Income shifting using a cost sharing arrangement

Income shifting using a cost sharing arrangement

By
Lisa De Simone, Richard Sansing
Journal of the American Taxation Association.
2019, Vol. 41, Pages 123-136

This study investigates the use of a cost sharing arrangement (CSA) by a multinational corporation (MNC) with domestically developed intangible property (IP) to shift the income attributable to the IP to low-tax foreign jurisdictions. Using a strategic tax compliance model, we identify three major effects that determine whether an MNC will use a CSA to develop the IP rather than develop the IP domestically: an operating intangible effect, an undervaluation effect, and an enforcement effect. First, we find that the MNC is more likely to use a CSA to develop the IP when the MNC has valuable domestic operating intangibles, such as a global brand. Second, the MNC is more likely to use a CSA if the nature of the IP development project allows the MNC to understate the fair market value of the IP. Third, the MNC is less likely to use a CSA if the tax authority can cost-effectively challenge the position and impose retroactive revaluations of the IP. We also compare the effects of the rules in the U.S. to the OECD transfer pricing guidelines used in most other countries.