Transfer pricing - key info for entrepreneurs

Publication date: 28 October 2022

One such issue is transfer pricing, which is the way in which various transactions are carried out between individuals or affiliated companies. The most important component of the situation relates to the values at which those transactions are carried out.

In the article below you will find out what transfer prices are, what their importance is for companies that are bound by them and what are the main methods of establishing them. In addition, you will find out how to prepare a transfer pricing file, who is obliged to make this document available to tax inspectors, what its parts are and the advantages of outsourcing the file preparation service to a business consultancy firm.

Contents:

1. What is transfer pricing?

1.1. The importance of transfer pricing

1.2. Transfer pricing methods

2. Preparation of the transfer pricing file

2.1. Who needs to prepare the transfer pricing file?

2.2. The contents of the transfer pricing file

3. The advantages of outsourcing the preparation of the transfer pricing file

1. What is transfer pricing?

The tax policies of the various individuals and legal entities operating in the economic field are of particular importance, both in terms of the economic success of the activity and in the correct and timely fulfilment of the conditions imposed by the Romanian legislative documents.

A rather complex issue that gives entrepreneurs a lot of trouble is that of transfer pricing, which refers to the transfer value of goods and services between a company and its related parties or between related individuals. Romanian legislation introduced this obligation following recommendations by the Organisation for Economic Co-operation and Development (OECD) as an effective method of determining real profits. 

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1.1. The importance of transfer pricing

In order to correctly determine the tax obligations of various individuals and legal entities towards the Romanian State, the transfer pricing principle was introduced, which regulates transactions between related persons. In the absence of these regulations, there was the possibility of hiding sums of money obtained in the form of transactions carried out between divisions of companies located in different countries. In order to avoid this situation, the principle of market price compliance was introduced, i.e. the transactions concerned should be carried out at the value that they would be if there were no affiliation between the parties involved.

The issue of transfer pricing is primarily of fiscal importance, as it is a legal requirement for certain categories of companies, especially multinationals, which have divisions in different parts of the country. Transfer pricing is used to calculate the taxable base for corporation tax. The Romanian state is interested in ensuring that profits made in Romania are not exported to other countries through intra-group transactions and, for this reason, requires as a basic principle the application of the market value of the transfer of goods or services.

Secondly, correct transfer pricing is also an opportunity to identify vulnerabilities within the company and to take decisions to eliminate them. Thirdly, the transfer pricing file can also be used as a good management tool, as the information in the file objectively captures the economic reality at a given point in time and allows correct and potentially economically important decisions to be taken.

1.2. Transfer pricing methods

The Romanian legislation also provides suggestions for transfer pricing methods. There are in this respect both traditional methods, such as the price comparison method, the cost plus method and the resale price method, and modern transactional methods, such as the net margin method and the profit split method. In addition to these 5 methods suggested by the OECD Transfer Pricing Guidelines, other methods can be applied, but strictly in accordance with the market value principle.

Companies can choose any method they wish, but there is one rule, namely that the method should be selected according to the interests of the company, the type of business and the transactions it carries out. In some cases, large companies use 2 or more methods at the same time to determine which is the most advantageous in terms of tax liabilities to the state.

The price comparison method is most often used because it is easy to apply and gives accurate results. This method is ideal for determining the fair value of the transfer of goods and services between divisions of the same company. To determine the correct prices, you consult the values used in transactions between independent individuals or companies and choose that value as the benchmark. This method is also preferred by the Romanian tax authorities because it can also be used to establish prices for commissions, royalties and interest rates between related persons.

The cost-plus method is used to determine the market price by establishing the cost that the producer of goods or service provider has recorded, plus a profit margin at the usual value in the field of activity concerned.

The resale price method provides for the calculation of the transfer price by taking into account the price at which a particular product or service purchased from an affiliated person is resold to a third party. From the resale price, a margin will be subtracted to ensure the company's profit, which remains as a fair market price in the case of a transfer of goods between two related parties.

The net margin method refers to the profit that a company earns which should be approximately equal to the profit of another company in the same industry. The assumption here is that profit margins in different industries tend to equalize, which allows for a fair calculation of transfer prices.

