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should be used as methods of last resort for example when there is no data available or available data cannot be used reliably. However, the Guidelines stress there is no best-method rule: a taxpayer is only required to show
that the method used delivers a reasonable at arm’s length result and is not required to disprove the use of each other method than the method used.
6.3 Transfer pricing options
There are three general methods for establishing transfer prices. 1 Market-based transfer price: In the presence of competitive and stable external markets for the transferred
product, many firms use the external market price as the transfer price. 2 Cost-based transfer price: The transfer price is based on the production cost of the upstream division. A
cost-based transfer price requires that the following criteria be specified: a. Actual cost or budgeted standard cost.
b. Full cost or variable cost. c. The amount of markup, if any, to allow the upstream division to earn a profit on the transferred product.
3 Negotiated transfer price: Senior management does not specify the transfer price. Rather, divisional managers negotiate a mutually-agreeable price.
7. India’s policy on transfer pricing
In the event of revenue contest, India needs to organize the authors’ tax brains to formulate a comprehensive policy related to transfer-pricing mechanism. Bearing in mind the rising volume of trade, which India is expected
to have with rest of the world, the potential for dispute between regulatory frameworks, and for double taxation of income, could become a major issue for taxpayers in the coming years. India should come out with a common
strategy, share experiences and models of developed nations in order to reap a much higher dividend in the coming years. In the speech given by the finance minister during the debate on the finance bill 2001, he made it
clear that the presence of multinational enterprises in India and their ability to allocate profits in different jurisdictions by controlling prices in intra-group transactions has made the issue of transfer- pricing a matter of
serious concern. When banks, or other businesses, engage in cross-border activities, each of the foreign jurisdictions in which they conduct business must address the questions of when, to what extent, and how to tax
the profits attributable to the activities relating to the taxing jurisdiction. Although international commerce has evolved in response to the globalization of financial products trading, the various countries’ tax provisions that
govern these trading activities have not. Consequently, cross-border financial products trading between related parties pose significant challenges to the multinational enterprise. The ability to determine and apply global
trading regulations continues to perplex tax regulators globally, especially in Japan, the United Kingdom, and the United States, where most of the global financial transactions are generated.
When transnational corporations trade internationally with their own subsidiaries they use a mechanism called transfer pricing. Sales between parts of the same company are meant to take place at the open market price,
at an “arm’s length price”. A whole accountancy industry has grown up around determining transfer prices and justifying them to tax authorities. In practice it can be very difficult to determine an open market price,
particularly when trade in a particular sector is highly concentrated in a few companies.
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8. Suggestions
1 One recommendation to curtail transfer-pricing manipulations is to develop a standardized transfer-pricing policy and procedures to be implemented globally.
2 A second suggestion is to mandate increased disclosures about the magnitude and effects of transfer-pricing on subsidiary income and tax liabilities in the financial reports of transnational corporations
engaging in cross-border transactions. 3 The third suggestion would be to institute an electronics-based transfer-pricing enforcement mechanism
in accordance with its unique position as a global information technology superpower. 4 Last, but not the least, gradual elimination of tax rate differentials that contribute to income-shifting and
the inevitable misallocation of tax revenues.
References:
Agarwal, M. K.. Transfer pricing–a beginner’s perspective. Retrieved from www.indiainfoline.com. Baldenius, T., Reichestein, S. Sahay, S. A.. 1999. Negotiated versus cost-based transfer pricing. Review Accounting Studies, 42,
67-91. Choi, Y. K. Day, T. R.. 1998. Transfer pricing, incentive compensation and tax avoidance in a multi-division firm. Review of
Quantitative Finance and Accounting, 112, 139-164. Ernst Young. 2007. Transfer pricing survey. Retrieved from Tax-News.com, London.
Feinschreiber, R.. 2004. Transfer pricing methods: An applications guide. Hoboken, NJ: John Wiley Sons, Inc.. Johnson, N. B.. 2006. Divisional performance measurement and transfer pricing for intangible assets. Springer Science, New York.
Kale, W. Y. 2005, October. Transfer pricing- practical issues and controversies. The Chartered Accountant, 544, 570-579. Sansing, R.. 1999. Relationship-specific investments and the transfer pricing paradox. Review Accounting Studies, 42, 119-134.
Tang, R. Y. W.. 2003. Current trends and corporate cases in transfer pricing. Reviewed by Prof. Lorraine Eden. Journal of International Business Studies.
Edited by Mary and Linda
