Transfer Price & Transfer Pricing

Chapter 1

Transfer Price & Transfer Pricing

When one independent/unrelated party transacts with another independent/unrelated party, the transaction value represents the “Transfer Price”.

Such Transfer Price is regarded as an “Arm’s Length Price” as the same is ordinarily driven by open market factors.

In a tax environment, such a transaction is often referred to as an “Uncontrolled” transaction.

“Transfer Pricing” generally refers to the price at which two related parties transact. In a tax environment, such a transaction is regarded as undertaken between two associated enterprises and is often referred to as a “Controlled” transaction.

Therefore, we can say that "Transfer Prices” are the prices at which an enterprise transfers-

Physical goods or Intangibles or Provides services to associated enterprises.

Transfer pricing is a term used to benchmark all inter-company pricing arrangements.

“Arm’s Length Price” is the CORE of TP and a plethora of materials and guidelines have been released in this regard.

Importance of Transfer Pricing:

For Business: To determine the price for inter-group transactions to measure the fair profitability of each division or the group entity.

For Tax Authorities: Controlled transactions, may take place under conditions differing from those under Uncontrolled transactions on account of relationship influence. Hence, the apprehension of shifting of profits from high tax to low tax jurisdiction.

Relevance of Transfer Pricing:

Transfer pricing has linkages with Global Stability, revenue generation, economic growth,trans-border activities, and international trade in the following manner:

Promote the stable flow of labor, capital, goods, and services across national borders of the world;

Promote economic growth at unilateral, bi-lateral, and multi-lateral levels;

There is the over-arching issue of the right of each country to generate the right amount of tax revenue from the economic activities performed across the boundaries and help eliminate double taxation.

Interplay with OECD Model Tax Convention

Article 9 of the OECD MC deals with adjustments of profits that may be made for tax purposes where transactions have been entered into between associated enterprises on other than arm’s length terms.

Separately, Article 7 dealing with PE profit attribution requires a PE to be treated as an independent enterprise and thereby triggering Transfer Pricing implications even for transactions undertaken with the Head Office.

“Transfer Pricing” by itself does not necessarily involve tax avoidance. It is where the pricing does not accord with applicable norms (international or domestic) that it is tantamount to “mispricing”, “incorrect pricing”, “unjustified pricing” or similar, and issues of tax avoidance and evasion may arise.