Does your company do business with related foreign companies? If the answer is yes, this article is for you. I will briefly describe the Canadian transfer pricing issues that you need be aware of.
The term ‘Transfer Price’ is defined as the price at which services and products are sold between two related corporations who are geographically located in different countries. For example, if a Canadian company sells widgets to an American parent corporation, then the transfer price would be the price at which the widgets are sold.
How is it calculated? Transfer prices are determined based on market rates, which is the price that could be reasonably negotiated between two unrelated parties under normal circumstances. Supporting documentation must be prepared to substantiate the transfer prices in place at your company. Examples of supporting documentation include an in-depth analysis of competitors’ pricing, an analysis of industry standard practices, or a risk-based pricing model. Failure to prepare supporting documentation will result in a penalty by the CRA should they find out.
Why is it important to determine a transfer price?
A fair transfer price is essential to accurately determine the profits of each related company so that the tax authorities in each country get their fair share of the total tax bill.
Let’s take the case of a Canadian company, ABC, whose corporate tax rate is 26%. ABC manufactures and sells television sets to customers in North America. Suppose that ABC Company were to open a company in the Bahamas, where there is no corporate tax. Further, assume that the Bahamas Company supplies all of the parts need by ABC Company to make the television sets. If the Bahamas Company were to charge above-market prices for the parts sold to ABC Company, then the taxable income of ABC Company would be lowered, while the taxable income of the Bahamas Company would increase. The owners of ABC Company would obviously be pleased, but the CRA would be furious since its tax collections would be slashed.
As you can see, transfer-pricing rules exist to prevent companies from manipulating profits with the sole purpose of avoiding Canadian taxes.
So here’s the tip: If your company does business with foreign related corporations, make sure that the transfer prices in place are fair and the supporting documentation exists. For more information on corporate tax tips, take a look at our business and corporate tax tip e-book.
The information provided on this page is intended to provide general information. The information does not take into account your personal situation and is not intended to be used without consultation from accounting and financial professionals. Allan Madan and Madan Chartered Accountant will not be held liable for any problems that arise from the usage of the information provided on this page.