In inter-company transactions, prices are set according to the market and with profit in mind, but where there is a relationship between the companies, they could change the transfer prices to suit their needs.

As a result, the norms around transfer pricing must be considered whenever there is a transaction between individuals or entities who are linked.

What is transfer pricing?

Transfer pricing is defined in the Corporation Tax Act, which says that transactions between affiliated individuals or entities will be determined by their market price – that is, the price that would otherwise be agreed on by independent individuals or entities in free competition.

What constitutes related individuals or entities?

The individuals and entities impacted by this regulation on transfer pricing are those who are linked by some relationship, whether familial or commercial. One example would be an individual who is an administrator for two companies belonging to the same group that are making a transaction, or an individual who is affiliated with a company that is making a transaction with another company where their spouse works.

How is the value of transactions between related entities determined?

There are several criteria for determining transfer pricing for transactions between affiliated entities, which are outlined below:

  • Comparable uncontrolled price. In this case, the price between the related entities is compared to prices for similar uncontrolled transactions.
  • Resale value. The margin that a seller would obtain from the resale of a product similar to the one sold during the transaction between related parties is determined.
  • Cost-plus pricing. Using this method, related transactions are compared according to the gross margins earned, and a margin is added.

Why does the Treasury control transfer pricing?

Transfer pricing for transactions where there is a relationship was previously declared under Corporation Tax, but for the last few years, it must be declared using Form 232 or a disclosure statement for linked transactions and for transactions and situations related to countries or territories that are tax havens.

The Treasury’s intention behind the regulation on transfer pricing is to prevent tax evasion in cases where, for instance, a group of companies makes a transaction and declares a lower price to lower the taxes they have to pay, or where one of the parties is set up in a tax haven so that taxes are lower.

Should the Treasury find that transfer prices are not market prices, it may make adjustments that could affect Personal Income Tax and Non-Resident Income Tax.

This is essentially a matter of preventing transactions between related parties from being used to evade paying taxes to the Treasury.

If you make transactions with individuals or entities where there is a familial or commercial connection, you should consult with a tax expert so that they can advise you on whether or not you need to submit Form 232.