Sweden v. AB (Trademark Licensing to Corp)

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Sweden v. AB (Trademark Licensing to Corp)

Jurisdiction

Sweden, County Administrative Court of Gothenburg

Summary of Facts

This case involved the deductibility of a license fee paid by a Swedish company (AB) to a Maltese group company (Corp) for the use of a trademark. The Swedish Tax Agency (STA) argued that Corp, despite being the legal owner of the trademark, did not perform any development, enhancement, maintenance, protection, or exploitation (DEMPE) functions and thus was not entitled to license fees from AB.

Key Issues

  1. Deductibility of License Fees: Whether the license fees paid by AB to Corp were deductible given that Corp did not perform DEMPE functions.
  2. Compensating Adjustment: Whether the initial payment for the sale of the business concept by AB to Corp could be offset against the license fees paid.

Decision and Reasoning

The County Administrative Court of Gothenburg ruled that since Corp did not perform any DEMPE functions, it would not be arm’s-length practice for AB to pay license fees for the use of the trademark. The court based its ruling on the OECD Transfer Pricing Guidelines, specifically sections 6.32, 6.40-42, and 6.47-48. The court also determined that a compensating adjustment was not reasonable, as the initial sale was priced appropriately and future license fees were not directly contingent on future license fees from subsidiaries.

Importance and Implications

  • Transfer Pricing Challenges: This case highlights the challenges multinational enterprises (MNEs) face in structuring IP-related transactions, especially concerning the attribution of intangible-related profits post-BEPS (Base Erosion and Profit Shifting).
  • DEMPE Functions and Economic Substance: The ruling emphasizes that legal ownership alone is insufficient for entitlement to license fees; the economic substance and performance of DEMPE functions are crucial.
  • Implications for MNEs: The case implies that Swedish entities within MNE groups may face disallowed deductions for license fees paid to foreign group companies owning IP unless proper economic substance and DEMPE functions can be substantiated. MNEs must be prepared to defend their transfer pricing positions with detailed value chain analyses and thorough documentation of DEMPE functions.

Broader Implications:

  1. Legal Ownership vs. Economic Substance: The ruling reiterates that legal ownership of IP must be supported by substantial economic activities (DEMPE functions) to justify license fees.
  2. Transfer Pricing Compliance: MNEs should ensure their transfer pricing arrangements comply with the arm’s-length principle by adequately documenting the performance of DEMPE functions.
  3. Future Litigation: The case has been appealed to the Administrative Court of Appeal, indicating ongoing scrutiny and potential for further legal clarification on these issues.

Conclusion

This ruling from the County Administrative Court of Gothenburg underscores the importance of aligning legal ownership with economic substance in transfer pricing arrangements involving intangible assets. MNEs should carefully document and justify their transfer pricing strategies to withstand scrutiny from tax authorities.