Why It's Important For SMEs To Be Aware Of Transfer Pricing

Expanding overseas is becoming a cheaper and more enticing prospect for more businesses in our digital age. Even SMEs are considering expanding their operations beyond the borders of their home country, hoping to participate in new markets or hire a less expensive workforce.

However, do note that carrying out operations in more than one country is sufficient for a business to get caught up in transfer pricing regulations. While transfer pricing is a new discipline in the Asia Pacific region, the local authorities are serious about enforcing transfer pricing regulations.

Businesses considering it should familiarise themselves with the concept of transfer pricing. It is essential knowledge for a company that wants to spread its business across multiple countries.

As such, we’ll be further explaining what transfer pricing is and its importance for SMEs.

What is transfer pricing?

Simply put, it refers to the pricing of transactions between related parties (For example: purchasing goods and provisioning services). Two parties are considered “related” if one party directly controls the other or if both parties are under the control of a third party. Examples of this are the branch offices and head offices of a company.

Internationally, there is a standard for transactions between two related parties, regardless of where they each are. This standard is called the “Arm’s Length Principle”. It is a principle that states that the transfer prices between related parties should be equivalent to the fees that would have been charged had the two parties been unrelated. In other words, the standard market price for the region should be charged, regardless of any pre-existing relationship. This ensures that the appropriate taxes can be charged for any value that the company creates.

Why should I take transfer pricing seriously?

Most governments take transfer pricing extremely seriously, and one’s business is liable to enter legal trouble if the matter of Transfer Pricing were to be ignored, no matter if one’s business is an SME or a multinational corporation.

A big part of the problem comes from people assuming that a company or group is considered one entity simply because it’s all owned by a single business owner. However, most tax authorities do not see it that way. Regardless of any prior relationship between parties, transfer pricing is based on the principle of transactions being priced as if both parties were entirely separate and independent entities (a.k.a. the arm’s length principle).

Currently, every nation has either adopted or is in the process of adopting transfer pricing regulations. Thus, it would be more fruitful to learn to deal with transfer pricing rather than try to relocate to a location that does not have it.

Many other issues also crop up when expanding one’s business overseas that transfer pricing can help alleviate. Examples include:

  • Incorrect pricing of services and markups,
  • Implementation of false royalty rates,
  • Unnecessarily high tax bills, and
  • Mismatches in income and expenses, resulting in a loss of profits for one party and disappropriate gain for the other.

Such situations can waste valuable time and effort and worsen relationships with clients and employees of different branches. Hence, transfer pricing is not just for avoiding legal trouble but also to preserve the cohesion of your business across multiple countries.

How do I do transfer pricing?

First, ensure that the transaction pricing between two related parties follows the market rate (the arm’s length principle). However, simply going by an honour system will not work with the authorities. Hence, proper contemporaneous transfer pricing documentation will be required to show deference to transfer pricing regulations. This is essential because if the business cannot sufficiently prove that their transfer prices are at arm’s length through their documentation, the authorities can impose severe penalties (such as doubled taxation).

Contemporaneous transfer pricing refers to the documents and information that the business has based the transfer price upon before or when undertaking the transactions between related parties.

The Inland Revenue Authority of Singapore (IRAS) will also consider documents as contemporaneous if it has been prepared no later than the filing due date of the tax return for the financial year in which the transaction took place. Please note that this will not necessarily be the case with other countries.

Conclusion

Transfer pricing is a critical step in a business planning to expand its operations past its nation’s borders. Thus, timely and accurate transfer pricing is essential to continued growth in the international market.

However, the rules in different nations are slightly different on the topic of transfer pricing, and it is easy to overlook the fine details within the mass of regulations that exist worldwide.

If you are searching for a professional firm to help you in this critical transition, Max Lewis Consultants provide transfer pricing services in Singapore and beyond. Besides transfer pricing, we also offer other financial services such as business and asset valuation, and assistance with the GST assisted self help kit in Singapore. Make an appointment with us today to start your business’ journey towards global success.