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Lewis & Pecker

AVS Lewis & Pecker is a professional financial service provider based in the UAE that delivers customized business and financial solutions to organizations in the country.

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Transfer Pricing

What is Transfer Pricing?

Transfer Pricing refers to the pricing of transactions between Related Parties or Connected Persons. These transactions include:

The sale or purchase of goods and services
Licensing or transfer of intellectual property
Financial transactions, including intra-group loans
Business restructuring within a corporate group

Transfer Pricing rules exist to ensure that these transactions are conducted at arm’s length—meaning, the pricing should be the same as if the transaction were between independent parties under market conditions.

Why is Transfer Pricing Important?

With globalization and cross-border trade, multinational enterprises (MNEs) operate in multiple jurisdictions, making Transfer Pricing a key consideration for corporate tax compliance. Without proper Transfer Pricing rules, companies might shift profits from high-tax jurisdictions to low-tax jurisdictions, leading to tax avoidance and base erosion.

To address this, governments worldwide have implemented Transfer Pricing regulations, often based on OECD (Organisation for Economic Co-operation and Development) Guidelines. The United Arab Emirates (UAE) has also introduced Transfer Pricing rules under the Corporate Tax Law (Federal Decree-Law No. 47 of 2022) to ensure fair taxation and prevent profit shifting.

Key Principles of Transfer Pricing

1. The Arm’s Length Principle (ALP)

The foundation of Transfer Pricing is the Arm’s Length Principle. According to this principle, transactions between Related Parties must be conducted as if they were between independent entities dealing at market value.

Under UAE Corporate Tax Law, the Arm’s Length Principle applies to both cross-border and domestic transactions between Related Parties and Connected Persons. If a transaction is not conducted at arm’s length, tax authorities may adjust the pricing to reflect Market Value, potentially leading to additional tax liabilities.

Example of Arm’s Length Pricing

A UAE-based company sells goods to its foreign subsidiary at a price lower than what it would charge an independent third party. This reduces its taxable profit in the UAE and shifts profits to the foreign subsidiary, potentially in a low-tax jurisdiction. Under Transfer Pricing rules, tax authorities can adjust this price to ensure it reflects market conditions.

2. Identification of Related Parties & Connected Persons

Transfer Pricing regulations apply to transactions between:

Related Parties – Entities that are connected through ownership, control, or kinship (up to the 4th degree).
Connected Persons – Individuals or entities that have a significant influence over the business.

The UAE Corporate Tax Law specifies that all transactions between Related Parties and Connected Persons must comply with the Arm’s Length Principle.

Scope of UAE Transfer Pricing Rules

The UAE’s Transfer Pricing regulations apply to Controlled Transactions, which include:

Sale of goods and services between Related Parties
Financial transactions (e.g., intra-group loans, guarantees, cash pooling)
Licensing or transfer of intellectual property (e.g., patents, trademarks, know-how)
Business restructuring and reorganizations
Transactions involving Permanent Establishments (PEs)

Even if a transaction does not involve a direct monetary exchange, it still falls under Transfer Pricing rules if it impacts taxable income.

Application of the Arm’s Length Principle: Step-by-Step Approach

Step 1: Identify Related Parties & Relevant Transactions

A company must first identify its Related Parties and Connected Persons and assess the transactions covered under Transfer Pricing rules.

Step 2: Select the Most Appropriate Transfer Pricing Method

The UAE follows OECD guidelines in determining the most appropriate Transfer Pricing method. The key methods include:

Comparable Uncontrolled Price (CUP) Method
- Compares the price of a controlled transaction with a similar uncontrolled transaction under comparable circumstances.
- Example: If a UAE-based company sells a product to its subsidiary at a price lower than to an independent third party, an adjustment may be required.
Cost Plus Method (CPM)
- The cost of a product or service is increased by an appropriate profit margin to determine an arm’s length price.
- Example: A manufacturer sells goods to a related distributor by applying a markup over production costs.
Resale Price Method (RPM)
- The price at which a related distributor resells a product to an independent party is used as a benchmark. A reasonable margin is deducted to arrive at the arm’s length price.
Transactional Net Margin Method (TNMM)
- Compares the net profit margin earned in a controlled transaction to the net margin of comparable independent transactions.
Profit Split Method (PSM)
- Used when Related Parties contribute unique and valuable intangibles. The total profit from a controlled transaction is split based on each party’s contribution.

A company should choose the method that best reflects its transaction’s economic reality.

Step 3: Determination of the Arm’s Length Price

Once a suitable method is selected, the arm’s length price is determined by conducting a comparability analysis, which involves:

Identifying internal and external comparables
Making necessary adjustments to ensure comparability
Establishing a pricing range that reflects arm’s length conditions

Transfer Pricing Documentation & Compliance in the UAE

To comply with UAE Transfer Pricing rules, businesses must prepare and maintain proper documentation to justify the pricing of their Controlled Transactions.

Key Transfer Pricing Documentation Requirements

General Disclosure Form – Companies must disclose transactions with Related Parties and Connected Persons.
Master File – Provides an overview of the global business operations and Transfer Pricing policies of a multinational group.
Local File – Contains detailed information on a company’s Controlled Transactions, including functional and comparability analysis.
Country-by-Country Reporting (CbCR) – Required for large multinational groups with annual consolidated revenue above AED 3.15 billion.

Failure to comply with Transfer Pricing documentation requirements may result in penalties and tax adjustments.

Transfer Pricing Risk Assessment & Adjustments

Transfer Pricing Audits

The Federal Tax Authority (FTA) can conduct Transfer Pricing audits to assess whether a company’s intercompany transactions comply with the Arm’s Length Principle.

Burden of Proof & Adjustments

Companies must provide sufficient documentation to support their Transfer Pricing policies. If a transaction is not at arm’s length, the FTA can make Transfer Pricing adjustments, which may result in:

Additional tax liabilities
Double taxation risks
Penalties for non-compliance

To minimize Transfer Pricing risks, companies should maintain robust documentation, conduct regular benchmarking, and ensure that intercompany transactions align with market conditions.

Conclusion

Transfer Pricing plays a crucial role in international and domestic tax compliance. The UAE’s Transfer Pricing rules, based on OECD guidelines, ensure that transactions between Related Parties and Connected Persons are conducted at arm’s length to prevent tax avoidance and profit shifting.

Understanding Transfer Pricing principles, selecting the right pricing method, and maintaining proper documentation are essential for compliance and risk mitigation.