Transfer pricing – a springboard for business growth

Today, we present the fourth and final entry in our series on transfer pricing. From previous posts, you already know what transfer pricing is (and certainly what it isn’t), who related parties are, and how to assess whether the prices applied in an intragroup transaction are at arm’s length. You’ve also become familiar with the key terms we use daily as transfer pricing specialists and gained insight into the specifics of our work.​

Now it’s time to answer a question that might have crossed your mind after reading the earlier posts: Do transfer prices help groups grow? Or are they rather an obstacle due to a range of documentation and reporting obligations, i.e., so-called compliance obligations? We won’t keep you in suspense and will answer right away: transfer pricing definitely helps companies grow. The question is: how?

Starting locally, aiming globally

Imagine you have a company that produces sports shoes. Your products are so phenomenal that you receive orders not only from Poland but also from other countries. With each passing month, the number of orders increases. You analyse the data and notice that the highest number of orders comes from Spain. Assessing the market potential, you decide to open another factory in Spain. Now, there are several issues you need to consider, such as where to obtain financing, whether to buy an existing company or establish a new one, etc. But for now, let’s focus solely on the transfer pricing aspects.​

With a subsidiary in Spain, you must decide on the business model it will operate under, i.e., whether it will function independently or, for example, its activities will be limited to fulfilling orders received from the Polish company. If it operates solely on orders, how should it be compensated? What profit (of course, in line with the arm’s length principle) should it generate so that local authorities inspecting the company in Spain don’t consider its earnings too low? Or conversely, what if Polish authorities determine that the Polish company is paying the Spanish company too much, thereby reducing the taxable income in Poland?​

At this point, we delve into the essence of transfer pricing—determining the functional profile of companies and establishing the settlement model, i.e., the transfer pricing model. By defining the functional profile of the Spanish company, i.e., specifying the functions it will perform, the assets it will engage, and the risks it will bear, we can determine—based on the arm’s length principle and transfer pricing regulations—how it should be compensated and what profit level can be considered arm’s length. Additionally, we can address what to do if the company doesn’t achieve the expected profit level.​

Benefit #1: Transfer pricing regulations allow us to establish clear cooperation rules between the Polish and Spanish companies—simplifying the negotiation phase and facilitating ongoing collaboration.​

But are these all the benefits? Not quite. The most important aspects are still ahead. Remember how, in the first post, we mentioned that transfer pricing is a global issue, although regulations often differ significantly between countries? When establishing settlement models for companies in various countries, we must ensure that the assumptions of this model comply with transfer pricing regulations at both the national and international levels. This brings us to another benefit:

Benefit #2: If the current cooperation model has proven successful, opening additional companies in other countries allows you to essentially “copy” it. Thus, having a stable (i.e., substantively correct but also sufficiently flexible) transfer pricing model can significantly facilitate and accelerate business scaling.​

When complexity increases

Transfer pricing policy – a remedy for all troubles

Let’s consider an optimistic scenario. Your business is thriving, your group has reached multi-billion turnover, and operates in several markets. Companies are daily engaging in numerous transactions to meet end customers’ needs. Your shoes are the best! How do you maintain control over all this? How can you ensure that individual companies continue to set transaction terms on an arm’s length basis, i.e., play fair? And perhaps more critically—what if you also have a company in a jurisdiction considered a tax haven—how do you protect your reputation and avoid accusations that the group is transferring inappropriate profits there?​

The answer is to create a Transfer Pricing Policy—a document that organizes the rules under which transactions between related parties are conducted for the most important and/or recurring transactions. The Transfer Pricing Policy serves as a manual/instruction—whenever two or more group companies are about to enter into a transaction, they refer to the ready solution because:​

• For each intra-group transaction, you have planned the division of functions, risks, and who engages which assets (i.e., the entities’ profiles).​
• Additionally, you have planned the settlement model and conducted benchmarking analysis (i.e., you are certain that the agreed prices are arm’s length).​

Benefit #3: The Transfer Pricing Policy introduces consistent rules for intra-group settlements. It ensures transparency in settlements, and in an atmosphere of transparency, it’s much easier to build a positive image and trust among clients and investors.​

What about compliance obligations and million-dollar penalties for board members?

Having a Transfer Pricing Policy makes both the audit itself and fulfilling compliance obligations regarding transfer pricing significantly more straightforward.

When preparing transfer pricing documentation, you don’t worry about whether the settlement method of a particular transaction aligns with group principles and the arm’s length principle, and whether everyone is aware of these principles, because there’s a policy. You don’t need to conduct interviews with individuals who executed the transaction to document it—you simply confirm that the transaction was conducted according to the principles outlined in the policy. You prepare the documentation and report transactions in the TPR form. You have everything. You sleep peacefully.​

Congratulations! If you’ve read this and the previous three entries, you’ve completed our series on transfer pricing in the Mr Tax Academy. Hats off!​

If we’ve piqued your interest in transfer pricing and you’d like to learn more—visit our blog: https://www.mddp.pl/troche-o-powiazaniach/