On October 23, 2023, the UAE Federal Tax Authority (FTA) issued the TP Guide that is in conformity with OECD guidelines to the public. It provides clarity on related parties’ definitions, putting more emphasis on the actual conduct of transactions rather than the mere existence of instruments of transfer.
The TP Guide recommends Transactional Net Margin Method (TNMM) and advises its use within the interquartile range. It deals with the issue of elimination of extreme comparables, the burden of sufficient documentation as well as the localization of group TP documentation. Moreover, a set of internal guidelines regarding financial transactions, intra-group services and compliance strategies went into force on June 1 2023.
Alongside this, this article will discuss:
What is “Arm’s Length Price”?
When buyers and sellers operate freely in the marketplace and agree on a price without any pressure to complete the deal, it’s referred to as an arm’s-length pricing. It basically means that all parties are independent of one another and have equal negotiating power, which might affect the terms and circumstances of the deal, including the price. In order to guarantee that transfer pricing is carried out among the divisions of multinational organizations as if the divisions were separate entities, this idea is most frequently used in international commerce and tax compliance.
What are the methodologies of transfer pricing?
There are two methods of transfer pricing used with businesses:
- Traditional Transaction method:
Conventional transaction approaches use a direct comparison of pricing, or gross margins, to compare the controlled and uncontrolled transaction(s). These three versions are as follows:
| – | The comparable uncontrolled pricing approach analyses prices in related transactions between unrelated parties under similar conditions, as well as the price of products or services in a controlled transaction. |
| – | The resale price method: it determines an arm’s length price by deducting a resale price margin from the price at which a product bought from a related company is resold to an independent company. |
| – | The cost plus approach adds a gross profit markup to a regulated transaction as a starting point. |
- Transactional Profit methods:
Examining net margins is often the foundation of transactional profit strategies.
There are two varieties of this:
| – | A taxpayer’s operational (net) profit from a regulated transaction is divided by a suitable measure, such as expenses, sales, or assets, in order to calculate the transactional net margin technique. |
| – | The transactional profit split approach determines and divides earnings from a regulated transaction according to what independent businesses would have agreed upon under similar conditions, taking into account the respective contributions of each participant. |
Applicability of “Arm’s Length Price” & Transfer Pricing under the UAE Corporate Tax Law:
Why is “arm’s length price” important regarding Corporate Tax?
Because the arm’s-length principle ensures that transactions between related parties are conducted as if they were between independent entities, preventing profit shifting and tax avoidance by multinational corporations. It aims for fair tax revenue distribution based on economic activity and helps companies avoid legal disputes and penalties, promoting transparency in international business.
Why is Transfer Pricing important regarding Corporate Tax?
According to the UAE CT Law, every Taxable Person engaging in transactions with Domestic or Foreign Related Parties or Connected Persons may be required by the FTA to create and submit a TP disclosure form. A materiality criterion for this TP disclosure form has now been added to the TP Guide; however, the threshold has not yet been established.