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Indicators of transfer pricing policy design risk (part 3)

Updated 11 April 2025

Who should read this part

This part should be read by individuals who have experience in transfer pricing compliance. It is relevant to in-house tax and external transfer pricing specialists, that are involved in:Ìý

• setting transfer pricing policiesÌý
• reviewing for risks in existing transfer pricing policy approaches

Why it is importantÌý

In HMRC바카라 사이트™s experience, compliance risk is often created by setting transfer pricing policies which appear high level and insufficiently supported by analysis, or which do not adequately reflect the facts and circumstances of the UK business.Ìý

This part of these guidelines aims to allow specialists to identify common risk indicators of policy design which may feature in their arrangements. It sets out:Ìý

• high risk indicators, which based upon our experience can result in enquiry compliance costs or transfer pricing adjustments for UK businessÌý
• best practice suggestions to reduce riskÌý

This will enable specialists to check that the indicators are not evidence of underlying non-compliance risk, and either:

• where individual facts and circumstances indicate this is the case use the accompanying suggestions as to best practice to reduce the risk
• where the indicator has not resulted in risk, proactively document the conclusions as to how the policy design resulted in an arm바카라 사이트™s length return, understanding this is likely to be an area of greater scrutiny by HMRC

This content highlights HMRC바카라 사이트™s view of common indicators of high risk approaches to policy design in a number of relevant areas:

• 3.1 바카라 사이트” General risks in policy setting approachesÌý
• 3.2 바카라 사이트” Intangible assets ownership and exploitationÌý
• 3.3 바카라 사이트” Above market intra-group servicesÌý
• 3.4 바카라 사이트” Transfer pricing target margin models
• 3.5 바카라 사이트” Cost based reward for servicesÌý
• 3.6 바카라 사이트” Sales based reward for servicesÌý
• 3.7 바카라 사이트” Franchise fees and similar single fee arrangementsÌý

Financial transfer pricing is not covered in depth within these guidelines. However, many of the best practice suggestions remain relevant regardless of the type of transaction. Limited reference to specific compliance risk areas, including financial transfer pricing, should not be taken to imply that HMRC does not believe these areas contain risk.

These guidelines do not represent the views of HMRC바카라 사이트™s underlying policy positions. The risk areas included are not an exhaustive list and they are not presented in order of priority. No inference can be made of the risk profile of transactions not covered by these guidelines.Ìý

Areas covered in this part may have interactions with other rules of taxation, for example, Part 8 of the Corporation Tax Act 2009, VAT and withholding tax. They are not within the remit of these guidelines and specialists should consider these separately.Ìý

3.1 General risks in policy setting approachesÌý

A common driver of risk in transfer pricing policy setting or method selection is where there is significant divergence between:Ìý

• transfer pricing group policy design goalsÌýor operational simplification aims
• how the UK business actually operates based on functional analysis and actual conductÌý

General risk indicators

General indicators of such risk which can carry a high risk of transfer pricing error include:Ìý

• reliance on contractual allocation of risk when this differs from the capacity or capability to bear risk as evidenced by underlying conductÌý
• reliance on legal ownership of assets or rights as justification of entitlement to residual profits from those assets, without regard to the function and risk profile of others in contributing to asset value and the arm바카라 사이트™s length return for those contributionsÌý
• group policies based on effective tax rate goals divorced from operational realityÌý
• fragmentation of a multi-functional or complex entity into numerous separate 바카라 사이트˜routine바카라 사이트™ policies which result in a lower return than if viewed holistically 바카라 사이트” read INTM440130 바카라 사이트” Types of transactions 바카라 사이트” intangibles 바카라 사이트” fragmentationÌý
• inclusion of, on first impression, commercially irrational terms, that do not feature in third party arrangements or that parties would be unlikely to enter into at arm바카라 사이트™s length

Best practice approaches to reduce risk

General risks in policy setting are reduced when transfer pricing policy is based upon robust analysis as set out in part 2 (Common issues in transfer pricing documentation).ÌýSuch analysis should reflect the actual conduct as opposed to solely contractual terms of the relevant parties.Ìý

Policy design should be based on evidence of the commercial and financial relations for the 5 categories of economically relevant characteristics of the transactions, which are:

• the contractual termsÌý
• the functions performed by each of the parties to the transaction, considering assets used and risks assumed
• the characteristics of property transferred, or services providedÌý
• the economic circumstances of the parties and of the market in which the parties operate
• the business strategies pursued by the partiesÌý

Risk is further reduced where those familiar with day-to-day business operations are involved in sense checking the outcomes.

3.2 Intangible assets ownership and exploitationÌý

Common risks in setting transfer pricing policies or intra-group contract terms that determine the owner바카라 사이트™s share of proceeds from exploitation of intangible assets are set out in this part 바카라 사이트” read INTM440120 바카라 사이트” Types of transactions 바카라 사이트” intangibles 바카라 사이트” how are intangibles exploited. HMRC best practice suggestions to reduce risk are also featured.

Where high risk indicators are present within the approach adopted by a UK business, specialists are encouraged to review the compliance approach and either recommend changes or evidence and document in their analysis how the approach featuring the risk indicator has resulted in an arm바카라 사이트™s length return.

