meaningfully different from the differences found in integrated markets, such as japan or the United States B Economic evidence indicates that European markets are integrating or have integrated As a prelude to the statistical analysis, the authors briefly review whether the critical legal factors that allow undistorted economic activities betw for transfer pricing purposes. Further, economic studies that test the results of these European Union initiatives are re- viewed as to whether EU product and financial markets have converged in prices, intra-EU trade, profits, etc. The legal gnificant market impediments among EU member states have been abolished, and ed European market is already in place the economic evidence indicates that Eu- opean markets are integrating nd that in many ways the levels of price or profit differences amon European countries are not fferences found in integrated markets, such as Japan or the United states Two separate sets of tests. The paper's statistical analysis comprises two separate series of tests covering nine indus- is per formed to develop pan-European and country-specific arms-length ranges i tests, a detailed comparability analysis comparability analysis practice. The second series of tests takes a broader view of comparability, in that the arms-length ges are calculated from companies identified as comparable based principally on industry classification codes n Results clearly show that European arms-length ranges do not statistically differ from country-specif ranges. The results of the statistical analysis under both series of tests clearly show that European arm's-I do not statistically differ from country-specific arm'slength ranges in almost all cases. Specifically, out of ed testing the statistical equality of upper and lower quartiles of arms-length ranges using 95 per m s, 219 tests( approximately 94 percent of the tests) generate resuits supporting the equality of interquartile In other words, it is highly likely that a country-specific comparability analysis and a pan-European comparability would result in interquartile arm's-length ranges of results that were not statistically different at a 95 percent a When differences occur no pattern is evident. Further, when the country-specific arms-length range was statistically different from the pan-European arms-length range, there was no obvious bias or pattern of profit levels indicating that a particular European country's arm' s-length range of results is always statistic ally different from the rest of Europe. m Results clearly indicate that pan-European comparability searches produce reliable arm' s-length ranges. Pan-European comparability analysis may not be appropriate in all situations: the specific facts and circumstances in each case should be assessed in making this determination. However, the papers results clearly indicate that pan-European comparability searches do produce reliable arm'slength ranges of resuits relative to country-specific arm's-leng ges. Thus, the use of pan- European studies should generally be promoted, because they generate reliable resuits, as indicated by this study 41404 Copyright 2004 TAX MANAGEMENT NC,. a subsidiary of The Bureau of Nats cnai Affairs, inc. TMTR ISSN 1063-2069
ANALYSIS (vol.12.No.23) Further, given that the number of closely comparable liberalize exchanges of goods and services among companies in any given country for a given functional member states as far as possible by bution of comparable companies in our data below), the nating customs duties among member he goal of elimi and risk profile is limited or nonexistent(see the distri- n creating a customs union, with omparable companies will provide the most reliable arm's length range of results(and one that is consistent a eliminating quantitative restrictions (i.e, quotas with the OECd guidelines comparability requirements) ind measures having equivalent effect) to ensure the compared with country-specific comparables, which completely free movement of goods will often require less functional comparability to be The Treaty of Rome provided for completion of a common market over a transitional period of 12 years ending on 31 December 1969. However, its first goal, ll. The European Single the customs union was achieved in mid-1968 Market Initiative B. Further Harmonization in the eighties The economic question of whether profit results for rard the common mar tentially comparable third- party European com ket led the Community in the mid-1980s to consider a nies can produce statistically, similar, arm's-length more thorough approach to the objective of removing ranges esults is fundamentally dependent on the le- gal and political development process of the European trade barriers with more effective methods to create single market initiative. If the legal and political frame- internal market. This approach was primarily set out in the Commission's White Paper of June 1985, and incor work for European economic integration is still at an porated in the Treaty of Rome by the 1986 Single Euro- earty sansactioevelopment, or if there are still signifi- pean Act(SEA). The White Paper was appr 300 legisla- ved in n costs from intra-European trade, test- ng for Europe as one market for transfer pricing pur. by the European Council. It outlined about poses would not be reasonable Briefly reviewed below tive measures to accomplish the three main objectives, hich to eli the legal and political ean market integration proces a physical frontiers, by abolishing checks on goods The process of European economic integration has and persons at internal country borders een characterized by more than four decades of the et a technical frontiers, by removing the barriers of na fective removal of economic boundaries and market tional regulations on products and services, by harmo barriers.In addition, a political and institutional frame- nization or mutual recognition; and work to enhance nomic activities between the tax frontiers, by overcoming the obstacles created cross-border transactions has been implemented. A by differences in indirect taxes through the harmoniza brief review of the history of the European single mar tion or approximation of VaT rates and excise duty ket initiative supports the conclusion that the most sig The internal market was intended to create "an area nificant market impediments among EU member states W have been abolished, and that the foundation for an in of goods, persons, services and capital is ensu tegrated European market is already in place. B Moreover, it was accompanied by changes in the Com munity legislative system, designed to encourage adop A. Treaty of Rome of 1958 tion of the meas SEa became effective in 1987; its main objectives in which together with the European Atomic Energy Com market strongly supported an objective already set out munity(EAEC jointly referred to as the Treaties of n the original Treaties of Rome. By the deadline, most of the 1992 targets had been met: over 90 percent of the establish a common market based on four freedoms- legislative projects listed in the 1985 White Paper had freedom of movement of goods, persons, capital, and been ado services-and the gradual convergence of economic The Treaty on European Union, signed in Maastricht policies. The treaty was intended to eliminate trade bar in 1992, came into force in November 1993. By institut- riers among member states with the aim of increasing ing a European Union, the Maastricht Treaty marked a conomic prosperity and cont ributing to"an ever closer new step in the process of creat ting an ever- closer union union among the peoples of Europe, "as described by among the European economies. The Union was based the treaty s authors on the European Community, supported by policies and To achieve these objectives the Eec Treaty laid new forms of cooperation. According to the treaty, the down guiding principles and defined the framework for Communitys task is to promote a harmonious, bal the legislative activities of Community institutions anced and sustainable development of economic activi- These involved policies such as a common agricultural ties, a high level of employment, sustainable and nonin transport, and commercial policy. The common market, flationary growth, a high degree of competitiveness and the Treaty of Rome's main objective was intended to onvergence of economic performance, and economic and social cohesion among member states. The Com munity pursued these objectives by establishing a com This section is largely based on an EU history fact sheet mon market and by initiating a coordinated economic foundathttp://www.europarl.eu.intfacts and monetary policy TAX MANAGEMENT TRANSFER PRICING REPORT (SSN 1063-2069 ENA TAX 4-14-04