Transfer pricing: how a company sets its own prices when it sells to itself

Every large company trades with itself. When one arm of a group sells parts, services, or the right to use a brand to another arm in a different country, somebody has to put a price on that internal sale. That price decides how much profit sits in each country, and therefore how much tax each country collects. The price is called the transfer price, and setting it is where a great deal of profit quietly moves.

Transfer pricing is not a trick. It is unavoidable. A substantial share of world trade, estimated at somewhere between a third and roughly half, happens inside multinational groups rather than between independent firms, so these internal prices have to exist. The mechanism is neutral. The abuse is in tilting the prices so that profit drains out of high-tax countries and pools in low-tax ones.

The rule that is meant to stop the tilting

The international answer is the arm's-length principle: a transaction between two parts of the same group must be priced as if the two parties were strangers dealing in an open market. If an independent supplier would charge £10 for a part, the group's internal price should be £10, not £2 and not £40.

The principle is written into Article 9 of the OECD Model Tax Convention and sits at the heart of the OECD Transfer Pricing Guidelines (current edition 2022, updated February 2024). The UK puts it into domestic law through Section 147 of the Taxation (International and Other Provisions) Act 2010, which points directly at the OECD Guidelines.

The four levers, step by step

There are four standard ways to move profit by adjusting an internal price. Each is legal on its face; each becomes a problem only if the price strays from arm's length.

• Goods. A subsidiary in a high-tax country sells components to a sister company in a low-tax country cheaply. The low-tax company resells at the real market price and books the margin. Or the reverse: the high-tax company overpays for what it buys from the low-tax company, manufacturing a cost that strips out its own profit.
• Services and management fees. Head office, often sitting in a low-tax location, bills the operating subsidiaries for "management services," IT, or central functions. Inflate those fees and you drain deductible costs out of the high-tax countries. UK guidance requires a benefit test: real evidence the service was actually provided, or the deduction is refused.
• Royalties on intellectual property. The group's patents and brands are owned by a low-tax entity, and every operating company pays it a royalty to use them. The royalty is a deductible cost where it is paid and income where it lands. This is the dominant lever, and it has its own page. Read more
• Intra-group loans. A low-tax entity lends to a high-tax subsidiary and charges interest. Interest paid is deductible; interest received is lightly taxed. Also its own page. Read more

How tax authorities try to police it

Since 2015, every multinational group with global revenue above EUR 750 million has had to file a three-part documentation pack:

• a Master File describing the group's business, IP and financing,
• a Local File with the transfer pricing analysis for each country, and
• a Country-by-Country Report showing revenue, profit, tax and headcount in every jurisdiction.

Over 120 jurisdictions have signed up to country-by-country reporting, with thousands of bilateral agreements to swap the data. The UK is tightening further: the 2025 Budget introduced an International Controlled Transactions Schedule, mandatory for accounting periods starting on or after 1 January 2027, forecast to raise an extra £105 million in 2027-28 and up to £350 million a year by 2030-31 through better-targeted enquiries.

The genuinely hard part: pricing the priceless

Transfer pricing breaks down when there is no comparable price to copy. A unique patent, a proprietary algorithm, an early-stage drug candidate: none of these has an open-market price to check against. A company can transfer such an asset to a low-tax entity early, when it is cheap, and price it cheaply. Years later it generates billions. The tax authority argues the original price was artificially low; the company argues nobody knew it would be worth so much. These disputes run for a decade and turn on hundreds of millions in contested tax. The OECD's response (the hard-to-value-intangibles approach under BEPS Actions 8 to 10) lets authorities look at what actually happened later to challenge the price set at the time.

Who it is out of reach for

To shift profit by transfer pricing you need at least two companies in at least two countries, internal transactions worth manipulating, and a compliance team to defend the prices in an audit that may last years. A one-country business has nothing to price internally and no low-tax sister company to price it to. The lever simply does not exist at small scale.