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Transfer pricing methods
Which transfer pricing methods are used in your jurisdiction and what are the pros and cons of each method?
The methods are consistent with those provided in the Organisation for Economic Cooperation and Development (OECD) Transfer Pricing Guidelines, which are as follows:
- the comparable uncontrolled price (CUP) method;
- the resale price method;
- the cost-plus method;
- the transactional net margin method; and
- the profit split method.
Other methods may also be permissible where the facts and circumstances of the case mean that this is a more reliable way to determine the arm’s-length result. It may also be appropriate to combine two or more methods.
Preferred methods and restrictions
Is there a hierarchy of preferred methods? Are there explicit limits or restrictions on certain methods?
The United Kingdom follows the OECD Transfer Pricing Guidelines and therefore, although in theory there is no overt hierarchy, the CUP method is considered preferable where it is available and if it is one of two or more equally reliable methods. Cost plus and resale price methods can be hard to apply in practice, given that they are gross profit methods. The transactional net margin method, under which the net profit margin is targeted, has been widely used in recent years, but given the increased complexity of transactions within modern businesses, the use of the profit split is on the increase.
It is prudent to establish why certain methods are chosen over others that are considered to be inherently more reliable. HMRC have written up comprehensive guidance on each method, based on the OECD Transfer Pricing Guidelines.
What rules, standards and best practices should be considered when undertaking a comparability analysis?
Pursuant to Section 164 of the Taxation (International and Other Provisions) Act 2010, the UK transfer pricing legislation should be construed in a manner that best secures consistency with the expression of the arm’s-length principle in Article 9 of the OECD Model and the guidance in the OECD’s Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations.
Therefore, the following five comparability factors identified in those guidelines apply:
- the contractual terms of the transaction;
- the functions performed by each of the parties to the transaction, taking into account assets used and risks assumed, including how those functions relate to the wider generation of value by the multinational enterprise group to which the parties belong, the circumstances surrounding the transaction and industry practices;
- the characteristics of property transferred or services provided;
- the economic circumstances of the parties and of the market in which the parties operate; and
- the business strategies pursued by the parties.
Are there any special considerations or issues specific to your jurisdiction that associated parties should bear in mind when selecting transfer pricing methods?
The United Kingdom follows the OECD Transfer Pricing Guidelines, and therefore these should be considered when selecting transfer pricing methods.
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