It can be hard to do the splits

Some of the most difficult intercompany agreements to create are ones that apply to profit splits.

As for any intercompany transaction, it’s not enough for the agreements to faithfully implement the intended TP policies. The agreements must also map the profit splitting arrangement against what is happening from a legal perspective. Otherwise there’ll be a disconnect with reality, and it'll be hard to describe the 'actual transaction'.

One of the central questions here involves the ownership of intangible assets and IP, which usually play a central role in profit split arrangements. Relevant factors to be clarified in the relevant intercompany agreement therefore include:

• The legal nature of the relevant intangible assets
• The current legal and beneficial ownership of pre-existing intangible assets
• The intended ownership of intangible assets created during the period of the arrangement
• The treatment of those assets on termination of the arrangements

Legal joint ownership of the relevant intangible assets is possible – this can be reflected in split beneficial ownership, or (more usually) the grant of exclusive licences. However, legal joint ownership can make it more complicated for the group to manage those assets in the future.

It’s similar to split shareholding structures in subsidiaries: they often seem like a good idea at the time (e.g. when implementing group reorganisations), but in my experience they almost always create ongoing complications and additional costs for the group.

Of course, with profit splits, ownership of intangible assets is not the only foundational issue. Another involves the fundamental question of whether the profits to be split relate to the ‘actual profits’ or the ‘anticipated profits’ (see section C.4.1 para 2.158 of the OECD TPG). This has a profound impact on the drafting of the payment clauses and on the allocation of market risks and related risks. We’ll address this in a future blog.