2. Preparation of the transfer pricing file

Romanian legislation has clear provisions regarding the obligation to draw up the transfer pricing file. The obligation to draw up the file is incumbent on natural and legal persons who carry out transactions with affiliated persons. Law No 571 of 2003 defines the meaning of the term affiliated person. In the case of natural persons, affiliation is between spouses or relatives up to and including the third degree.

There is also the possibility of affiliation between a natural person and a legal person if that person holds directly or indirectly at least 25% of the shares or voting rights. In the case of affiliated legal persons, they must hold at least 25% of the share capital or voting rights or economic control.

Transactions with affiliated persons refer to intra-group sales and purchases of goods and services, but also to interest arising from intra-group loans or even cost recharges.

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‎‎2.1. Who needs to prepare the transfer pricing file?

The transfer pricing file is a document that firms involved in transactions with related persons are obliged to draw up. Large taxpayers are required to complete it every year by 25 March, while small and medium-sized taxpayers only have to do so if the tax authorities specifically request it. In the latter case, the transfer pricing file must be made available to the competent tax authorities within 1-2 months from the time of the request, but they can also have an additional period of 30 days in which to complete all the documents that must be included in the file.

Not every transaction has to be included in the transfer pricing file. The condition is given by the value of the transaction, Order 442/2016 specifying the value thresholds above which such documentation needs to be prepared. This will differentiate between large taxpayers and small and medium taxpayers. Large taxpayers with transactions of more than €200,000 in interest, €250,000 in services and €350,000 in goods must carry out the documentation. For small and medium taxpayers the thresholds are lower, €50,000 for interest, €50,000 for services and €100,000 for goods.

2.2. The contents of the transfer pricing file

The transfer pricing file is complex and quite difficult to prepare, as market prices in dozens of countries, often with different tax laws, have to be taken into account. This file is made up of two main parts. The descriptive section contains financial information about the company, its main customers, the legal structure of the company, both general and local, and its business strategy.

The second section is the section providing information on the contributors, detailing the transactions with related persons, both in terms of how they are transacted, how they are invoiced and the value of the transactions. This part should not be missing a description of the chosen transfer pricing method and justification of the choice.

The Tax Procedure Code stipulates the penalties for failure to submit the file, so small and medium-sized taxpayers can be fined from 2,000 to 8,000 lei if they refuse to provide tax inspectors with information on transfer prices, while large taxpayers can be fined between 12,000 and 27,000 lei.

3. The advantages of outsourcing the preparation of the transfer pricing file

The transfer pricing file is a rather difficult document to produce, especially if it is a case of identifying transactions that have taken place over a long period of time and between many related persons. Some economic operators often find themselves unable to provide tax inspectors with a correctly completed document in the limited time available to them.

With this in mind, one way of complying with the legislative requirements and producing a flawless file is to call in a business consultancy firm with expertise in transfer pricing and whose specialists are familiar with all the intricacies of this vast field. Among the services available for transfer pricing are:

• Preparation of transfer pricing reports, both annual, which must be filed by 25 March by large taxpayers, and special, for small and medium-sized taxpayers, which must be made available to tax inspectors if required;
• A consultancy firm can carry out economic analyses and comparability studies on intra-group transactions;
• The company's specialists provide assistance during tax inspections;
• If the tax inspectors' conclusions are considered incorrect, the consulting firm can help draft justified advice;
• Through the consultancy firm, an amicable procedure for the elimination of double taxation can be carried out, which would mean, in practice, double taxation of profits and therefore a loss of money;
• On the basis of transfer pricing information, a detailed and functional analysis of the value chain can be carried out and problem areas can be identified, allowing measures to be taken to resolve these situations;
• During the process of preparation and actual submission of documentation, the company's specialists can assist in the development of Advance Pricing Agreements (APAs), with which the transfer pricing methodology can be chosen;
• Through business consultancy, potential risks that may be encountered in the event of tax inspections can be identified and pre-inspection measures can be taken to achieve correct regulatory compliance.

In conclusion, the issue of transfer pricing is one that needs to be considered by individuals and companies involved in business with related third parties in order to avoid tax problems and to be able to establish a business strategy that will provide the best economic results.

*This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your own tax, legal and accounting advisors before engaging in any transaction.