Chapter 8 - Transfer Pricing

Question 1

Aim of TP’s

Answer 1

1. give autonomy to local centre managers
2. motivate centre managers to improve
3. consolidated achieve better performance

Question 2

Transfer Price

Definitions

Answer 2

inter-company: internal sale or internal purchase
both divisions must benefit
TP’s have to be established and agreed
requirement to set preference to sell or buy internally

Question 3

Transfer Price

Objective

Answer 3

Goal congruence
Performance measure
Minimising tax liablity
Record movement of goods and services
A fair allocation of profits and services

Question 4

Bases for TP’s (3)

Answer 4

market based
cost based
negoiated

Question 5

Decision making uses of TP’s

Answer 5

Transfer at opportunity costs.

1. Perfect market: market price + minimal premium
2. Surplus market: marginal costs
3. supply constraint market: marginal costs + shadow price

Question 6

Performance measurement of TP’s

Answer 6

1. perfect market: Optimum = market price + small adjustments
2. Surplus capacity:
   a. 2 part tarif: Optimum = marginal cost + a lump sum
   b. Cost-plus pricing: marginal or full costs + markup
   c. Dual pricing: supplying and selling division have each a different transfer price. profit is recorded centrally.
3. With production constraints: marginal costs + shadow price (unfair to buyer, as there is no alternative supply and prices are set at monopoly level)

Question 7

International transfer pricing

Answer 7

Cross border trader aims to reduce profitability in high tax jurisdictions and allocate profitability in low tax jurisdictions.

Basic transfer price issues still apply.

60% of companies establish an APA (advanced purchasing agreement)

Note - TP’s are influenced by FX

TP’s can manage cash flows in a country (instead of dividends, which might be subject to local taxes). However this does not work at arms length’s approaches in a particular country.

Question 8

Government on TP’s

Answer 8

Attract business through low tax rates (tax haven)

• on profits
• on dividends (for holdings)
• or tax treaties with other countries
• a stable economy
• good communications with the ROW
• well developed legal framework