What is Transfer Pricing?
Transfer prices are used within a larger multi-entity firm are treated and measured as separately run entities. A transfer price is the price at which the subsidiaries of a business sell products or services to each other. For example, a company that produces a widget such as spigot has a manufacturing subsidiary that produces faucet.
What is Arm's Length Principle and how is it achieved?
The arm’s length principle of transfer pricing states that the amount charged by one related party to another for a given product or a service must be the same as if the parties were not related, thereby deeming the price of a transaction as the price would be in the open market.
For commodities, the arm’s length principle is determined by looking up comparable pricing from non-related party transactions. For proprietary goods and services or intangibles, the arm’s length pricing is determined by using the “best method rule”. The best method rule is determined under the method that, under the facts and circumstances, provides the most reliable measure of an arm’s length result. Selection of category of method listed under Sec. 1.482.2 applies to different types of transactions, such as transfers of property, services, loans or advances, and rentals.
How Transfer Pricing may apply to small or medium sized businesses?
If a business is contemplating on adding a facility in another state or a different country, you will have to file tax returns with each jurisdiction. Local authorities of any tax jurisdiction will be scrutinizing your tax returns to evaluate that the business is adequately calculating each unit(s)’s tax liability.