Transfer pricing is a profit allocation method (the other being formulary apportionment) used to attribute a multinational corporation's net profit (or loss) before tax to countries where it does business. Since countries impose different corporation tax rates, the corporation's goal is to allocate more of the worldwide profit to lower tax countries, thereby minimizing the overall taxes paid. Many countries impose penalties on corporations if they consider that they are being deprived of taxable profit.
Transfer pricing results in charges made between controlled (or related) legal entities i.e. within the same group. Legal entities considered under the control of a single corporation include branches and companies that are wholly or majority owned ultimately by the parent corporation. Certain jurisdictions consider entities to be under common control if they share family members on their boards of directors.
It refers to the setting, analysis, documentation, and adjustment of charges made between related parties for goods, services, or use of property (including intangible property). Transfer prices among components of an enterprise may be used to reflect allocation of resources among such components, or for other purposes. OECD Transfer Pricing Guidelines state, “Transfer prices are significant for both taxpayers and tax administrations because they determine in large part the income and expenses, and therefore taxable profits, of associated enterprises in different tax jurisdictions.”
Over 60 governments have adopted transfer pricing rules. Transfer pricing rules in most countries are based on what is referred to as the “arm’s length principle” – that is to establish transfer prices based on analysis of pricing in comparable transactions between two or more unrelated parties dealing at arm’s length. The OECD has published guidelines based on the arm's length principle, which are followed, in whole or in part, by many of its member countries in...
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