What is Transfer Pricing?
Transfer pricing simply refers to the pricing of goods, services, or intellectual property that is transferred between companies that are part of the same multinational enterprise. This practice is important because it affects the profits of each company, their tax obligations, and ultimately the economic well-being of the countries they operate in.
Objectives of Transfer Pricing
The primary objective of a transfer pricing policy is to ensure that profits are allocated fairly between the different parts of the multinational enterprise. This is because the transfer price of a product or service will affect the taxable income of the entities involved. If one entity sets the transfer price too high, it will reduce the taxable income of the entity selling the product or service and increase the taxable income of the entity purchasing it. This practice allows companies to manipulate profits in a way that reduces their overall tax bill.
The issue of transfer pricing is particularly problematic for countries that are home to multinational corporations because transfer pricing policies often result in revenue being shifted out of the country and into other jurisdictions where tax rates are lower. This kind of tax avoidance largely diminishes the tax base of impacted countries.