HMRC recognises that in multinational groups,Ìýcentralised ownership of intangibles, including intellectual property can simplify business. However, we frequently observe compliance risk, where:

• the approach attributes income directly or indirectly to a company withÌýlegal ownershipÌý
• the company in question lacks the capability or capacity to develop, enhance and exploit the intangible asset

This is particularly the case where development, enhancement, maintenance, protection and exploitation (DEMPE) functions are sub-contracted to an affiliate.Ìý

If high risk indicators are present in the policy design, HMRC recommend specialists review the compliance approach. This is likely to result in either:

• recommended changes to the policy including our suggested best practiceÌý
• evidencedÌýanalysis of how the policy resulted in an arm바카라 사이트™s length return within documentation

High risk indicators 바카라 사이트” intangible assets ownership and exploitation

Compliance risk can be created where intangibles ownership and residual income are located in companies with either limited substance or little apparent management of risk relating to the intangible. Examples of risk indicators include:

• ownership located in manufacturing companies where manufacturing process development is not a key driver of value creation
• ownership located in 바카라 사이트˜master distributor바카라 사이트™ intermediaries where economically significant market risk driving profits is managed in local distribution affiliates
• ownership located in 바카라 사이트˜intellectual property (IP) owning entities바카라 사이트™ where important functions and control of economically significant risks relating to that IP are effectively 바카라 사이트˜contracted out바카라 사이트™ 바카라 사이트” this includesÌýto affiliates who may have realistically available alternatives to retain ownership, form a cost contribution arrangement (CCA) or a similar shared intangible risk and return arrangement or receive royalties typical for the industry
• where ownership is centralised into 바카라 사이트˜IP owning entities바카라 사이트™, said to control the economically significant risks associated with exploitation, but legal ownership is only transferred for selective assets when the probability of success is high, and the legal owner must rely on affiliates to exploit the intangible commercially
• where intangibles are licensed to 바카라 사이트˜IP owning entities바카라 사이트™ where the development of replacement assets is not controlled by the legal owner, but allocation of the residual continues after the assets have been effectively refreshed or replaced 바카라 사이트” an example of this would be software development
• where UK entities are participants of loss-making intangible development CCAs (or similar arrangements) where documentation insufficiently evidences that the UK entity would have incurred those losses at arm바카라 사이트™s length
• where there are material changes to the expected benefits of a CCA (or similar arrangements) including the UK and there does not appear to be any ongoing assessment of whether the CCA outcome remains arm바카라 사이트™s length
• UK 바카라 사이트˜IP owning entities바카라 사이트™ incurring significant levels of amortisation charges on intangible assets acquired from affiliates, relating to any form of intangible asset arrangement
• where an affiliate pays a license fee to use intangibles in their business and there is a disparity between the payment and reward received by the affiliate for contributing assets, economically significant functions or risk management and control of the intangible assets
• new IP 바카라 사이트˜owning entities바카라 사이트™ licensing group intangibles who lack the capacity or capability to control risk without relying on exploitation of the assets to finance acquisition costs from licensees
• where UK entities are undertaking 바카라 사이트˜Blue sky바카라 사이트™ research, platform IP development, or other important functions (as listed in 6.56 of TPG) and are rewarded by a margin on cost without analysis and documentation as to whether a realistically available alternative to share in profit exists
• benchmarking exercises to identify comparable IP agreements have not been screened with reference to the most economically relevant characteristics so as to identify comparables reflecting key factors such as stage of development, exclusivity, useful economic life, attrition risk and the effective underlying profit split represented by the royalty
• risk management (control and mitigation) decisions relating to intangibles development, enhancement and maintenance are fragmented across multiple group decision making bodies and committees populated by employees of numerous group entities resident across the globe, with the residual return accruing to the legal owner by default
• reward is attributed to the legal owner for intangibles which represent the collective human capital assets of knowledge and know-how networks within affiliates harnessed within a central system or repository
• royalty waivers or contractual terms where royalties are varied due to non sales related factors

Best practice approaches to reduce risk 바카라 사이트” intangible assets ownership and exploitation

In HMRC바카라 사이트™s experience risk can be reduced by adopting these best practice approaches:

• ensuring transfer pricing policies for intangibles align the return from the exploitation of the intangible with the control of the relevant economically significant risks and other important functions
• retaining appropriate contemporaneous forecasts supporting intangibles evaluation
• checking that allocation of income relating to intangibles development or commercialisation considers internal comparable uncontrolled transactions with appropriate comparability adjustments
• undertaking a periodic review of CCA (or similar arrangement such as a cost share agreement) participants relative shares of expected benefits and consideration of whether adjustments are necessary (8.22 OECD TPG)
• ensuring the analysis of the role of the UK in risk control does not ignore risk control or management roles for economically significantly risks below the top level of senior management, or exercised jointly in concert with other affiliates
• documenting options realistically available to both parties (including the UK) in group IP restructuring situations and assessing without hindsight whether there were any alternatives offering a greater opportunity for the parties to meet their commercial objectives
• undertaking proper comparability analysis 바카라 사이트” read part 2 (Common compliance risks), in selecting benchmarks for UK functions, assets, and risk in relation to intangibles using the DEMPE framework
• retaining evidence that potential internal comparable uncontrolled prices (CUPs) have been robustly reviewed and external CUPs fully explored including corroborative analysis where helpful
• reviewing instances of royalty waivers or royalties varied due to factors other than sales to ensure they are arm바카라 사이트™s length

HMRC INTM483120 바카라 사이트” working a transfer pricing case 바카라 사이트” penalties 바카라 사이트” negligence or carelessness examples 8 and 9 provide useful illustrations for awareness purposes.

Other considerations

Note that consideration should be given to Part 8 Corporation Tax Act (CTA) 2009 where there is either:

• a transfer between a UK company and a related party of an intangible asset
• a grant of licence or other right in respect of an intangible asset between a UK company and a related party

Such consideration includes the recognition and accounting of any intangible assets and associated amortisation.ÌýMarket Value or Fair Value valuations may feature in these circumstances together with, or in place of the arm바카라 사이트™s length price.

Guidance onÌýintangible asset valuation issues can be found in CIRD10240 바카라 사이트” Intangible assets 바카라 사이트” introduction 바카라 사이트” valuation issues.

