[section id="what-is-transfer-pricing" format="definition"]
What is transfer pricing?
Transfer pricing refers to the process by which related parties determine prices for goods sold, services provided, or assets shared within their multinational group. Because these transactions occur within the same corporate structure, tax authorities, including the ATO, require that each transfer price reflect the arm’s length principle.
This means each intercompany transaction should align with what independent businesses would charge under similar conditions. By applying transfer pricing rules, businesses ensure income is allocated correctly, tax obligations are met in each jurisdiction, and profit shifting to low-tax countries is avoided.
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[section id="how-does-transfer-pricing-work-in-practice" format="overview"]
How does transfer pricing work in practice?
In practice, transfer pricing requires businesses to examine each intercompany transaction, whether it involves goods, services, royalties, or intellectual property, and determine if the price matches what would occur in an open market. This involves functional analysis, economic benchmarking, and identifying comparable uncontrolled transactions.
For example, a manufacturing subsidiary in Australia supplies equipment to its Singapore distribution arm. To determine the arm’s length transfer price, the business must:
- Analyse the functions performed (manufacturing vs distribution).
- Identify comparables from independent equipment suppliers.
- Select the most appropriate transfer pricing method, such as the resale price method or cost plus method.
- Benchmark profit margins to ensure alignment with market expectations.
By following these steps, the company can justify its pricing decisions and support compliance during any ATO review or audit.
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Resale price method
The resale price method starts with the price a product is sold to an independent customer and works backwards to determine the arm’s length purchase price between related parties. An appropriate gross margin is deducted to reflect the distributor’s functions, risks, and operating costs. This method is commonly used when a related entity primarily acts as a distributor, without engaging in significant value-added activities.
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[section_inner_1 id="cost-plus-method" format="overview"]
Cost plus method
The cost plus method determines the arm’s length price by applying an appropriate markup to the supplier’s production or service costs. The markup is benchmarked against independent businesses performing similar functions under comparable conditions. This approach is often suitable for manufacturers or service providers operating on a routine, low-risk basis. It is recognised alongside other methods such as CUP, TNMM, and profit split, depending on the transaction profile.
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[section id="what-are-the-atos-rules-and-documentation-requirements" format="ul"]
What are the ATO’s rules and documentation requirements?
The ATO requires businesses to follow strict transfer pricing rules to ensure all related-party transactions meet the arm’s length principle. To stay compliant, businesses must maintain detailed documentation that shows how each transfer price was determined.
ATO documentation and compliance checklist:
- Identify all related-party transactions involving goods, services, IP, or financing.
- Apply the arm’s length principle and confirm prices align with comparable uncontrolled transactions.
- Select and justify a transfer pricing method, such as the CUP, resale price, or cost-plus method.
- Complete a functional analysis outlining assets used, risks assumed, and functions performed.
- Prepare contemporaneous documentation that supports each pricing decision.
- Ensure documentation is ready by tax return lodgement to satisfy ATO requirements.
- Review arrangements annually to ensure alignment with evolving business models and tax laws.
- Retain evidence for audit, including benchmarking studies, agreements, and financial data.
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[section id="what-are-the-main-transfer-pricing-methods" format="ul"]
What are the main transfer pricing methods?
The ATO and OECD recognise several transfer pricing methods that help businesses determine an arm’s length transfer price for related-party transactions. Each method compares the controlled transaction against independent market data to ensure fair pricing.
Common transfer pricing methods include the following:
- Comparable Uncontrolled Price (CUP) method — Compares the controlled transaction to an uncontrolled transaction to derive a market-aligned price.
- Resale Price Method — Works backward from the independent resale price to determine the arm’s length supplier price.
- Cost-Plus Method — Calculates an arm’s length markup on production or service delivery costs.
- Transactional Net Margin Method (TNMM) — Benchmarks the net margin of the tested entity against comparable independent businesses.
- Profit Split Method — Divides profits based on each party’s relative economic value contributed.
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[section id="why-is-transfer-pricing-important-for-your-business" format="ul"]
Why is transfer pricing important for your business?
