Contents - AL-Tax

3.7 Global Dealing Regulations and Notice 94–40 45The proposed global dealing regulations’ profit split methods are intended toaddress more complex situations in which individual group members’ activities aremore closely integrated. Consistent with Notice 94–40, the proposed regulationsadvocate apportioning a group’s combined operating profits (or losses) by referenceto each legal entity’s contributions thereto. However, the proposed regulationsare more open-ended as to the particular factors that should be incorporated intothe allocation formula. Depending on the facts and circumstances that characterizeindividual cases, a multi-factor formula may be indicated, and, in this event, eachfactor will need to be weighted.3.7.3 Underlying Economic RationaleThe proposed global dealing regulations and Notice 94–40 are, in essence, anattempt to devise a transfer pricing methodology in the absence of an economicrationale. They are based on the uncontroversial, albeit generic, proposition thateach entity’s share of trading profits should reflect its relative contributions to thegeneration thereof. However, the proposed regulations and Notice 94–40 do notembody the foundational premise that profits (specifically, after-tax free cash flows)are generated through the employment of assets rather than “allocation keys,” variouslydefined in individual cases.3.7.4 Critique of Formulary MethodThe formulary apportionment methodologies described in Notice 94–40 and the proposedglobal dealing regulations produce highly arbitrary results, for the followingreasons: Most fundamentally, formulary methods do not preserve the nexus betweenassets and after-tax free cash flows, as noted above. Trading companies engage in a wide variety of transactions, each of which posesdifferent types of risks. The diversity of risks cannot be distilled down to a singlereliable measure; The weights assigned to each allocation factor in individual cases are entirelysubjective; and Trading is intrinsically fluid and dynamic. As such, it is uniquely ill-suited totax treatment that, for analytical purposes, holds constant both the activities thatcontribute to the generation of trading profits and their relative importance overtime (the term of an APA or the number of years that individual taxpayers relyon a fixed formula, absent an APA).Moreover, conventional wisdom substantially understates the degree to whichparticular trading activities and assets can be identified with specific geographiclocales. A “separate entity” framework is often viable and may produce more