The recent ruling No. 2853/2024 by the Italian Corte di Cassazione sets an important precedent in the area of transfer pricing. The ruling confirms the legitimacy of the transactional net margin method (TNMM), but also warns that its application requires detailed technical analysis.
The Court emphasized that the selection of the method cannot be treated as a formal or purely accounting issue, but rather constitutes a substantive decision that must be adequately justified and documented, especially when questioned by the tax authorities or a judge.
This decision, although issued in the Italian context, has global implications, as the TNMM is one of the most widely used methods in international practice in accordance with the OECD Transfer Pricing Guidelines.
Context of the case: the dispute over the chosen method
The case analyzed by the Court involved an Italian company that carried out transactions with its subsidiary in the United Kingdom. The company applied the TNMM method to determine its profit margins, claiming that it was the most appropriate given the characteristics of the operations and the availability of comparable data.
However, the Italian tax administration (Agenzia delle Entrate) challenged the method used, arguing that the comparable uncontrolled price (CUP) method would have been more appropriate. According to the authority, the TNMM did not accurately reflect market conditions or ensure full competition between the related parties.
The case escalated to the Corte di Cassazione after the lower courts considered that the choice of method was a matter of fact and not of law.
The Court, upon reviewing the file, concluded that the previous judges had not evaluated the technical relevance of the method with the necessary depth and that the issue should be analyzed from a more structured perspective.
The Court’s decision: TNMM is legitimate, but not automatic
In its ruling, the Court of Cassation determined that the TNMM method is fully legitimate, provided that it is used appropriately and supported by comparability analysis.
In particular, the court held that:
- The method should not be automatically ruled out in favor of other alternatives, such as CUP or Cost Plus.
- The judge must verify whether the choice of TNMM is justified, considering the nature of the transaction, the functional profile of the entities involved, and the availability of reliable data.
- The selection of the method is a relevant legal issue, not a mere technical detail.
This means that companies must not only document the application of the TNMM, but also technically justify why it is considered the most appropriate for each type of transaction.
Technical requirements for the application of the TNMM method
The Italian ruling reinforces the importance of correctly applying the criteria underlying the TNMM.
In line with the OECD Guidelines, companies must comply with certain essential principles:
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Selection of the analyzed part
The TNMM is generally applied to the simplest part of the transaction, i.e., the part that does not have significant intangible assets or assume significant commercial risks.
Correctly identifying this part is essential to ensure that the results obtained are comparable with those of independent third parties.
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Comparability analysis
The success of TNMM depends on the quality of the comparables used. Differences in scale, functions, assets, risks, or market conditions must be adjusted in a reasonable manner. The Court noted that it is not enough to list comparable companies; a detailed and documented functional analysis is required.
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Profit margin and interquartile range
The net margin must fall within a reasonable interquartile range, according to the results obtained from comparable companies. When margins fall outside that range, it may be necessary to make adjustments or economically justify the deviation.
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Consistency with accounting and financial statements
The data used for the analysis must be aligned with the accounting records and the economic reality of the operations. Inconsistent documentation may invalidate the study in the event of a tax or judicial review.
The importance of a solid technical basis
One of the most relevant points of the ruling is the requirement for a clear technical basis for the choice of method. Both companies and tax authorities must explain in a reasoned manner why they selected or rejected a particular transfer pricing method.
The Court warned that the absence of technical justification may invalidate the administrative or judicial decision, given that the method is not an accessory element, but a determining basis for calculating taxable income.
This approach promotes greater transparency, consistency, and technical rigor in transfer pricing analyses.
Implications for multinational companies
The ruling has an interpretative value that transcends the Italian sphere. In practice, it reaffirms several principles already adopted in Latin America and Europe:
- There is no rigid hierarchy among the OECD methods, but each choice must be justified.
- The TNMM remains the most widely used method in the manufacturing, distribution, and service sectors, but it requires a solid functional analysis and reliable data.
- Documentation must be prepared contemporaneously, i.e., before or at the time of the transactions, not retroactively.
Companies applying the TNMM must anticipate tax challenges by ensuring consistency between their local reports, master reports, and supporting documentation.
Lessons for advisors and tax administrations
For tax advisors, this ruling is a practical guide on how to defend the choice of method in an audit or litigation. It must be demonstrated that the TNMM was selected after a thorough functional analysis, considering alternatives and justifications.
As for tax administrations, the decision reminds them of their obligation to technically evaluate the suitability of the chosen method, rather than simply replacing it with another without justification.
In other words, the control should focus on the quality of the comparative analysis and the reasonableness of the margins, rather than on the preference for a particular method.
Conclusion: a precedent that reinforces technical consistency
The Italian Corte di Cassazione has made it clear that the TNMM method is legitimate, but its validity depends on rigorous technical application. This precedent reinforces the need to document and justify the selection of the method in each specific case, thus ensuring a solid defense in the event of any disputes.
In an increasingly demanding international environment, companies must prioritize technical quality and documentary consistency, not just formal compliance. A well-structured transfer pricing policy is the best tool for reducing tax risks and sustaining one’s position before the tax authorities.
Specialized advice on transfer pricing methods
At TPC Group, we have a multidisciplinary team specializing in functional analysis, benchmarking, and international tax compliance.
We help companies in Latin America, Spain, and the United States to correctly apply transfer pricing methods, optimize their documentation, and strengthen tax transparency.
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Source: Lexced