TRANSFER PRICING
IN DUBAI, ABU
DHABI & THE UAE
Our Transfer Pricing service in Dubai, Abu Dhabi, and the UAE is part of our tax consultancy services in Dubai, Abu Dhabi and the UAE.
Transfer pricing is an accounting method that refers to the price that companies within the same group charge each other for the exchange of goods and services. The transfer price typically reflects the market price of the good or service. Transfer pricing is used by multinational corporations as a method of allocating profits amongst each other for tax purposes.
HOW IS TRANSFER PRICING SET?
The Organisation for Economic Co-operation and Development (“OECD”) transfer pricing rules state that the transfer price between group entities need to reflect the market price normally charged to a third party and negotiated upon the Arm’s Length Principle which is based on an analysis of the range of real market prices of a good or service in a country; therefore, allowing a single international standard for transfer pricing and tax computation, as well as ensure governments collect their share tax while providing multinational corporations with the advantage of avoiding double taxation.
WHAT IS THE FORMULA OF TRANSFER PRICING?
The transfer pricing formula is:
Transfer Price = Outlay Cost + Opportunity Cost
Some companies calculate the minimum acceptable transfer price as equal to the variable cost, also referred to as the outlay cost or marginal cost. The marginal cost is identified as the total additional expense incurred from producing an additional unit of a good or service.
However, as per the general economic transfer price rule, most companies calculate the minimum acceptable transfer price as equal to the outlay cost plus an opportunity cost. The opportunity cost is the profit the division would make by selling the good or service in the marketplace as opposed to selling it to an internal division.
WHAT ARE THE TRANSFER PRICING METHODS?
1. COMPARABLE UNCONTROLLED PRICE (CUP)
The Comparable Uncontrolled Price method compares the price charged for a good or service transferred in a controlled transaction with the price charged for the same good or service in a comparable transaction that is uncontrolled or between independent parties.
To determine whether the price charged by Division A for a good or a service sold to its associate Division B is at arm’s length, then the following information will be considered:
- Transaction A: The price charged for a good or service in a comparable uncontrolled transaction between Division A and an unrelated Party X
- Transaction B: The price charged for a good or service in a comparable uncontrolled transaction between Unrelated Party X and Division B
- Transaction C: The price charged for a good or service in a comparable uncontrolled transaction between Unrelated Party A and Unrelated Party B
Where Transaction A and Transaction B are considered internal comparable transactions as it occurred between an internal tested party and an uncontrolled party; while Transaction C is described as an external comparable transaction where it occurred between two parties that are both unrelated to the group divisions.
To be considered a CUP, controlled transactions and uncontrolled transactions should meet high standards of comparability taking into consideration the following factors: characteristics of the good and service transferred, contractual terms, economic circumstances, and pursued business strategies.
Generally, a CUP is deemed as the most direct and reliable method of applying the arm’s length principle for transfer pricing for the following reasons:
- it is based on the open market price of tested transactions between related parties
- it also takes into consideration the agreed price between two unrelated parties to the transaction, making it a two-sided analysis
- it provides a direct comparison between internal comparable transactions and external comparable transactions
- it is readily available to be used for transactions that involve tangible product
On the other side, one of the shortcomings of this method is the unavailability of an external comparable market for the good or service being supplied.
2. RESALE PRICE METHOD
The Resale Price method evaluates the arm’s-length transfer price for a good or service based on the gross margin or the difference between the price at which the product is purchased and the price upon which it is sold to a third party.
TP = Resale Price – Selling Price to 3rd party
The transfer price is based on the resale price adjusted by deducting the gross margin including additional costs associated with the purchase of the good or service.
3.COST-PLUS METHOD (C+ METHOD)
In this method, the related manufacturing company is considered as the tested party in the transfer pricing analysis. The Cost-Plus method is a gross margin method as it derives its arm’s length amount from a gross profit mark-up added to the cost of goods sold incurred by the supplier of the good or service.
Instead of comparing prices to test whether a transfer price is at arm’s length, the Cost-Plus method evaluates and compares whether the gross profit mark-up earned by the associated supplier is at arm’s length to the gross profit margin earned by suppliers of comparable products in transactions to unrelated parties.