Transfer pricing is essential for businesses involved in cross-border or related-party transactions because it directly affects how profits, tax liabilities, and operational risks are managed. By applying transfer pricing rules correctly, your business can minimise compliance issues, maintain accurate reporting, and prevent disputes with tax authorities.
It also helps ensure that your transfer price for goods or services reflects the arm’s length principle and aligns with international and Australian tax laws.
Key reasons transfer pricing matters:
- Ensures your transfer price aligns with the arm’s length principle.
- Supports accurate tax outcomes across subsidiaries and jurisdictions.
- Minimises the chance of tax adjustments, penalties, or disputes.
- Strengthens financial transparency between related parties.
- Promotes consistent documentation practices for ATO compliance.
- Helps the business maintain defensible pricing strategies for intercompany transactions.
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Even if transfer pricing outcomes are accurate, a lack of documentation can still result in penalties.
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[section id="how-to-develop-a-compliant-transfer-pricing-strategy" format="steps"]
How to develop a compliant transfer pricing strategy
A compliant transfer pricing strategy ensures your business sets fair prices for related-party transactions and can defend those prices during an ATO review. Taking a structured approach helps you apply the arm’s length principle consistently across all dealings and maintain transfer pricing documentation that clearly supports your position.
[section_inner_1 id="identify-all-related-party-transactions" format="overview"]
Identify all related-party transactions
Start by reviewing every transaction that occurs between related entities, both within Australia and overseas. This includes goods sold, services provided, royalties, financing arrangements, and transfers of intangible assets. Understanding the scope of your controlled transactions is essential because each transfer price must reflect an arm’s length outcome.
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[section_inner_1 id="conduct-a-thorough-functional-analysis" format="overview"]
Conduct a thorough functional analysis
A functional analysis assesses what each party contributes to the transaction — the functions they perform, the assets they use, and the risks they assume. This helps determine how profits should be allocated across the group. For example, a low-risk distributor and a high-risk manufacturer would not earn the same level of profit, even if they operate within the same supply chain.
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[section_inner_1 id="choose-an-appropriate-transfer-pricing-method" format="overview"]
Choose an appropriate transfer pricing method
Once you understand the economic substance of the transaction, select a transfer pricing method recognised by the ATO and OECD. Standard methods include the CUP method, the resale price method, the cost-plus method, TNMM, or the profit split method. The technique must reflect how independent parties would price the same transaction under similar conditions.
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[section_inner_1 id="benchmark-results-using-independent-market-data" format="overview"]
Benchmark results using independent market data
Benchmarking is essential for demonstrating that your transfer price aligns with market behaviour. This often involves comparing gross or net margins to those earned by independent companies engaged in similar activities. High-quality comparables strengthen the credibility of your transfer pricing analysis and reduce the likelihood of an ATO adjustment.
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[section_inner_1 id="prepare-documentation" format="overview"]
Prepare documentation
The ATO requires businesses to maintain documentation that explains how each transfer price was determined. This should include your method selection, functional analysis, benchmarking, and supporting financial data. Documentation must be finalised before lodging the income tax return to meet compliance requirements.
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[section_inner_1 id="review-and-update-your-strategy-annually" format="overview"]
Review and update your strategy annually
Transfer pricing is not a “set and forget” process. Changing market conditions, supply chain updates, and new intercompany arrangements can all impact your transfer price. Reviewing your strategy each year ensures results remain defensible and aligned with the arm’s length principle.
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[section id="get-expert-transfer-pricing-advice-from-liston-newton" format="cta"]
Get expert transfer pricing advice from Liston Newton
Ensuring your transfer pricing is accurate, compliant, and defensible is essential for protecting your business from unnecessary tax exposure. Whether you need help selecting the right transfer pricing method, preparing ATO-compliant documentation, or reviewing your current pricing model, our team can guide you through every step with clarity and confidence.
By working with specialists who understand the ATO’s expectations, OECD guidelines, and the realities of cross-border operations, you can reduce audit risk, enhance transparency, and make more informed decisions about how profits are allocated across your group.
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Speak with a transfer pricing specialist and get tailored advice on documentation, method selection, and ATO compliance. Book a complimentary strategy session to gain clarity on your obligations and pricing approach.
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