The in July published discussion draft of the OECD on financial transactions indicates that in making
a transfer pricing analysis of intra-group loans, the same steps have to be taken as in transfer
pricing analyses of other intercompany transactions.
Furthermore, the discussion draft mentions the use of credit ratings to determine the arm’s length
character of financial transactions. Also, the effect of group membership on an MNE’s credit rating
In the below, we will highlight the main attention points included in the discussion draft in respect of
intra-group loans. We will post a separate blog on credit ratings next week.
Main attention points
Main attention points include:
– An intra-group loan should be characterized in accordance with the five comparability
factors that are included in the OECD Transfer Pricing Guidelines. The following factors should
therefore be considered:
o Contractual terms;
o Functional analysis;
o Characteristics of the loan;
o Economic circumstances;
o Business strategy of the MNE group.
– In analysing the economically relevant characteristics of an intra-group loan, both the
lender’s and the borrower’s perspectives should be taken into account. Hence, a two-sided
approach should be applied.
– The discussion draft recognizes that the position of a lender in an intra-group situation is
different from the position of an independent lender. For example, for the parent entity
granting of security would be less relevant as it already has control of and ownership of the
assets of its subsidiary. In a related party situation, the absence of a contractual right (e.g. a
pledge) over the assets of the borrower may therefore have a different economic outcome
than in a third-party situation. Whether this is indeed the case, will inter alia depend on the
question whether the borrower has already pledged the assets in respect of other loans (or
would be able to do so).
– From a borrower’s perspective, a borrower will in a third-party situation try to obtain the most
optimal funding conditions. Although providing security will usually lead to the best
conditions, a borrower will also take into account that once certain assets have been
pledged, this will preclude the borrower from pledging the same assets for other loans (with
the same ranking).
– The discussion draft mentions that regulatory requirements should also be taken into account,
as related party loans in some countries may be subordinated to third party loans in case of
insolvency of the borrower.
– The OECD recognizes the use of credit ratings as an important tool to determine whether the
conditions of intra-group loans are comparable to third party condition (more information in
our blog on credit ratings next week).
– As for guarantees, the OECD makes a distinction between implicit and explicit guarantees.
For an implicit guarantee, no separate remuneration has to be determined as it results from
mere group membership (see below). For an explicit guarantee, the OECD discussion draft
mentions five possible methods, i.e.:
o CUP method
o Yield approach
o Cost approach
o Valuation of expected loss approach
o Capital support method.
The OECD discussion draft does not (yet) indicate a preference for any of the above
methods. To our experience, the yield approach or the cost of capital approach are the
most feasible methods to apply in practice. It should be noted that the question how to
divide the benefit of a guarantee between the guarantor and the entity receiving the
guarantee has to be assessed in each specific case. This is in particular true in case the
when the yield approach has been applied.
Quantera Global has access to the relevant databases (for example Bloomberg and credit rating
models) to determine credit ratings for transfer pricing purposes, arm’s length interest rates and
guarantee fees. Our team also has the relevant in-depth experience to look also at the bigger
picture from both a technical and practical point of view.
Quantera Global has assisted various large and small MNEs in pricing intercompany loans and
guarantees. This includes experience in obtaining APAs with respect to the pricing methods and
related mechanism of financial transactions.
If you have any questions or remarks, please feel free to give us a call or send an email.
Quantera Global Finance Team
Enrico De Angelis
Executive Director UK
Adriaan van der Heijden