Is there a need to revisit Arm’s Length Principle?

  1. Introduction

Arm’s length principle (‘ALP’) was introduced a century ago to ensure proper allocation of taxing rights and it lies as the basis of transfer pricing legislation[1]. ALP is still considered as the ‘…heart, spirit and foundation of the current international transfer pricing system’, however, the question that arises is how efficient and appropriate are such ALP rules for allocation of taxing rights in today’s world.

Introduced in United States as a standard so that an uncontrolled taxpayer would always deal at arm’s length with another uncontrolled taxpayer, it later found a place in the OECD Model convention (‘OECD MC’). Article 9 of the OECD MC contains the authoritative statement for ALP as per which it is a principle that applies to a controlled transaction to determine whether the price of that transaction would have been agreed on between independent parties in the open market to ascertain international income is fairly allocated. From Article 9 of the OECD MC, we can also conclude that it is the foundation for the comparability analysis because it initiated the requirement of[2]A comparison between conditions (including but not only prices) made or imposed between associated enterprises and those which would be made between independent enterprises, to determine whether the determination of profits is at arm’s length’

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