3.3 Above market intra-group services

Compliance risk can be created where UK staff have global or regional roles which either:Ìý

• control key DEMPE functions or economically significant risksÌý
• create the profit-earning activities and contribute to economically significant activities of the groupÌý

These roles are often known as 바카라 사이트˜above market바카라 사이트™ activities. This is because the role benefits territories other than the UK.Ìý

HMRC recognises that identifying uncontrolled entities under comparability analysis can be challenging. Above market functions are often of a nature kept 바카라 사이트˜in-house바카라 사이트™ by multinational businesses and rarely outsourced.

HMRC often observes reward for these activities either:Ìý

• subsumed within policies forÌýlow value adding servicesÌý
• based on a mark-up of cost or UK only salesÌý

Functions are often fragmented across several affiliates, and not given sufficient focus in individual entities transfer pricing arrangements.Ìý

Whether the above market service requires an arm바카라 사이트™s length return beyond existing policies depends on the facts and circumstance of each case. In HMRC바카라 사이트™s experience these activities can often:Ìý

• fall outside the OECD TPG on low value adding intra-group servicesÌý
• impact revenues and profits beyond that of the UK

If high risk indicators are present in the policy design, HMRC recommend specialists review the compliance approach. This is likely to result in either:

• recommended changes to the policy including our suggested best practiceÌý
• evidencedÌýanalysis of how the policy resulted in an arm바카라 사이트™s length return within documentation

High risk indicators 바카라 사이트” above market intra-group services

Compliance risk can be created whereÌýmulti-territory, regional or global functional heads, heads of department or senior leadership roles are based in the UK. Examples of risk indicators include where:Ìý

• transfer pricing policy is based upon a contractual description of the service without analysis of the underlying conduct and reflection of any leadership of economically significant functions or management of economically significant risks
• transfer pricing policy does not address roles that benefit other territories or entities, or the extent of actual management and mitigation of economically significant risks compared to where risk is attributed
• the costs for global or regional functions are subsumed within calculations for other UK sales or cost-based transfer pricing policies applying to the entity 바카라 사이트˜in territory바카라 사이트™ functions for which comparability or bundling criteria for combined transactions would not be met
• an inappropriate profit level indicator is employed, for example return on UK sales where activities drive the sales line in non-UK territories
• activities are described as 바카라 사이트˜routinely capable of outsourcing바카라 사이트™ but for which credible outsourcing options or comparables do not appear to exist, which may indicate roles with risk management responsibilities
• transfer pricing policy is designed for service costs not to be charged to affiliates to avoid legal restrictions on remittance or to mitigate tax deductibility or withholding, when such costs would not be borne by the service provider at arm바카라 사이트™s length

Best practice approaches to reduce risk 바카라 사이트” above market intra-group services

In HMRC바카라 사이트™s experience risk can be reduced by adopting these best practice approaches:Ìý

• performing a detailed functional analysis following the guidance in part 2 (Common compliance risks), paying particular attention to identifying above market roles and functionsÌý
• determining whether any of the above market services typically represent low value adding services
• for high value adding services, analysing and documenting the extent to which the above market roles and functions are consideredÌýeconomically significant functions or contribute to the management of economically significant risks, either in whole or in part, and the role of other group entities in that contextÌý
• considering whether internal comparable uncontrolled transactions exist for similar functions within comparable geographies that could inform policy and pricing of some or all of functions and roles
• identifying any industry comparables that include similar roles, or which can be reliably adjusted to aid comparabilityÌý
• considering the most appropriate transfer pricing methodology and particularly profit level indicator, based upon functional analysisÌý
• documenting a reasonable and principled approach to determine a transfer pricing policy and arm바카라 사이트™s length price for any remaining roles, leveraging corroborative approaches to support a differentiated return for high value add services 바카라 사이트” an example of corroboration would be evidencing that a proposed margin on cost equates to an arm바카라 사이트™s length commission or gain share on regional income or margin
• ensuring and documenting that individual transactions are priced at arm바카라 사이트™s length if seeking to offset reciprocal arrangements instead of invoice and payment and considering any indirect tax consequences of offsetting

Approaches to analysis and documentation that make a serious attempt to separately identify and price above market functions can reduce the likelihood of a non-arm바카라 사이트™s length result.

3.4 Transfer pricing target margin models

Compliance risk can be created when target margin transfer pricing policy approaches are used to deliver a fixed return to UK businesses and similar affiliates in other territories.

Introduction of target margin policies that have a material impact on the profit or loss of the UK entity without commensurate changes to the UK functions, assets and risks are a common cause of HMRC enquiries.Ìý

Such policy changes often feature in these situations:Ìý

• conversion of previously entrepreneurial or fully risked entities into managed margin entities such as 바카라 사이트˜limited바카라 사이트™ or 바카라 사이트˜low risk바카라 사이트™ distributors, 바카라 사이트˜commissionaires바카라 사이트™ or 바카라 사이트˜contract service providers바카라 사이트™
• change of profit level indicator, for example, from a cost to a revenue-based indicator or vice versa
• insertion of new intermediaries into a supply chain such as centralised licensing or service hubs, regional headquarters or master distributors
• centralisation of contractual assumption of economically significant risks
• centralisation of legal ownership of or rights over intangible assets 바카라 사이트” read part 3.2 (intangible assets ownership and exploitation)

HMRC acknowledges that target margin policies can be appropriate if they are:

• based on appropriate functional and comparability analysisÌý
• have been properly implemented and documented

However, in HMRC바카라 사이트™s experience such policies are often applied to multiple group entities relying heavily on contractual terms and the use of language to characterise and delineate transactions. This is without regard to the specificity of UK functions and conduct to support the policy and method selection. HMRC INTM483120 바카라 사이트” working a transfer pricing case 바카라 사이트” penalties 바카라 사이트” negligence or carelessness example 5 provides a useful illustration for awareness purposes.

