The Definition and Application of the Separate-Entity Approach in the OECD Transfer-Pricing Guidelines

This article analyzes the separate-entity approach as the theoretical basis of the arm's-length principle in the transfer-pricing guidelines of the Organisation for Economic Co-operation and Development (OECD). Despite its central role, the concept lacks a clear definition, and its application appears to fluctuate between transactional, entity-level, and group-wide perspectives, potentially calling into question an unequivocal reliance on the approach as the theoretical basis of the arm's-length principle in the OECD guidelines. The purpose of this article is to analyze the definition and application of the separate-entity approach in the OECD guidelines, with the aim of clarifying its meaning, identifying potential deviations from a strictly entity-based analysis, and examining the rationale, if any, behind such deviations. The first conclusion of the study is that article 9 of the OECD model tax convention, which underpins the arm's-length principle, does not impose a legal requirement to analyze transactions strictly at the level of individual legal entities. Rather, it supports a flexible interpretation aimed at ensuring that related-party transactions reflect market-based profits. The second conclusion is that the OECD guidelines need to address complex group structures and intragroup arrangements that may not exist between unrelated parties, while remaining within the realm of the arm's-length principle. This paradox leads to the adoption of various perspectives—transactional, entity-based, and group-wide—to better approximate the conditions that may exist between independent enterprises. The need for such flexibility reflects the difficulty of applying a market-based standard in a non-market setting.