DEMPE study on the deduction of royality expenses for trademark rights

19 February, 2024

The payment for the assignment of the use of trademarks is qualified as a royalty, which implies an expense for the company that may be subject to deduction. Conversely, the Administration has been monitoring such expenses as considered to be non-compliant with the causality principle.

Specifically, there are cases where the owner of the trademark is one of the shareholders of the company, leading the latter to pay the former for royalties and use this disbursement as a deductible expense. The questionable aspect is the transaction objective, where the trademark does not generate profits for the company’s business activity but is created and used to reduce the income tax payable.

The Analysis of the Tax Administration

In order to determine whether this type of royalty is intended for tax avoidance, the Tax Administration audits such deductions and, in the case the taxpayers cannot prove the need to hire that specific trademark, they conclude to repair the expense.

Tax Court Process

The Tax Court has established, throughout its resolutions, that to determine the causality of the royalty expenses to assign the use of trademarks, these must comply with criteria, such as the need to hire it, the profitability of the business activity, and the pre-existing value of the trademark, among others.

The RTF No. 05946-1-2019 first time states the criterion to deduct the expense when the trademark has a pre-existing value, i.e., the hiring company cannot give value to the trademark.

Along these lines, RTF 01007-3-2020 stipulates the following:

“(…) given that the ownership of the trademark would belong to third parties, its use should be the corporate image of the appellant and distinguished from its competitors; therefore, such trademark should have an implicit pre-existence of image, recognition, and prestige within the Peruvian market (…)”

Likewise, with the same criterion, RTF No. 00572-11-2020 states the following:

“(…) it did not accredit that the rented trademark is recognized in the market regarding the taxed activities of the appellant, even more so if it was rented on the same day INDECOPI authorized it (…)”

Hence, the Tribunal evaluates who determines the value of the trademark to determine whether or not it is a deductible expense. Note that this criterion is similar to the DEMPE analysis.

DEMPE Analysis

It is a Transfer Pricing analysis model that determines who is the real owner of a company’s intangibles. It focuses on evaluating the functions of performance, improvement, maintenance, protection, and exploitation of the intangible. Therefore, the owner of the intangible can be determined by identifying who performs these functions.

Relationship Between the DEMPE Analysis and the Objections to the Deduction of Royalties for Trademark Rights

The requirement of the criterion established by the Court implies that the trademark subject to assignment is consolidated in the market, i.e., its value pre-exists the contract. This situation is not applicable when the shareholder creates and registers a trademark to be hired by its company, given that the company gives value to the trademark.

This conclusion could be given if the DEMPE analysis is carried out in such cases because the hiring company effectively performs, improves, maintains, protects, and exploits the trademark. Therefore, the company is the owner and not the shareholder.

Both methods conclude that the trademark could have been created and registered under the name of the company. Conversely, the shareholder provided the expenses of the trademark as royalties fraudulently to be deducted from the determination of the company’s income.