If high risk indicators are present in the policy design, HMRC recommend specialists review the compliance approach. This is likely to result in either:

• recommended changes to the policy including our suggested best practiceÌý
• evidencedÌýanalysis of how the policy resulted in an arm바카라 사이트™s length return within documentation

High risk indicators 바카라 사이트” transfer pricing target margin models

Compliance risk can be created where a change to the characterisation of an entity or transaction is based on the policy aims and contractual arrangements as opposed to how the business actually operates in conduct, or commercial realism as evidenced by:

• a policy that changes the characterisation basis of reward for an entity where no significant change to the underlying functions, assets and risks of the entity has occurred
• a policy that purports to move functions and risk away from the UK but then requires intra-group agreements with the UK for contract services or risk management covering those functions and risks
• a risk profile based upon the pricing approach rather than functional analysis, for example citing a guaranteed return as evidence that the UK must be de-risked rather than an analysis of the UK바카라 사이트™s actual role in managing and controlling risks
• characterisation based upon the contractual allocation of functions and risk to offshore intermediaries or principals instead of functional analysis of the parties including conduct 바카라 사이트” examples might include describing a marketing hub as 바카라 사이트˜responsible바카라 사이트™ for pricing parameters or strategy despite them being set elsewhere
• the UK as 바카라 사이트˜bearing no risk of development바카라 사이트™ where costs are recharged but the UK has a role in the control of development risks
• an HQ or hub as providing a range of assets and services when in fact these are provided through services contracts with affiliates

Risk can also be created where the implementation of the target margin model results in the loss of rights or revenue streams to the UK entity without considering:

• whether exit charges, notice periods or termination compensation would apply in comparable independent circumstances, for example, a 3 month termination notice following significant capital investment to service the contract
• options realistically available for the UK entity to the target operating model that would support commercial objectives, such as continuing as a full risk distributor manufacturing its own product

Best practice approaches to reduce risk 바카라 사이트” transfer pricing target margin models

In HMRC바카라 사이트™s experience the risk that the characterisation of entities or transactions under a target margin model does not reflect how the business actually operates can be reduced by adopting these best practice approaches:

• following the guidance on appropriate functional and comparability analysis contained in part 2 (Common compliance risks)
• avoiding use of descriptions and broad risk statements regarding the entity that are unsupported by functional analysis
• performing a two-sided functional analysis of both parties on which to base a policy
• evaluating and documenting options realistically available to the re-characterised entity
• highlighting what has changed with regard to UK functions, assets and risks and how commercially the changed terms of transactions with the UK would be entered into at arm바카라 사이트™s length

In HMRC바카라 사이트™s experience risks relating to commercially unrealistic loss of UK rights or revenue can be reduced by adopting these best practice approaches:Ìý

• checking that intra-group contracts or arrangements reflect commercially realistic exit charges, notice periods and termination compensation per industry norms
• where such terms are not explicitly covered, ensuring they are considered in determining whether a move to or significant variation in a target margin model is arm바카라 사이트™s length
• avoiding scenarios where entities characterised as de-risked incur significant costs or exceptional costs relating to exiting an arrangement, such as redundancy costs
• considering options realistically available, and evaluating whether at arm바카라 사이트™s length a business would accept the new terms when comparing the target margin offered to any potential exposure to risk or contract termination

3.5 Cost based reward for servicesÌý

Compliance risk can be created in the setting of transfer pricing policies providing a margin on cost to a principal under a contract for services. Risk can arise in areas including:Ìý

• selection of methodologyÌý
• the definition of cost baseÌý
• allocation keys employedÌý
• net profit indicators used in assessing comparabilityÌý
• benchmarking of comparable transactionsÌý

If high risk indicators are present in the policy design, HMRC recommend specialists review the compliance approach. This is likely to result in either:

• recommended changes to the policy including our suggested best practiceÌý
• evidenced analysis of how the policy resulted in an arm바카라 사이트™s length return within documentation