In the Cost-Plus Method, TP = COGS x (1 + cost plus mark- up), where:
- TP is the transfer price of a good or service sold by a supplier to a related party
- COGS is the Cost of Goods Sold incurred by the supplier (including direct and indirect costs, excluding operating expenses)
- Cost plus mark-up is the gross profit mark-up or the ratio of gross profit to GOGS
4. TRANSACTIONAL NET MARGIN (TNMM)
The Transactional Net Margin is the most used method for taxpayers recently in establishing the transfer price.
It basically compares and tests the net profit margin earned in a controlled transaction with the net profit margin earned by the related party from a transaction with a third party or the net margin earned by a third party from a comparable transaction with another third party.
Relatively similar to the Cost-Plus and Resale Price method, yet the transactional net margin requires less product comparability, and involves the comparison of the net margin rather than the gross profit margin.
5. TRANSACTIONAL PROFIT-SPLIT METHOD
The profit-split method starts with identifying the incurred profit from a related-party transaction and dividing that profit amongst the associated parties based on the relative value each party contributed towards that profit in terms of the function it performed, the risks it incurred and the assets it used in the transaction. Such that, the profit split between the associated parties would be in relative to what independent parties performing a similar function would anticipate in a comparable uncontrolled transaction.
The advantages of the profit-split method:
- It is applicable in tangible and intangible property, trading activities, and financial services transaction
- It is useful in cases where comparable transactions between unrelated parties are not available; or in cases where a transaction involves several related parties.
- It eliminates extreme result for one of the related parties, and instead, it analyses all parties involved in the controlled transaction
The weakness of the profit-split method is relative to its actual application. For example, it may be difficult and costly to calculate the combined revenue and costs for all the related parties in the controlled transaction if the associates do not use the same accounting practices.
TRANSFER PRICING BENCHMARKING
At Creation Business Consultants, we understand the complexities and challenges businesses face in ensuring compliance with international tax regulations. Our Transfer Pricing Benchmarking services are designed to address your specific concerns and streamline your operations, ensuring compliance and optimizing your business processes.
WHAT IS TRANSFER PRICING BENCHMARKING?
The pricing of transactions involving Related Parties or Connected Persons is known as transfer pricing, and it has grown in significance because of corporate cross-border trade and globalization. Due to the importance of transfer pricing, laws pertaining to it have been introduced in numerous nations.
The Group may illegally move profits from higher-tax jurisdictions to lower-tax jurisdictions, and TAX from high-tax jurisdictions to low-tax or no-tax jurisdictions, through transactions and agreements amongst Group entities. This would reduce the Group’s overall tax burden and ensure compliance with international tax regulations and to determine arm’s length pricing.
Tax administrations may evaluate the prices of transactions involving Related Parties or Connected Persons to determine whether the transactions have been priced at Market Value to prevent such price distortion.
COMMON CHALLENGES IN TRANSFER PRICING
- Regulatory Compliance: Understanding international tax laws can be challenging, with serious penalties for non-compliance.
- Choosing the transfer pricing method: Choosing the best method that align with the business activities and nature of sales to be compliance with the law.
- Accurate Comparability: Finding appropriate comparable to establish an arm’s length range is often a complex and time-consuming task.
- Economic Justification: Justifying transfer pricing methods to tax authorities requires thorough economic analysis and robust documentation.
- Industry Relevance: Ensuring that benchmarking analyses are relevant and reflective of industry-specific nuances can be challenging.
- Ongoing Updates: Keeping up with ever-changing transfer pricing regulations demands continuous attention and expertise.
OUR COMPLETE TRANSFER PRICING BENCHMARKING SERVICES INCLUDE
- Comparable Analysis: Identifying and analysing comparable transactions and entities to establish an arm’s length range.
- Economic Analysis: Conducting in-depth economic analysis to determine the most appropriate transfer pricing method for your business.
- Industry Insights: Leveraging industry-specific insights to ensure accurate and relevant benchmarking.
- Documentation Support: Providing robust documentation to support your transfer pricing policies and defend against tax audits.
- Ongoing Compliance: Offering continuous support to maintain compliance with evolving transfer pricing regulations globally.
