How to Determine the Minimum Transfer Price

How to Determine the Minimum Transfer Price
••• Frizzantine/iStock/Getty Images

Companies that do business with their own subsidiaries may face some tough tax questions. A corporation that buys equipment from a foreign branch, for instance, charges a transfer price on the sale. The dollar amount has a big effect on how the different branches divide up taxable income and, therefore, taxes. Because of the accounting complexities, there's no absolute rule for setting a minimum price.

The Arm's-Length Rule

The Internal Revenue Service doesn't set a minimum or maximum transfer price. What it uses, instead, is the "arm's-length" rule: If the price is one that two unconnected businesses would agree to, it's acceptable. The IRS offers businesses multiple ways to measure this. A business buying from its subsidiary can show, for example, that the price was comparable to an arm's-length transaction. If it resells the items, the standard for comparison is the resale price. A company may use whichever method gets it the most desirable transfer price.