Transfer Pricing

Transfer Pricing is the setting of prices between two related companies in different countries. Transfer pricing is always of concern to government fiscal authorities, as improper transfer pricing can result in shifting profits from one country to another.

Consider a company in Country A which ships a product that cost $80.00 to a sister company in Country B. That company adds $20.00 of value to the product and sells on to the customer for $125.00

Suppose Country A has a much lower tax rate than Country B. The company would sell the product to its sister company for $125.00. That way the corporate group would realize a profit of $45.00 in the low tax country and zero in the high tax country.

The best argument for any transfer price is the "arms-length rule". If the company in Country B could buy the same product from an unrelated company for $100.00 that would be an easily established and defendable transfer price. In the absence of such examples, many other factors must be considered such as margins in both countries, administrative costs of selling to a related entity vs an unrelated one, etc.

Companies with significant cross border transactions will often establish Advance Pricing Agreements (name varies by country) with their fiscal authorities.