WHAT IS THE TRANSFER PRICING DOCUMENTATION?
In general, a series of documents created by Taxable Persons to show that they complied with the Arm’s Length Principle in their Related Party transactions is referred to as transfer pricing documentation. The goal of the Transfer Pricing paperwork is to give the Federal Tax Authority (FTA) a thorough understanding of the Transfer Pricing regulations and how they are used by the Taxable Person, as well as to test the outcome of Transfer Pricing for each pertinent period that is being reviewed.
For specific Taxable Persons, the applicable UAE legislation has specified five requirements for Transfer Pricing documents that must be completed for each Tax Period:
- A disclosure form on transfer pricing that includes information on controlled transactions made during a tax period.
- Master File, which offers a high-level summary of the business operations of the Group as well as the distribution of revenue and economic activity within a Group. Only major firms as defined by Ministerial Decision No. 97 of 2023 are covered by it.
- Local File provides comprehensive details on how the local entity operates as well as analyses and tests the results of the controlled transactions to see if they violate the arm’s length principle. Only major firms as defined by Ministerial Decision No. 97 of 2023 are covered by it.
- The Country-by-Country Report, as outlined in Cabinet Resolution No. 44 of 2020, offers a summary of the various activities carried out by affiliates of an MNE Group and includes quantitative information about an MNE Group (above AED 3,150,000,000).
- Additional supporting information upon request of the FTA, pursuant to Article 55(4) of the Corporate Tax Law.
WHAT IS THE ARM’S LENGTH PRINCIPLE?
The Arm’s Length Principle is the internationally recognized standard for Transfer Pricing. It requires that transactions between Related Parties be conducted as if they were between independent parties under similar circumstances. This principle helps ensure that the prices reflect market conditions, thereby preventing tax avoidance through manipulated pricing. For assistance with applying the Arm’s Length Principle, consult our team at [email protected].
WHAT ARE THE RISKS OF TRANSFER PRICING
Risks related to transfer pricing are both internal and external.
- Disagreements within divisions of a group regarding the policies on pricing and transfer.
- Divisions of the group might hold and assume different types of risks.
- It could be difficult and costly to establish prices for intangible items and services.
- Tax Law compliant challenges.
- The high-cost burden due to the time and labour required in establishing a proper accounting system to execute transfer prices and support it.
WHAT ARE THE RISKS RELATED TO TRANSFER PRICING SERVICES IN THE UAE?
Through careful planning and professional advice, the minimal risks connected to Taxes in the UAE can be reduced. You can handle the Tax legislations and procedures easily with the assistance of professional consultants, ensuring adherence to legislations and reducing potential risks.
For an expert consultation, contact Creation Business Consultants via email at [email protected] or call +971 4 878 6240 today.
TRANSFER PRICING FAQs
Transfer Pricing refers to the pricing of transactions between Related Parties or Connected Persons within a multinational enterprise (MNE) Group. This practice is crucial for determining the taxable income of each entity involved in cross-border transactions. It ensures that transactions are conducted at arm’s length, meaning the prices are set as if the parties were independent entities negotiating in a free market. For more detailed information and expert guidance, contact us at [email protected].
Transfer Pricing is essential because it affects the distribution of taxable income among different jurisdictions. Proper Transfer Pricing ensures that each entity within an MNE Group reports an accurate profit based on the value it contributes to the Group. This prevents profit shifting to low or no-tax jurisdictions, which could lead to tax base erosion and profit shifting (BEPS) issues. Ensure your business is compliant by reaching out to our experts at [email protected].
In the UAE, Transfer Pricing is regulated under the Corporate Tax Law and Ministerial Decision No. 97 of 2023. These regulations require that transactions between Related Parties or Connected Persons adhere to the Arm’s Length Principle. Additionally, the Federal Tax Authority (FTA) has set guidelines for Transfer Pricing documentation and disclosure requirements. Contact us at [email protected] to ensure your compliance with UAE regulations.
Related Parties include individuals or entities with a pre-existing relationship through kinship, ownership, or control. This includes family members up to the fourth degree of kinship, entities with common ownership, and entities under common control, such as parent-subsidiary relationships. For a thorough assessment of your business relationships, get in touch with our experts at [email protected].
