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Transfer pricing is all about substance – the functional analysis

As per the OECD Transfer Pricing Guidelines (see the 5th bullet under section “Controlled transactions” OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations 2017 Annex II to Chapter V. Transfer Pricing Documentation) a taxpayer is to provide a detailed functional analysis of the taxpayer and relevant associated enterprises with respect to each documented category of controlled transactions. Besides risks and assets, the most important factor to assess in the functional analysis is the functions performed.

If you want to assess if a function is performed you only need to ask yourself: “Are there any people on the payroll of the parties to the transaction that perform the function described?” In other words, people perform functions, and if there are no people performing the functions, the function does not exist (or only on paper ;-)). If the answer is a positive one, the second step is the qualification of the functions. This is your most intelligent assessment of the added value of a function (i.e., from a profit driver perspective = or to what extent does the function contribute to the profitability of the company), the number of people performing the function, the seniority/education of people, etc.). The combination of these factors should give you an indication of the weight of a function that you can qualify for example as “High”, “Medium”, or “Low”.

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