Year End Transfer Pricing Adjustments

Introduction

As the fiscal year draws to a close for multinational enterprises (“MNEs”) operating on a calendar-year basis, it is time to reflect on whether transfer prices need to be revisited before finalizing the books. For UAE businesses, this year is particularly significant, as the UAE Corporate Tax (“CT”) Law has taken effect for financial years starting on or after 01 June 2023. Many UAE businesses are facing their first year of compliance with Transfer Pricing (“TP”) regulations. Hence, ensuring that all related-party transactions adhere to the arm’s length standard, regardless of thresholds, is critical to streamlining TP policies and making necessary year-end adjustments.

What Are Year-End Adjustments?

Year-end TP adjustments, commonly referred to as “true-ups” or “true-downs,” are made to align the actual financial results with the intercompany pricing arrangements or the arm’s length standard. These adjustments are crucial in scenarios such as:

1. Deviation in Actual Results/Margins vs Targeted Margins

   For instance, limited-risk entities like contract manufacturers, limited-risk distributors (LRDs), or contract service providers following a fixed-return model may experience discrepancies due to:

   Differences between budgeted and actual costs.

   Variances in cost components used for billing and TP purposes (e.g., operating costs).

2. Margins Falling Outside the Arm’s Length Range

When the actual margin deviates from the arm’s length range established through comparability analysis, adjustments are needed to align with compliance standards.

Key Considerations for Year-End Adjustments

When performing year-end adjustments, businesses must evaluate the following:

1. UAE taxpayers’ adjustments should align with the 25th percentile, 75th percentile, or median of the dataset.
2. Cross-border transaction’s adjustments must be justifiable in both the UAE and the counterparty’s jurisdiction to avoid double taxation or legal disputes.
3. Downward adjustments in pricing may affect customs duties already paid or revenue figures reported in indirect tax filings. Companies must assess whether refunds can be claimed or if such adjustments are treated as sunk costs.
4. For MNEs subject to the OECD’s Pillar 2 global minimum tax, TP adjustments may influence their effective tax rate calculations.

Best Practices to Minimize Year-End Adjustments

Year-end adjustments should ideally be minimal. To achieve this, businesses can adopt the following practices:

1. Periodic Monitoring: Track financial performance monthly or quarterly to identify and address variances early.
2. Operational TP: Leverage technology to align TP with real-time operations.
3. Robust Documentation: Maintain detailed records of analyses, agreements, and adjustments for compliance and audit defence.
4. Stakeholder Collaboration: Align finance, tax, and legal teams for a unified approach to TP.

Key takeaways

As the UAE’s CT regime continues to evolve, year-end TP adjustments will remain a critical aspect of compliance for businesses operating in the region. By adopting proactive strategies and leveraging technology, companies can navigate the complexities of TP with confidence. As we move into a new era of CT in the UAE, businesses that prioritize effective TP management will be well-positioned to thrive.