Jilian Consultants Co., Ltd.
Jilian Consultants Co., Ltd.

Transfer Pricing: A Simplified Overview

LTD Company Formation

Transfer Pricing is the price for goods and services that is set between related business entities within an enterprise, for the internal exchange of goods, intangibles, resources or services. The term ‘transfer pricing’ is usually used in relation to multinational companies that have multiple subsidiaries or overseas branches which exchange tangible or intangible assets internally. Transfer pricing has several tax benefits, though regulatory authorities frown upon using avoidance of transfer pricing for tax. One such advantage is when in transfer pricing, companies can book profits of related goods and services in the country where the tax rate is relatively lower. In certain cases, the transfer of goods and services from one country to another within an inter-related company transaction may allow a company to avoid tariffs on goods and services exchanged internationally.

Transfer pricing is the price that two related business entities under common ownership decide on the internal exchange of goods, intangibles, resources or services. The term ‘transfer pricing’ is generally used in relation to multinational corporations (MNCs) with multiple subsidiaries or branches that can transfer tangible or intangible assets internally. For example, Chevron Corporation has many subsidiaries – Texaco, Saudi Arabian Chevron Inc. and Chevron Australia Pty Ltd, to name a few – all of which are able conduct transactions with each other. In short, transfer pricing refers to the amount of money that is exchanged when two or more related companies transact with each other.

To further explain this comprehensively, suppose a company X purchases goods for 100 rupees and sells it to its associated company Y in another country for 200 rupees, who in turn sells in the open market for 400 rupees. Had X sold it directly, it would have made a profit of 300 rupees. But by routing it through Y, it restricted it to 100 rupees, permitting Y to appropriate the balance. The transaction between X and Y is arranged and not governed by market forces. Hence, profit of 200 rupees is, thereby, shifted to the country of Y. The goods are transferred on a price, i.e the transfer price which is dictated (200 hundred rupees), but not on the market price (400 rupees). That is why transfer pricing can be used as a profit allocation method to attribute a multinational corporation’s net profit (or loss) before tax to countries where it does business. If transfer pricing regulations are not in place, it is possible for the MNC to shift profits into the countries with low-tax jurisdictions and minimize the tax burden for their internal transactions.

Arm's Length Principle:

Article 9 of the OECD Model Tax Convention describes the rules for the Arm's Length Principle. It mentions that the transfer prices between two commonly controlled entities must be treated as if they are two independent entities, and therefore negotiate at arm's length.

The Arm's Length Principle is situated on real markets and provides a single international standard of tax computation, which enables various governments to collect their share of taxes and at the same time creates enough provisions for Multi- national entities to avoid double taxation.

Offshore Company Formation

Examples showing how transfer pricing is applied to its advantage:


The regional headquarter of Google is in Singapore and it has a subsidiary in Australia. The sales and marketing support services are provided by the Australian subsidiary to users & Australian businesses and also provides research services to Google worldwide. The billing for Australian activities is done in Singapore and the payment is received from the Google entities. In the year 2012-13, Google Australia earned $46 million as profit on revenues of $358 million. The corporate tax payment was A$7.1 million, more so, as they had claimed a tax credit of $4.5 million. Ms. Maile Carnegie, the Managing Director of Google Australia was asked to respond on why Google Australia did not pay more corporate tax in Australia. She Replied by saying that the lion’s share of the taxes was paid to the country where they were headquartered. She was talking about the intellectual capital that Google owns which drives their business and it was owned outside of Australia.

Google declared that it paid US $3.3 billion as tax globally in 2014 on revenues of US $66 billion. The effective tax rate came up as 19%, while the statutory federal rate of 35% applied on Google in the US. Had Google been paying most of the tax in US, it would follow that it was not paying much taxes on the revenues that is generated from other countries. Moreover, the details of the sources of revenue that was generated from Australia were not provided by Google. It was seen that some of the multinational companies were involved in tax reduction, using the tax incentives that were offered in accordance with the overseas jurisdiction to them which led to the evasion of tax in Australia.


Due to the production, marketing, and sale of Coca-Cola Co.’s concentrates in various overseas markets, the company continues to defend its $3.3 billion transfer pricing of a royalty agreement. The company transferred the IP value to its subsidiaries in Africa, Europe, and South America between 2007 and 2009. The IRS and Coca Cola continue to battle through litigation and the case is yet to be resolved.


The internal revenue system has investigated that Microsoft is using transfer pricing, among other methods of booking prices and sales between subsidiaries that lends to the opportunities to report earnings in lower tax jurisdiction. Microsoft accumulated $44.8 billion non-US earning and reinvested abroad, accounting in deferred taxes of about $14.5 billion. Microsoft did not specify how did they employ cash earned abroad as reinvestment could be anything from buying an office or parking money in the bank. Storing money overseas prevented them from repatriation tax. Forty-six percent of the total sales came from overseas in the year 2011, however, the pre-tax profit tripled over the past six years to $19.2 billion. In contrast, its US earning have dropped from $11.9 billion to $8.9 billion in the same period. Thereby now 68% of the total earning are made by from foreign earning.

Facebook Inc.

In another high-stakes case, the IRS alleges that Facebook Inc. Transferred $6.5 billion of intangible assets to Ireland in 2010, cutting its tax bill significantly. If the IRS wins the case, Facebook may be required to pay up to $5 billion in addition to interest and penalties. The trial was set for August 2019 at the U.S. Tax Court, has been delayed allowing Facebook to possibly work out a settlement with the IRS.

Transfer pricing methods:

There are two significant types of methods to choose from for transfer pricing analysis:

  • Traditional transaction methods: Traditional transaction methods includes the Comparable Uncontrolled Price (CUP) method, the Resale Price method and the Cost Plus method.

  • Transactional profit methods: Transactional profit methods includes the Transactional Net Margin method and the Transactional Profit Split method.

According to the 2017 Transfer Pricing Guidelines, the selection of a transfer pricing method is usually subjected to a particular case. Ideally, the selection process should take account of the respective strengths and weaknesses of the methods. For example, the appropriateness of the method in view of the nature of the controlled business transaction determined in particular through a functional analysis; the availability of reliable information needed to apply the selected method and/or other methods; and the degree of comparability between controlled and uncontrolled transactions, including the reliability of comparability adjustments that may be needed to eliminate material differences between them.