Summary of high risk indicators and best practice approaches to reduce risk

High risk indicators increasing risk of enquiry	Best practice approaches to reduce risk
Transfer pricing policy is based upon a contractual description of the service provided without examination of the underlying conduct through functional analysis to understand the services actually being performed and risks actually borne and managed. For example, leadership of economically significant functions or management of economically significant risks are generically labelled as 바카라 사이트˜advisory바카라 사이트™, 바카라 사이트˜management바카라 사이트™ or 바카라 사이트˜support바카라 사이트™ services under contract.	In HMRC바카라 사이트™s experience risk can be reduced by: 바카라 사이트¢ performing a detailed functional analysis 바카라 사이트¢ following the guidelines in part 2 (Common issues in transfer pricing documentation)
A cost-based margin approach is applied to 바카라 사이트˜above market바카라 사이트™ services for which a sales or profit based reward may represent a more appropriate approach.	In HMRC바카라 사이트™s experience risk can be reduced by following the guidelines in part 3.3 (transfer pricing target margin models).
Treatment of the defined cost base to which a mark-up is applied, is unsupported by comparability analysis or adjustments to improve comparability 바카라 사이트” read INTM421060 바카라 사이트” OECD Guidelines 바카라 사이트” Cost plus.	In HMRC바카라 사이트™s experience risk can be reduced by analysing the differences in the cost base composition of the entity and of the comparables to understand any differences. Differences may occur in the level (or complete absence) of cost categories as part of the comparability analysis (including functional analysis) which could impact the arm바카라 사이트™s length return. Analysis should cover internal costs, external third-party costs and out of pocket or reimbursable expenses where relevant. Differences should be reflected in calculating the effective mark-up on costs, and the cost base to which they can be reliably applied.
Direct costs are excluded from the UK business cost case which feature in the cost base of comparable uncontrolled transactions. As a result, no mark-up has been applied, with costs often erroneously included in a separate sales based TNMM policy return.	In HMRC바카라 사이트™s experience risk can be reduced by: 바카라 사이트¢ analysing the differences in the cost base composition of the entity and of the comparables to understand any differences 바카라 사이트¢ ensuring direct costs relating to the good or service are not included in other transfer pricing policies 바카라 사이트¢ adjusting the cost base or effective mark-up for the differences
Cost base definition does not include some or all of indirect costs attributable to the service provided compared to the cost base of uncontrolled entities or transaction used as comparables. This may be either by design or as a result of a separate policy for rewarding support or low value adding functions.	In HMRC바카라 사이트™s experience risk can be reduced by: 바카라 사이트¢ analysing the differences in the cost base composition of the entity and of the comparables to understand any differences 바카라 사이트¢ adjusting the cost base or effective mark-up for the differences
Costs are recharged to other group entities at cost, where these were not incurred as intermediary or agent on behalf of those entities but as part of wider service that would attract a mark-up at arm바카라 사이트™s length.	In HMRC바카라 사이트™s experience risk can be reduced by ensuring that all costs incurred in the provision of services attract an appropriate mark-up.
Cost base definitions do not include comparable full cost of employment including pensions and share based payments or stock options compared to the cost base of uncontrolled entities or transaction used as comparables.	In HMRC바카라 사이트™s experience risk can be reduced by: 바카라 사이트¢ analysing the differences in the cost base composition of the entity and of the comparables to understand any differences 바카라 사이트¢ adjusting the cost base or effective mark-up for the differences
Costs that are treated as 바카라 사이트˜pass-through바카라 사이트™ and are excluded from the cost base definition for applying a mark-up where: 바카라 사이트¢ they relate to activities that go beyond that of an agency and intermediary in conduct 바카라 사이트¢ costs are treated as pass-through purely because they are third party external costs in nature	In HMRC바카라 사이트™s experience risk can be reduced by: 바카라 사이트¢ correctly identifying third party external costs that represent input costs of the tested party바카라 사이트™s business and not treating those costs as automatically pass-through 바카라 사이트¢ establishing whether the external cost is to some extent transformed, or the tested party adds value to externally outsourced services An example would be where services are outsourced to a third party for which the tested party is the recipient and who may specify, control or supervise the service for quality and risk management purposes.
Costs are reasonably treated as pass-through costs in the tested transaction, but where there has been a failure to consider if the potential comparables also incur similar costs when testing the transaction.	In HMRC바카라 사이트™s experience risk can be reduced by considering if comparable uncontrolled entities, especially within the sector might have similar pass-through costs impacting the effective mark-up such as reimbursement ofÌýclinical trial patient fees or influencer fees.
No consideration is given to the differences in Generally Accepted Accounting Principles (GAAP) and accounting standards between the entity and uncontrolled entities used to price the transactionÌýthat may materially impact the cost base to be included in any method based on the profit level indicator. For example, distribution costs, depreciation or amortisation appear in different parts of the profit and loss account, impacting the cost base.	In HMRC바카라 사이트™s experience risk can be reduced by: 바카라 사이트¢ assessing whether any material differences in accounting figures arise from the use of different GAAP frameworks by comparables (for example, pension movements, share-based remuneration, whether costs appear above or below gross margin) 바카라 사이트” where they do, exploring reasonable adjustments to present accounting figures on a comparable basis for benchmarking purposes.
Cost base relates to functions which may be more appropriately rewarded by reference to a different profit level indicator to cost. For example, 바카라 사이트˜marketing activities바카라 사이트™ driving the sales line for which a third party would expect a reward linked to sales performance as opposed to cost.	In HMRC바카라 사이트™s experience risk can be reduced by: 바카라 사이트¢ considering and documenting the appropriate profit indicator in line with OECD TPG 바카라 사이트¢ evidencing the typical commercial mechanism of reward at arm바카라 사이트™s length under industry norms
Non-specific product or function costs (especially indirect costs and overheads) or group recharges benefiting more than one entity have been allocated to the cost base using an inappropriate allocation key that: 바카라 사이트¢ is not the most appropriate allocation key based upon operational drivers 바카라 사이트¢ applies to multiple cost categories that have different underlying drivers 바카라 사이트¢ allocates all the cost category to the entity without further analysis as to whether an allocation key is required	In HMRC바카라 사이트™s experience risk can be reduced by: 바카라 사이트¢ sense checking the scope and fairness of the allocation key drivers selected 바카라 사이트¢ sensitivity analysis as to allocation key options where the impact is material, and the selection basis is not straight-forward
Where the policy allows for the non-recharge of costs from the UK which will wholly or partly be invoiced back to the UK under the same transaction to avoid what is commonly called 바카라 사이트˜round tripping바카라 사이트™ but: 바카라 사이트¢ analysis has not been performed to evidence whether the outbound or inbound recharges net to nil 바카라 사이트¢ customs valuation or VAT impact has not been considered, for example, through a shared service arrangement	In HMRC바카라 사이트™s experience risk can be reduced by businesses wishing to rely on offset instead of payment or invoice conducting ex-ante analysis and documentation. This should demonstrate that the offset of value is not expected to impact the arm바카라 사이트™s length return that would be achieved if the offset were not to take place. Establishing processes for review on an ongoing basis that the basis of offset remains valid is recommended.
A mark-up is not applied to costs recharged, or only applied to a net amount chargeable receivable to or from group entities on the basis that reciprocal services are provided, unsupported by proper analysis that this does not impact the arm바카라 사이트™s length return that would be payable between independent parties.	In HMRC바카라 사이트™s experience risk can be reduced by businesses wishing to rely on netting off or offset instead of payment or invoice conducting ex-ante analysis and documentation to demonstrate that the approach does not impact the arm바카라 사이트™s length return. Establishing processes for review on an ongoing basis that the basis of offset remains valid is recommended.
Inbound management charges or recharges that are effectively costs of the recipient (as opposed to a charge for services) are unsupported by an appropriate cost breakdown to allow non-deductible costs to be identified such as: 바카라 사이트¢ recharges of costs purely capital in nature 바카라 사이트¢ recharges of costs borne in the wrong entity to the UK which have not been reviewed for deductibility by the UK recipient 바카라 사이트¢ recharges of pass-through costs ancillary to a service where deductibility has not been considered by the UK recipient, for example fines	In HMRC바카라 사이트™s experience risk can be reduced by ensuring inbound recharges or pass through costs (which are effectively costs of the recipient) are supported by a cost breakdown which is reviewed by the UK entity for appropriate tax treatment.
Costs are classified as costs of 바카라 사이트˜stewardship바카라 사이트™ or managing investments without attempting to identify any activities within this cost that represent provision of services to other group members to which a transfer price should apply.	In HMRC바카라 사이트™s experience risk can be reduced by analysing costs classified in this way, to identify shareholder costs or beneficial service costs included within the figure.

