Understanding Transfer Pricing and Its Importance in Malaysia
Transfer pricing refers to the pricing of goods, services, and intangibles transferred between related entities within a multinational enterprise (MNE).
It ensures that transactions between associated entities are conducted at arm’s length, meaning the prices are consistent with those that would be agreed upon by unrelated parties under similar circumstances.
It ensures that transactions between associated entities are conducted at arm’s length, meaning the prices are consistent with those that would be agreed upon by unrelated parties under similar circumstances.
Importance of Transfer Pricing in Malaysia
In Malaysia, transfer pricing holds significant importance due to the following reasons:
Tax Revenue Protection
Proper transfer pricing prevents profit shifting to low-tax jurisdictions, ensuring that Malaysia retains its rightful tax base.
Compliance with International Standards
Adherence to transfer pricing regulations aligns Malaysia with global tax practices, fostering international trade and investment.
Prevention of Tax Avoidance
Robust transfer pricing rules deter MNEs from manipulating prices to minimize tax liabilities, promoting fair taxation.
Malaysian Transfer Pricing Regulations
Malaysia’s transfer pricing framework is primarily governed by:
- Section 140A of the Income Tax Act 1967: Empowers the Director General of Inland Revenue to make adjustments on transactions between related parties to reflect arm’s length prices.
- Income Tax (Transfer Pricing) Rules 2023: Provides detailed guidelines on the application of transfer pricing provisions.
- Malaysia Transfer Pricing Guidelines 2024 (MTPG 2024): Offers comprehensive guidance on the preparation of contemporaneous transfer pricing documentation (CTPD) and the application of the arm’s length principle.
Key Components of MTPG 2024
The MTPG 2024 emphasizes:
Arm's Length Principle
Ensures that related party transactions are comparable to those between independent entities.
Contemporaneous Transfer Pricing Documentation (CTPD)
Requires taxpayers to maintain up-to-date documentation demonstrating compliance with transfer pricing regulations.
Thresholds for Documentation
Specifies criteria determining the extent of documentation required based on transaction values and types.
Transfer Pricing Methods
To determine arm’s length prices, the following methods are commonly used:
- Comparable Uncontrolled Price (CUP) Method: Compares the price charged in a controlled transaction to the price charged in a comparable uncontrolled transaction.
- Resale Price Method (RPM): Focuses on the resale margin earned by a reseller in a controlled transaction and compares it to that earned in comparable uncontrolled transactions.
- Cost Plus Method (CPM): Adds an appropriate markup to the costs incurred by the supplier in a controlled transaction, comparing it to similar uncontrolled transactions.
- Transactional Net Margin Method (TNMM): Examines the net profit margin relative to an appropriate base (e.g., costs, sales) that a taxpayer realizes from a controlled transaction, comparing it to that of uncontrolled transactions.
- Profit Split Method (PSM): Divides the combined profits from controlled transactions among associated enterprises based on their respective contributions.
Documentation Requirements
Taxpayers engaged in controlled transactions must prepare and maintain CTPD, which includes:
- Organizational Structure: Details of the group’s global structure and shareholding.
- Nature of Business: Descriptions of the taxpayer’s business and industry dynamics.
- Controlled Transactions: Comprehensive details of transactions with related parties, including pricing policies and terms.
- Functional Analysis: Evaluation of functions performed, assets used, and risks assumed by each related entity involved in the transactions.
- Economic Analysis: Application of appropriate transfer pricing methods and benchmarking studies to justify arm’s length pricing.
Penalties for Non-Compliance
Failure to comply with transfer pricing regulations can result in:
- Adjustments to Taxable Income: The Inland Revenue Board of Malaysia (IRBM) may adjust taxable income to reflect arm’s length prices.
- Surcharges: A surcharge of up to 5% may be imposed on the amount of any transfer pricing adjustment.
- Penalties: Penalties ranging from RM20,000 to RM100,000 may be levied for failure to furnish CTPD upon request.
Recent Developments
The IRBM has updated its Transfer Pricing Tax Audit Framework to enhance transparency and provide clarity on audit procedures. This framework outlines the rights and responsibilities of taxpayers and tax auditors during transfer pricing audits.
Case Studies
- Watsons Personal Care Stores Case: This landmark case highlighted the importance of comprehensive documentation and the burden of proof in transfer pricing disputes.
- SEO Sdn Bhd v. Ketua Pengarah Hasil Dalam Negeri: Emphasized the need for taxpayers to adhere strictly to transfer pricing documentation requirements to avoid disputes.
Conclusion
Understanding transfer pricing is crucial for businesses operating in Malaysia. Adherence to the arm’s length principle, meticulous documentation, and staying abreast of regulatory updates are essential to ensure compliance and mitigate risks associated with transfer pricing adjustments and penalties.
