Tax Treaty Series

ITQ T-

038

April 3, 2020

Question

ACo, a company resident in A, manufactures and sells branded clothes.

ACo enters into a distribution agreement with BCo, a related company resident in B.

In this agreement:

BCo is appointed, for a period of 5 years, as ACo's exclusive buy / sell distributor in B; in consideration for this appointment, BCo agrees to pay ACo a "royalty" equal to 5% of BCo's annual sales of the ACo branded clothes
BCo is licensed to use the ACo trademark for sales and marketing purposes in B only – no consideration is assigned to this licence

The A/B treaty is identical to the 2017 UN model treaty.

Does the treaty permit B to levy tax on the "royalty" of 5% paid by BCo to ACo?

Answer

Art.5 PE:

BCo is a buy/sell distributor for ACo – i.e., BCo buys goods from ACo and sells them to BCo’s customers

ACo should not have a PE in B under either Art. 5(1) or Art. 5(5) (see para. 96, 2017 OECD Comm. on Art. 5(5))

Art. 12 royalties:

The 5% “royalty”, being consideration for appointment as exclusive distributor in B, should not fall within the definition of “royalties” in Art. 12(3): see para. 10.1, 2017 OECD Comm. (contrary views recorded by 5 countries)

But should some or all of the 5% be re-allocated to the trademark licence?

Art. 12(3) “royalties” definition requires identification of contractual consideration – it thus does not allow re-allocation of consideration.
Such re-allocation might be possible under domestic law TP rules, in accordance with Art. 9(1), on the basis of separate TP analysis of the 2 contractual provisions: see para. 3.9 et. seq., 2017 OECD TPG.
However, it is likely that the arm’s length royalty for the trademark licence, in the situation where BCo is permitted to use the trademark only to market goods purchased from ACo, is nil: see Example 12, Annex to Chapter VI, 2017 OECD TPG.

Conclusion: no B tax.

ITQ Disclaimer

This International Tax Quiz (ITQ) contains general information only, and none of International Insights Pte Ltd, its employees or directors is, by means of this ITQ, rendering professional advice or services. You use the content of this ITQ strictly at your own risk. You should not rely on all or any part of the content of this ITQ in making decisions to take action (including inaction) in regard to tax or other matters. Before making any decision or taking any action (including inaction) that may affect your tax position, your finances or your business, you should consult a qualified professional advisor. None of International Insights Pte Ltd, its employees or directors shall be responsible for any loss whatsoever sustained by any person who relies on the content of this ITQ.