Whenever a company has intercompany transactions or transfer pricing practices with foreign companies, there is a standardized way of determining of the practices referred to as arm's length pricing.
What exactly is arm's length pricing?
Arm's length pricing is the comparison of what unrelated companies charge for transfer pricing on property and services.
It is used to determine fair trade practices around the globe by ensuring companies keep within a common range of pricing standards.
With the difficulty of finding identical transactions between unrelated companies, arm's length pricing methods can vary. Different transfer pricing calculations provide more accuracy in differing circumstances.
Regardless of the method, there are certain company comparability values to appropriate transfer pricing at arm's length.
Company comparability factors
- Functional analysis
- Contractual terms
- Risk undertaken
- Economic conditions
- Property or services
Optional methods
Arm's length pricing methods can be broken down into two categories – traditional comparisons and transactional comparisons.
Traditional comparisons include comparable uncontrolled price (CUP), cost plus, and resale price method.
Transactional profit methods provide arms length pricing by analyzing a series of transactions known as a function. Two examples for this particular arm's length pricing method are Transactional Net Margin Method (TNMM) and Transactional Profit Split Method (PS).
The CUP method does a comparison between the price charged on property or services rendered in a controlled transaction to the pricing for property or services in a comparable uncontrolled transaction in related comparable circumstances.
The cost plus method is appropriate for determining arms length pricing for tangible property or services under the OECD Transfer Pricing Guidelines and US transfer pricing regulations.
Under the resale price method, a related sales company performs marketing and selling functions as the tested party. It reduces the the resale price charged to an unrelated customer by an arms length gross margin to cover expenses. The remainder is the transfer pricing at arms length.
The TNMM does a comparison of the net profit margin earned in a series of controlled transactions to a series comparable uncontrolled transactions.
The PS is expected primarily in joint venture relationships when both sides of the controlled transaction pertain to significant intangible properties.
PIASCIK expertise on arm's length pricing
PIASCIK understands the difficulties presented in finding accurate arm's length pricing. There many circumstances where new markets have little data for comparisons and there can be conflicting information between methods.
PIASCIK has over 70 years of international tax experience with over 120 expatriates represented in 49 countries. Our professional consultants know every method available and can help you allocate income and deductions for accurate transfer pricing at arm's length.
Arm's length pricing can be complicated and exhaustive, but you don't need to face it alone. PIASCIK is an industry leader in IC-DISC matters, expatriate taxation and other international tax regulations. Contact PIASCIK today and we can show you how to understand arm's length pricing.
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