Page 73 - Strategic Tax Planning for Global Commerce & Investment

Strategic Tax Planning for Global Commerce and Investment

This method is ordinarily used for the manufacture, assembly, or
other production of goods that are sold to related parties.

Following the 2010 OECD Guidelines, the cost-plus method
should take into account the so called “full costs” of production
which should be equal to the sum of (i) the direct material costs,
(ii) the direct labor costs and (iii) factory overhead associated
with production. The cost-plus mark-up is determined with
reference to the mark-up derived by the same entity from a third
party sales (internal comparison) or with reference to the mark-
up derived by independent enterprises from sales to unrelated
parties (external comparison).

Comparability Analysis and the Cost-Plus Method

The general features of comparability apply to the cost-plus
method, including functions, contract terms, economic
conditions and business strategies. The producer’s gross profit is
designed to provide the producer with compensation for
performing production functions as to the product under
review. This gross profit is to include an operating profit for the
producer’s investment in capital and for the assumption of risks.
Comparability under this method is particularly dependent on
three factors: functions performed, risks borne and contractual
terms. Adjustments should be made to account for the effects of
the differences between controlled transactions and uncontrolled
transactions.

Comparisons of transactions are essential in applying the cost-
plus method. The comparison can take place between sales of the
entity to an uncontrolled entity or between two unrelated
entities. The guidelines permit and even prefer the use of in-
house comparables and even prefer that the comparison take
place between the entity and an uncontrolled entity.

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