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Chapter Code: MCS07
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A transfer price is defined as the internal price charged by a selling department, division, or subsidiary of an organization for a raw material, component, or finished goods or service supplied to a buying department, division, or subsidiary of the same organization. The main objective of transfer pricing is to aid in the proper distribution of revenues and costs between responsibility centers. |
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However, in reality, it is very difficult to find an ideal situation that will satisfy all these conditions, and some external or internal constraints will always remain.
Organizations commonly use four methods for establishing transfer prices. They are the market-based pricing method or Comparable Uncontrolled Price (CUP) method, the cost-based pricing method or Cost Plus (CP) method, the negotiated pricing method, and the resale price (RP) method. Due to the problems encountered by vertically integrated organizations, these organizations may also follow alternative methods for transfer price calculation like the two-step pricing method, profit sharing or profit split method, and the two sets of prices method.
Implementation of transfer prices is even more difficult than their formulation. Organizations need to articulate and communicate the transfer pricing strategy to all the related parties, maintain all relevant documentation, involve multidisciplinary teams in the implementation, and provide negotiation and conflict resolution to overcome problems and avoid the misuse of transfer prices.
The liberalization of the Indian economy has led to a phenomenal growth in the industrial and services sector. The availability of cheap skilled labor has resulted in increased cross-border related party transactions between India and other nations. This has made transfer pricing very important from the taxation point of view. The Indian government has introduced detailed transfer pricing regulations with effect from April 1, 2001, to reduce tax avoidance by organizations operating in India.
The Concept of Transfer Pricing
Objectives of a Transfer Pricing Policy
Transfer Pricing Objectives in International Business
Factors Influencing Transfer Pricing
External Constraints
Internal Constraints
Methods of Calculating Transfer Prices
Market-based Pricing Method or Comparable Uncontrolled Price (CUP) Method