A Controlled Transaction is any transaction or arrangement between Related Parties or Connected Persons. This can include the transfer of goods, provision of services, financial transactions, and the commercial exploitation of intangible assets like patents or trademarks. Ensure your transactions are properly documented by consulting with us at [email protected].
Taxable Persons must maintain detailed Transfer Pricing documentation to support the arm’s length nature of their transactions. This documentation should include a master file, a local file, and a Country-by-Country Report (CbCR) for MNE Groups meeting specific thresholds. Proper documentation helps in reducing the risk of audits and penalties. For assistance with your documentation, contact our tax experts at [email protected].
Non-compliance with Transfer Pricing regulations can result in significant penalties, including financial fines and potential adjustments by the tax authorities. These adjustments can lead to double taxation, where the same income is taxed in multiple jurisdictions. Avoid penalties by ensuring compliance. Reach out to us at [email protected] for expert advice.
Transfer Pricing adjustments occur when tax authorities in different jurisdictions do not agree on the arm’s length nature of a transaction. This can result in both jurisdictions taxing the same income, leading to double taxation. The Mutual Agreement Procedure (MAP) in Double Tax Agreements (DTAs) aims to resolve such disputes. For expert guidance on managing transfer pricing adjustments, contact us at [email protected].
The MAP is a process provided under DTAs to resolve disputes involving double taxation. Competent authorities from the involved jurisdictions interact to negotiate an acceptable arm’s length position, aiming to eliminate double taxation on the same income. For expert assistance with MAP, consult our team at [email protected].
The Arm’s Length Principle applies to both domestic and cross-border transactions in the UAE. This means that even transactions between entities within the UAE must be conducted as if they were between independent parties, ensuring fair and market-based pricing. For detailed guidance, contact our experts at [email protected].
A comparability analysis involves comparing the conditions of a Controlled Transaction with those of Comparable Uncontrolled Transactions. This analysis helps determine whether the terms of the Controlled Transaction are consistent with what independent parties would have agreed upon under similar circumstances. For assistance with comparability analysis, reach out to us at [email protected].
The common methods include the Comparable Uncontrolled Price (CUP) method, Resale Price Method (RPM), Cost Plus Method (CPM), Transactional Net Margin Method (TNMM), and the Profit Split Method (PSM). The choice of method depends on the nature of the transaction and the availability of comparable data. For expert advice on choosing the right method, contact us at [email protected].
Businesses can ensure compliance by conducting a thorough Transfer Pricing analysis, maintaining robust documentation, and regularly reviewing their pricing policies. Engaging with Transfer Pricing experts can also help in navigating complex regulations and avoiding potential pitfalls. For professional consultation, contact our tax team at [email protected].
The OECD Transfer Pricing Guidelines provide a framework for tax administrations and MNEs to determine arm’s length prices. These guidelines are widely adopted and serve as a reference for developing Transfer Pricing policies and resolving disputes. Ensure your policies align with these guidelines by consulting with us at [email protected].
Yes, exempt entities, entities electing for small business relief, and standalone entities with no Related Party transactions are not required to maintain Transfer Pricing documentation. However, they must still comply with the Arm’s Length Principle for any Controlled Transactions. For clarity on exemptions and requirements, contact our experts at [email protected].
Transfer Pricing rules ensure that MNE Groups allocate income appropriately across different jurisdictions, based on the value each entity contributes. This helps prevent tax avoidance through profit shifting and ensures a fair distribution of taxable income. For comprehensive guidance on managing your MNE Group’s compliance, reach out to us at [email protected].
Transfer Pricing can significantly impact the overall tax burden by shifting profits from high-tax jurisdictions to low-tax jurisdictions within the Group. Ensuring compliance with the Arm’s Length Principle helps prevent such distortions and ensures fair taxation across all jurisdictions. For assistance in managing your Group’s tax burden, consult our experts at [email protected].
Using non-arm’s length pricing can lead to tax adjustments by the authorities, resulting in additional tax liabilities, penalties, and potential double taxation. It is crucial to ensure that all Controlled Transactions are priced at market value to avoid these issues. For expert advice on setting arm’s length prices, contact our team at [email protected].