3.6 Sales based reward for services

Compliance risk can be created where the UK is performing functions or services for which the arm바카라 사이트™s length reward is defined and measured with reference to sales. Reward is achieved and managed through the setting of intra-group charges and prices for transactions, for example, cost of goods, recharges, fees and commissions.

Risk can arise as a result of:

• transfer pricing policy, delineation and method selection based upon a contractual description of the service(s) provided without functional analysis of the underlying conduct and economic substance
• policy and benchmarks basing reward for UK activities upon turnover of only the UK entity where this may be insufficient
• comparables search and selection criteria impacting benchmarking reliability
• comparability issues exist relating to the functional margin (revenues less costs) of comparable entities compared to the UK entity

If high risk indicators are present in the policy design, HMRC recommend specialists review the compliance approach. This is likely to result in either:

• recommended changes to the policy including our suggested best practiceÌý
• evidencedÌýanalysis of how the policy resulted in an arm바카라 사이트™s length return within documentation

Summary of high risk indicators and best practice approaches to reduce risk

High risk indicators increasing risk of enquiry	Best practice approaches to reduce risk
UK manages or controls significant sales or market risks whilst described in the Transfer Pricing policy or documentation as 바카라 사이트˜low risk바카라 사이트™ or 바카라 사이트˜de-risked바카라 사이트™.	In HMRC바카라 사이트™s experience risk can be reduced by following the guidance in part 2 (Common issues in transfer pricing documentation) for appropriate functional analysis, including: 바카라 사이트¢ risk analysis for economically significant risks 바카라 사이트¢ understanding the economic substance of services actually being performed
UK has intangibles, rights or unique economically relevant characteristics not appropriately captured in functional analysis or delineation on which the method is based.	In HMRC바카라 사이트™s experience risk can be reduced by following the guidance in part 2 (Common risks in transfer pricing documentation), for appropriate functional analysis.
Above market functions are overlooked or unpriced.	In HMRC바카라 사이트™s experience risk can be reduced by following the guidelines in part 3.3 (above market intra-group services).
UK 바카라 사이트˜limited risk바카라 사이트™ distributor paying a royalty or other license or usage fee to operate without functional analysis to determine the conduct of the parties in relation to the assets or services being provided or options realistically available.	In HMRC바카라 사이트™s experience risk can be reduced by following the guidance in part 2 (Common risks in transfer pricing documentation) for appropriate functional analysis.
Sales attributable to sales and marketing activities performed by a UK group entity are booked in another non-UK group company, for example through direct invoicing for specific products or channels to market, or because of differences in revenue recognition under GAAP.	In HMRC바카라 사이트™s experience risk can be reduced by robustly identifying all sales (UK and overseas) that are driven by the UK activities for which a sales based profit level indicator is appropriate.
UK staff performing value adding functions for customers on behalf of non-UK entities for which non-UK turnover or a different pricing method may be an appropriate basis for reward. Examples may include regional technical support, sales demonstration, promotion, support and training, or regional distribution.	In HMRC바카라 사이트™s experience risk can be reduced by: 바카라 사이트¢ analysing the type of sales, and how those sales are generated and accounted for and including that analysis in the comparability analysis 바카라 사이트¢ following the guidance in part 3.3 (above market intra-group services)
UK staff perform above market functions or control economically significant risks beyond risks typically managed in comparable entities, and reward has been incorrectly subsumed within a UK sales-based return for the local sales, marketing and distribution function. Examples may include regional or global strategic functions or risk control decisions creating value offshore.	In HMRC바카라 사이트™s experience risk can be reduced by: 바카라 사이트¢ following the guidelines in part 3.3 (above market intra-group services) 바카라 사이트¢ identifying roles, functions, and activities not typically capable of outsourcing or not typically present in external comparables
Potential comparables included that do not reflect higher margins on sales in the UK local market than other territories due to local market features or market premium.	In HMRC바카라 사이트™s experience risk can be reduced by ensuring proper comparability analysis is undertaken following OECD TPG.
Inclusion of numbers of non-UK comparables in markets with material differences to the UK.	In HMRC바카라 사이트™s experience risk can be reduced by ensuring proper comparability analysis is undertaken following OECD TPG.
Margin calculation is after costs attributable to other cost-based transfer pricing policies within the entity, or which do not represent the functional analysis for the activities to be rewarded based upon a margin on sales. This risk is particularly high where a sales based TNMM represents the balance of an entity바카라 사이트™s results after cost based rewards (often cost plus) under other transfer policies have been carved out.	In HMRC바카라 사이트™s experience risk can be reduced by critically assessing the revenue and cost base of the UK entity used in arriving at the sales-based margin to be priced including: 바카라 사이트¢ whether all appropriate costs, including indirect costs have been allocated to the other cost-based policies 바카라 사이트¢ whether any costs remaining in the P&L to be benchmarked to a sales-based margin relate to functions, assets and risks not covered by the comparable which may require separate pricing or comparability adjustments
