How Much Should I Pay My Business Relative? Profit Allocation in Hybrid Governance Structures

Abstract:     
This paper illustrates a new idea for transfer pricing and income allocation within the multinational group. On the basis of Transaction Cost Economics (TCE) we propose a scoring model to measure the functional activity (functional density) performed by the related-parties of the multinational company. The paper offers a concept to value coordination effort of each related party contributing to the value chain process within the multinational company. For that, on top of a cost basis such valuation allows pricing the intra-group transaction between the functional steps of value chains and related-party networks. Compared to the traditional approach of transfer pricing analysis, our model better reflects the (transaction cost) economics of business between related parties of a large, multinational organization. The model can also support multinational corporate taxpayers to comply with the ever tighter requirements of transfer pricing documentation in international taxation which tax authorities use to enforce the arm's length principle.

Keywords: transfer pricing, value chain, transaction costs, multinational, coordination

JEL Classification: F23, L14, L22, M13

working papers series