Introduction

Multinational enterprises (MNEs) typically have integrated business operations which allow related entities to benefit from business advantages from either cost saving or relative administrative ease which helps to maintain or improve their overall competitiveness. The OECD Guidelines establish the conditions to be met for related party transactions to be covered by a cost contribution arrangement (CCA). This article seeks to explain the conditions for the use of a CCA, the benefit of its use, and the differences between the CCA and an intra-group services agreement

Understanding CCA

According to the OECD Guidelines, 2022 a CCA is a contractual arrangement among business enterprises to share the contributions and risks involved in the joint development, production or obtaining of intangibles, tangible assets or services with the understanding that such intangibles, tangible assets, or services are expected to create benefits for the individual businesses of each of the participants.

This definition highlights the main features of a CCA which include:

  1. Sharing of contributions – participants of the CCA, often associate enterprises make contributions that are proportional to the anticipated benefit from the contract.
  2. Joint activities – the activities performed in a CCA could either be for the development of intangible/tangible assets or the provision of services.
  3. Expectation of benefits – the anticipated outcomes may be either immediate or create an ongoing future benefit for the participants.

A fundamental concept of a CCA is mutual benefit. An entity may not be considered as a participant in a CCA if there are no reasonable expectations that it would benefit from the goal of the CCA. Moreso, an entity that does not have the capacity to bear or control the risks arising from the CCA is not viewed as a participant to the CCA. While it is not mandatory that the participants in the CCA perform the CCA activity by itself, there must be a level of control over the important functions of the CCA.

The participant's contribution to a CCA often takes many forms but must be identifiable and its value measurable. In determining if the contribution is in line with the arm's length principle, the value assigned to the contributions must be consistent with the value that independent entities would have assigned to that contribution. In valuing the contributions of the participants, different techniques can be used which include the use of allocation keys, discounted cash flow (DCF) and net present value (NPV) analysis.

The evaluation process of the contributions should recognize all contributions made by the participants to the CCA. Contributions made at the commencement of the CCA and the contributions utilized on an ongoing basis should be fully captured. It might be difficult to measure contributions made that involve shared assets such as partial use of a warehouse but this can be done by ascertaining the proportion of the asset used that is commercially justifiable and recognizes accounting standards, facts, and necessary adjustment. To illustrate, the floor space of the warehouse used specifically for the CCA activity can be determined and adjustments around the lease terms and location can be made.

The contribution from each participant of the CCA ought to match the anticipated benefits to be received under the arrangement. Where the value of the participant's overall contributions under the CCA is not consistent with the expected benefit; this means that the contributions made by at least one participant is inadequate. In such a case, an adjustment has to be made to the contribution in the form of a balancing payment. This adjustment will generally increase the value of the contributions of the "underpaying" CCA participant whilst simultaneously reducing the value of the contributions of the "overpaying" participant.

You may wonder, "How do you know when to make a balancing payment?". The need for a balancing payment could arise from routine re-evaluation of the participant's share of the expected benefits of the contributions or a requirement by the tax administrations where there has been an incorrect assessment of the value ascribed to the contributions.

Benefits of a CCA

Members of MNEs often perform and receive intra-group services with multiple Group members and they often have separate contracts and intercompany payments that have to meet the arm's length principle. A CCA streamlines the administrative burden and reduces service duplication within the Group. For example, if an MNE chooses to have a services CCA for the provision of human resources (HR), information technology (IT), marketing and other administrative services; the participants would simply contribute the proportionate share of the costs incurred in providing these services. There would be no need to draft multiple agreements for the provision of the services and testing the applicability of the arm's length principle to each associate entity. The contributions made to the pool would be in proportion to the relative benefits derived from the arrangement.

Another benefit of a CCA is the achieving of global efficiency through economies of scale. Considering the same illustration above, related entities in the services CCA would likely benefit from high quality services at a lower cost due to economies of scale; individual participants enjoy better services at a lower overall cost.

The CCA is also a very beneficial tool in promoting operational efficiency and synergies within a Group. Participants of the CCA will make contributions that are readily available and benefit from the pool of resources to achieve a project faster unlike if the project was done by each separate entity.

To illustrate, an MNE engaged in pharmaceuticals might be undertaking a project to create a vaccine; entity A owns the brand name, entity B is engaged in the research activities while entity C controls the financial assets required for the vaccine production. If these entities choose to enter into a CCA, the MNE is likely to achieve the objective faster than if entity A had to engage external third parties to provide certain services.

Furthermore, the participants of the CCA share the risks associated with the CCA activity in relation to the proportion of their contributions. This arrangement spreads the costs of uncertainty, reducing the likelihood of one entity failing due to irrecoverable losses.

Differences between CCAs and Intragroup service agreements

A CCA is sometimes viewed as an intragroup service arrangement. Despite the similarities, there are certain clear distinguishing features. The following paragraphs show the differences between a CCA and an intragroup services arrangement.

  • Nature of the arrangement: An intragroup service arrangement is between members of a Group that covers the provision and/or receipt of services while a CCA is an agreement to share costs, risks and benefits by parties to the arrangement.
  • Number of agreement: A related entity can enter multiple agreements with each associate entity for the provision of intragroup services however, with a CCA, there is only one agreement for the service provider and recipients.
  • Effect of changes to the arrangement: In the event of a change such as termination or alteration to the intragroup service agreement; other associated entities are mostly unaffected by this but in a CCA, if any of the participants opt in or out of the arrangement, it affects the other participants and then, an adjustment has to be made to the status quo.
  • Documentation: It is best practice to have all agreements in writing however, in some cases there are no written contracts for an intra-group service but for a CCA, the documentation is more stringent. Paragraph 7.8.3 of the OECD guidelines details the information that must be contained in the agreement for it to be considered a CCA.
  • Payment for services: In an intragroup services arrangement, the service provider often charges a service fee, and this often includes a markup element. In comparison, a CCA does not involve charging a fee rather all the participants make measurable contributions.
  • Use of allocation keys: When allocation keys are used in an intragroup service arrangement, it is designed as a proxy measure of the expected benefits for recipients but in a CCA, the cost allocation is based on each participants expected benefits under the CCA.

Recommendations and conclusions

From a transfer perspective, there are several benefits to a CCA especially as the participants are able to make contributions to a common project with proportionate expectations of a benefit. However, considerations should be made to the main features of the CCA and the capacity of the related parties to meet these requirements.

Taxpayers should pay attention to the structure of their related party transactions to determine if the transaction can meet the criteria of a CCA or is best as an intra-group service arrangement. There is an element of certainty to the CCA when applied appropriately so MNEs should explore this arrangement in structuring related party transactions.

The opinion expressed in this article is solely personal and does not represent the views of any organization or association to which the authors belong.