When the Ministry of Finance (MOF) declared the implementation of corporate tax, it stated that it would follow the Organization for Economic Cooperation and Development (OECD) model. It would also introduce a well-established corporate taxation principle, namely the principle of transfer pricing in Dubai. Transactions and financial support between related businesses will be subject to increased scrutiny under transfer pricing (even in free zones). In this article, we’ll discuss the concept of transfer pricing thoroughly. To begin, we will define transfer pricing. Following that, you will learn about the purpose of transfer pricing and the OCED guidelines.
So let’s begin.
What is transfer pricing?
The concept of transfer pricing in Dubai focuses on business transactions between related companies that are common in the region, particularly between multinational corporations and, in some cases, large family-owned businesses in the UAE that have market control. Ultimately, the concept controls the companies from paying less tax by exploiting several tax loopholes and charging a related business a much lower or far higher fee for a transaction, skewing the quantity of taxable income and declaring income much lower than it actually is.
What Is the Purpose of Transfer Pricing Regulations?
It is well known that tax rates differ drastically between countries. If unchecked, the practice could shift profits from high-tax countries to low(er)-tax countries. Although less likely, the pricing policy may result in multinationals reporting too much tax in high-tax countries and too little tax in low-tax countries. The primary goal of transfer pricing regulation is to prevent both scenarios and ensure that profits are taxed where value is created.
The OECD applies the “arm’s length principle” to pricing transfer. Simply put, any transactions between related enterprises are conducted on the same terms as if the enterprises were unrelated. As a result, neither enterprise gives the other preferential treatment. The OECD provides detailed guidance on how to determine a valuation, but in general, five methods are used, which are mentioned below:
- Method of comparing uncontrolled prices
- Method of resale price
- The cost-plus method
- Profit division method
- Net Margin Transactional Method.
The OECD also requires companies to keep certain key documents, the most important of which is a Master File and a Local File. The Master File covers the entire group of related companies, whereas the local file focuses on the business within the local jurisdiction (in this case, the UAE). In conclusion, the terms and conditions of controlled transactions may not differ from those of uncontrolled transactions, according to transfer pricing rules. The ultimate goal of these TP rules is to prevent profit shifting from high-tax countries to low-tax countries (and, less likely, the other way around). Many countries’ authorities are focusing on TP rule compliance. Paying insufficient attention can result in significant financial risks. Firms doing international business are subject to several obligations under the rules. A three-step approach can be used to ensure proper compliance with these rules.
What exactly is transfer pricing? We hope we answered your question!
If you need assistance with transfer pricing in Dubai, tax requirements, or account and finance, connect with AARRC’s experts.