Differences in the accounting definition of sales between the tested party and comparables not taken into account, impacting comparability. For example, whether sales are expressed gross or net of certain costs.	In HMRC바카라 사이트™s experience risk can be reduced by ensuring that the same basis of sales is used in margin calculations.
Margins of comparables representing different stages of the supply chain applied to UK sales with no audit trail of searches for comparable stages of the supply chain and no attempt to make comparability adjustments. An example would be use of simple wholesale operations to price retail sales or selling, marketing and distribution operations.	In HMRC바카라 사이트™s experience risk can be reduced by ensuring proper comparability analysis is undertaken following OECD TPG and best practice within part 2 (Common risks in transfer pricing documentation).
A single margin on sales based on comparables is applied to the commercial exploitation of aggregated products, services or assets by the UK entity that do not meet bundling criteria and warrant benchmarking by separate sets of comparables. Examples may include wholesale vs retail, or high margin vs low margin products.	In HMRC바카라 사이트™s experience risk can be reduced by identifying margins derived from transactions that do not meet bundling criteria and require separate benchmarking.
Comparing a combined margin on sales which includes revenues and costs relating to third party transactions at arm바카라 사이트™s length to the uncontrolled comparable entity margin. Examples may include combining resale of third-party vs in house manufactured product, or combining margins on leveraging own intangibles versus licensed.	In HMRC바카라 사이트™s experience risk can be reduced by identifying whether margins of the UK entity need to be split out (바카라 사이트˜segmented바카라 사이트™) to separate third party from related party margins.
Differences in where the cost base is reported because of the impact of different GAAP approaches have not been adjusted for in calculating the margin on sales. For example where a cost category is included in the Cost of Goods Sold (COGS) under UK GAAP, but in operating expenditure for a resale price gross margin comparable.	In HMRC바카라 사이트™s experience risk can be reduced by performing, as part of the comparability analysis, a critical analysis ofÌýdifferences inÌýwhere costs appear in the P&L relative to sales margin as a result of GAAP differences which could impact comparability. Examples include key cost categories included and excluded, GAAP reporting differences, trading costs below the margin Profit Level Indicator (PLI).
Differences in the cost base in calculating the margin on sales because of where comparable costs appear relative to (above or below) the margin profit level indicator have not been considered. Examples may include one-off costs, exceptional costs, restructuring costs, amortisation, indirect overheads, trading forex or share based payments.	In HMRC바카라 사이트™s experience risk can be reduced by performing, as part of the comparability analysis, a critical analysis of differences in the cost base composition. This would include identifying differences between the tested party and the comparables in scope of costs or where they appear in the P&L that could impact comparability. Examples include key cost categories included and excluded and trading costs below the margin PLI.
Group synergies as a result of deliberate concerted action by the UK entity and which do not feature in the comparable entity, have not been considered as part of comparability analysis.	In HMRC바카라 사이트™s experience risk can be reduced by identifying group synergies beyond incidental benefits and factoring these into comparability analysis.

3.7 Franchise fees and similar single fee arrangementsÌý

Compliance risk can be created where a transaction is priced under a single fee approach that involves a bundle of assets and services. Description often includes franchise fees, value-based fees and variable fees.

HMRC commonly experience issues with the design of transfer pricing policies applied to single fee arrangements that do not appropriately evidence that the transfer pricing method and benchmark reflects the constituent elements and are arm바카라 사이트™s length.Ìý

Risk can arise as a result of:

• incomplete analysis supporting the assets and services provided as a bundle via a franchise or single fee arrangement
• pricing approaches that do not align reward with functional analysis based upon conduct, including risk analysis
• similar fees paid by third parties to group entities relied upon as CUPs when group synergies and functional analysis do not support comparability
• the terms of the franchise fee or similar arrangement representing inconsistent or uncommercial arrangements

If high risk indicators are present in the policy design, HMRC recommend specialists review the compliance approach. This is likely to result in either:

• recommended changes to the policy including our suggested best practiceÌý
• evidencedÌýanalysis of how the policy resulted in an arm바카라 사이트™s length return within documentation

