Transfer pricing practices grow increasingly legitimate worldwide

22 February 2021 3 min. read

Regulatory compliance has become more of a priority in the transfer pricing paradigm than tax optimisation – according to a new Horvàth & Partners study.

The Cordence Worldwide member firm surveyed more than 100 CFOs and other executives for a status update on global transfer pricing – the value at which goods and services are traded internally between two entities of a company.

Traditionally, transfer pricing presents significant scope for tax evasion and manipulation – where internal pricing is such that company-wide earnings are concentrated in low tax areas. The core finding of the Horvàth & Partners study is that these practices are rapidly on their way out.

Growing regulatory compliance in transfer pricing

The firm ran similar studies in 2015 and then in 2018. While a focus on tax compliance has been steadfast through the years, over 60% of businesses were still using transfer pricing for tax optimisation back in 2015 – a figure that dropped to less than 30% by 2018. This year, the figure stands at just over 20%.

Several factors are at play here – mainly driven by business globalisation. ”The internationalisation of entire value chains, steadily increasing pressure on costs and efficiency as well as digitisation are leading to a growing bundling of competencies within a company,” explained Ralf Eberenz, senior adviser for Industrial Goods & High Tech at Horvàth & Partners.

“Individual company units are increasingly providing certain services centrally for other group units – for example shared services in the areas of accounting and IT. This further centralisation of the provision of services within the group means that the economically appropriate and tax-required offsetting of these services and their documentation are steadily gaining in importance.”

With growing importance comes increasing regulatory scrutiny. The process of using transfer pricing for tax optimisation is described by the OECD as base erosion and profit shifting (BEPS). According to experts at the institution, more than $240 billion in revenue is lost every year to tax evasion by multinational cooperations – with a disproportionate impact on developing economies.

In 2013, OECD countries launched an inclusive framework on BEPS – a collaborative implementation of 15 measures across 135 countries to tackle tax evasion. With regulators closing in, most businesses have been quick to clean up their act.

Legitimate transfer pricing methods

That said, many are still devising the best ways to keep their transfer pricing above board. The most popular method according to the researchers is the cost surcharge strategy – where internal pricing is a reflection of similar transactions conducted externally. More than 60% of businesses use this strategy for preliminary products.

Cost surcharge is the most popular transfer pricing method

Yet, companies have not come to grips completely with this method. “There is a lot of catching up to do in many cases, both in terms of the clear determination of costs and in terms of the billing values ​​used. In this context, the delimitation of shareholder costs should also be mentioned, which poses great challenges for many companies,“ noted Eberenz.

For him, the best solutions here are to improve cost accounting for a more reliable cost base, and the integration of control and tax law requirements.

“A close interlinking of the transfer price and control model remains a key prerequisite for success in the design of settlement flows for intra-group services. A transfer price system based solely on legal tax security will sooner or later lead to conflicts with the control system, just as a purely management-oriented transfer price system could jeopardise the achievement of legal tax security.”