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ABSTRACT
After the historic 2006 Glaxo Smith Kline settlement on transfer pricing, the Internal Revenue Service, the courts and international trade organizations have been working to develop a rational approach to this important issue. Court case decisions have been issued, regulations have been revamped and international trade organizations have proposed solutions. This paper explores these issues and evaluates the current state of transfer pricing. The priorities of the paper are the two issues left unanswered by the Glaxo Smith Kline settlement – stock-based compensation and the valuation of buy-in agreements. These issues are still very complex and not easily resolved. JEL Classification: M410
INTRODUCTION
On September 11, 2006, Glaxo Smith Kline (GSK) and the Internal Revenue Service (IRS) agreed to a $3.4 billion settlement, the largest in IRS history. The issue was transfer pricing. Since GSK, several transfer pricing issues arose under the 1995 Sec. 482 regulations. Two important issues were how do deal with stock-based compensation and the valuation of buy-in agreements. The purpose of this paper is to explore the changes in the transfer pricing/intangible asset area since GSK, particularly regarding stock-based compensation and buy-in agreements. First the GSK settlement is briefly reviewed. Next two intangible asset/transfer pricing tax cases are explored. The IRS's efforts are analyzed and finally the international authorities contributions are revealed.
Review of Glaxo Smith Kline
GSK and the IRS argued for fourteen years over the correct transfer prices the U.S. subsidiary paid to its United Kingdom parent for several drugs. The primary argument was over the value of research and development (R&D) vs. marketing and selling expenses. The argument came to a head when Glaxo Wellcome (the company that originated the drug Xantac) merged with SmithKline Beecham (the company that originated the drug Tagamet). The advance pricing agreement (APA) for Tagamet became available to GSK and company management accused the IRS of discriminatory practices in the APA process. The IRS had previously been criticized for treating inbound and outbound transfer pricing APA cases differently – depending on which resulted in higher income taxes.
After the text of the APA was made public, it was revealed that the outbound transfer price for Tagamet was 64% of the net trade sales (defined as sales less returned items, allowances, and...