Summary of high risk indicators and best practice approaches to reduce risk

High risk indicators increasing risk of enquiry	Best practice approaches to reduce risk
Analysis of the commercial rationale, namely incremental value to the UK beyond invoicing simplification, and analysis of realistically available alternatives has not been performed.	In HMRC바카라 사이트™s experience risk can be reduced by consideration of whether the structures are commercially rational, or occur within the industry between unconnected parties and evaluation of options realistically available to the parties. An example would be ex ante forecasts of the net benefits anticipated from the arrangement.
Evidence to support the single fee level has not been evidenced by two-sided functional and comparability analysis to establish if the arm바카라 사이트™s length price of each component bundled into the single fee arrangement can be reliably priced separately, or should be charged for. This is particularly a risk where the overall single fee level is unsupported by internal comparable arrangements with third parties or external comparables and the bundle of assets and services includes: 바카라 사이트¢ assets or services sourced by the provider from third parties 바카라 사이트¢ assets or services contracted out to entities including the UK 바카라 사이트¢ assets or services that represent central hosting of group synergies or collective know how	In HMRC바카라 사이트™s experience risk can be reduced by following the guidance on appropriate functional and comparability analysis contained in part 2 (Common issues in transfer pricing documentation) in setting fee levels. This should include: 바카라 사이트¢ identifying what represents group synergies or group wide know how 바카라 사이트¢ identifying assets or services capable of separate measurement 바카라 사이트¢ identifying assets or services contributed by the franchisees 바카라 사이트¢ critically evaluating any effective mark-up on assets or services outsourced to third party providers where what is provided is not transformed by the franchisor
Contemporaneous consideration of how the responsibilities, risks, and anticipated outcomes arising from entering the arrangement were intended to be divided at the time has not been performed. An example is where the transaction effectively represents the application of a non-traditional transfer pricing method such as profit split.	In HMRC바카라 사이트™s experience risk can be reduced by ensuring contemporaneous documentation of the intentions between the parties and basis of valuation.
The bundle of services and assets is priced so as to attribute significant profit to the franchisor or principal on the basis it includes suggested valuable intangible or intellectual property without analysis as to: 바카라 사이트¢ whether these are key value drivers for the group 바카라 사이트¢ whether the remaining reward to the franchisee is arm바카라 사이트™s length	In HMRC바카라 사이트™s experience risk can be reduced by: 바카라 사이트¢ following the guidance on appropriate functional analysis in OECD TPG, part 2 (Common risks in transfer pricing documentation) and understanding the economically relevant characteristics 바카라 사이트¢ checking that the risks assumed by the franchisor are economically significant and not contracted out to, or managed and controlled to some extent by the franchisee
The fee level is such that the UK operating return is below industry norms for operators pursuing a similar business strategy or realistically available alternatives.	In HMRC바카라 사이트™s experience risk can be reduced by critically assessing the UK바카라 사이트™s options realistically available and associated benefits versus industry norms.
The fee level reduces the UK operating profit margin below the average levels the UK entity earned prior to entering into the arrangement without evidence of expected additional benefits attributable to the franchise model to compensate.	In HMRC바카라 사이트™s experience risk can be reduced by robustly reviewing historical performance and profitability of the UK business if it previously operated as an independent business, or without a franchise fee charge and the impact of the change.
The fee level is the same for all group entities despite varying levels of ongoing contribution to the underlying assets and services.	In HMRC바카라 사이트™s experience risk can be reduced by ensuring franchise or similar fees are tailored for group entities take into account their specific functionality and contributions.
The fee level represents a material disparity between the reward received by the UK for providing or refreshing the assets and services comprised within the bundle, and the fee charged to use them.	In HMRC바카라 사이트™s experience risk can be reduced by: 바카라 사이트¢ ensuring through two-sided functional analysis, that the reward for UK specific assets or DEMPE contributions comprised within the bundle transferred and centralised within the franchisor or licensor is commensurate with the charge to use them 바카라 사이트¢ ensuring that the reward to the UK under the franchise model or single fee arrangement for refresh of those assets on an ongoing basis, is commensurate with the charge to use them
Similar fees paid by third parties to group entities are relied upon as CUPs which upon analysis do not reflect differences in the historic and ongoing contributions to the bundle of assets and service provided by the UK.	In HMRC바카라 사이트™s experience risk can be reduced by: 바카라 사이트¢ undertaking a thorough comparability review of any potential CUPs, with specific attention to the bundle of specified assets and services and consideration of comparability adjustments to improve reliability 바카라 사이트¢ ensuring that if internal fee terms differ to comparables, conclusions as to the impact of comparability issues are documented and appropriate comparability adjustments considered
Similar fees paid by third parties to group entities are relied upon as CUPs which upon analysis do not reflect implicit benefits from group membership already available to the UK.	In HMRC바카라 사이트™s experience risk can be reduced by undertaking a thorough comparability review of any potential CUPs, with specific attention to implicit benefits from group membership the UK would not need to pay to access.
Similar fees paid by third parties to group entities are relied upon as CUPs which upon analysis do not reflect differences in the rights to upside or downside returns between the UK and the related party.	In HMRC바카라 사이트™s experience risk can be reduced by undertaking a thorough comparability review of any potential CUPs, with specific attention to the extent to which the transfer prices, or revisions to them, operate to limit upside and downside on returns in ways different to the proposed CUP.
Similar fees paid by third parties to group entities are relied upon as CUPs which upon analysis do not reflect options realistically available to the UK.	In HMRC바카라 사이트™s experience risk can be reduced by undertaking a thorough comparability review of any potential CUPs, with specific attention to the extent to which the UK entity requires or has alternatives available to access the bundle of assets and services to achieve a better commercial outcome. An example might be where the UK and other operational affiliates could form a CCA to share assets, services and reward.
External franchising comparables are relied upon for pricing where commercially franchise models are not otherwise observed within the industry or sector.	In HMRC바카라 사이트™s experience risk can be reduced by evidencing the existence of such arrangements in the sector, or between the group and third parties.
The terms of the arrangement are purported to allow the franchisee to benefit from upside in a commercial manner when in reality upside is capped or the fee increased to limit realisation of any upside.	In HMRC바카라 사이트™s experience risk can be reduced by objectively assessing the terms in the light of realistically available alternatives and incentives for growth and profit potential.
Internal franchise or single fee arrangements either: 바카라 사이트¢ exclude ex-ante terms typically found in third party commercial arrangements relating to renegotiation or changes in fee level 바카라 사이트¢ are subject to fee increases under contractual or non-contractual terms that a third party would not agree to at arm바카라 사이트™s length or which are not reflected in third party commercial arrangements	In HMRC바카라 사이트™s experience risk can be reduced by ensuring any terms governing changes to the fee are commercial in nature and reflect industry practice.