Contractual terms between two persons both dependent and independent persons must be examined regarding goods, property and services. The associate’s transactions must be scrutinised to ensure that revenue is not lost relative to non-associate.
Required:
How do contractual terms protect revenue in transfer pricing arrangements? (3 marks)
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Contractual terms
Economic substance governs a transaction. Economic substance determines the result of such a transaction. Contractual terms might provide for a purported allocation of risks, but, in the end, the economic substance should be determinative of the result.
Between the controlled and uncontrolled, are the contracts the same? If yes, it means the market price has been used in the price to the associate. If there is a material difference, there would be the need for adjustment to take account of the difference in the contractual terms under controlled and uncontrolled persons.
It is suggested that tax administration should include an analysis of contractual terms as part of the functional analysis. Contractual terms might not be in writing. In that event, the multinational enterprise or the tax administration must deduce the contractual relationships for the parties’ conduct and the economic principles that govern relationships between parties.