Transfer Pricing Research Paper

Rapid advancements in technology, transportation and communication has increased the number of multinational enterprises (MNE) which have the flexibility and ability to place their enterprises and activities anywhere in the world. The fact is that a large volume of global trade today consists of international transfers of goods and services, capital and intangibles within an MNE group; such transfers are called “intra‐group” transactions.

In such a situation, it becomes significant to establish the right price, called the “transfer price”, for intra‐group, cross‐border transfer of goods, capital, intangibles and services. Transfer pricing is the general term for the pricing of cross‐border intra‐firm transactions between related or associated

MEANING OF TRANSFER PRICING

Transfer pricing is the mechanism for setting up prices of the cross border intra firm transactions between associated enterprises. With the growth of MNEs all over the world, the global trade has risen immensely and the transfer of goods and intangibles between the associated companies of the world has also increased.

Due to unavoidable reasons, in such transactions of associated enterprises the prices are governed by common interest of the parties and not by market forces. Thus, the transactions of goods, services and intangibles between the associated enterprises need to be done at an “arm’s length price”(further refered as ALP). ALP is nothing but the price at which the transaction between two related enterprises would have been set if the enterprises were not related. If the price in the transactions between the related parties are not set according to the ALP,the prices are said to be manipulated which results in the Transfer-mispricing which can be used by the multinational enterprises to manipulate their profits and thus evade or avoid the tax liability levied upon them. The following illustrations would explain the tax evasion or avoidance by the multinational

ARM’S LENGTH PRINCIPLE

ALP according to the UN Model Convention, Article 9(1) has been given as follows:

“Where

(a) an enterprise of a Contracting State participates directly or in‐directly in the management, control or capital of an enterprise of the other Contracting State, or

(b) the same persons participate directly or indirectly in the management, control or capital of an enterprise of a Contracting State and an enterprise of the other Contracting State, and in either case conditions are made or imposed between the two enterprises in their commercial or financial relations which differ from those which would have been made between independent enterprises, then any profits which would, but for those conditions, have accrued to one of the enterprises, but, by reason of these conditions, have not so accrued, may be included in the profits of that enterprise and taxed accordingly”

Although the word ALP is not directly mentioned in Article 9, this clearly defines the entities which are considered related entities and the transactions between such entities should be at Arms’s length principle. The fair transfer price which would be used for transactions between the related entities would be the ALP. This principle has been adapted by most of the countries of the world to govern the transactions and tax the incomes