Transfer Pricing in Manufacturing: Ensuring Cross-Border Tax Compliance
Posted by Mark Janulewicz on July 01, 2025
As manufacturing companies expand across state lines or international borders, they often operate through multiple legal entities. This structure introduces the need to understand transfer pricing—the method used to determine the value of goods, services, or intellectual property exchanged between related entities in different tax jurisdictions. While commonly associated with large multinational corporations, transfer pricing is increasingly relevant to manufacturers of all sizes.
What Is Transfer Pricing?
Transfer pricing governs the pricing of intercompany transactions between related entities, such as a parent company and its subsidiary or two companies under common ownership. These transactions may involve tangible goods, services, or intangible assets like patents and trademarks.
Because transfer pricing can be used to shift income to jurisdictions with lower tax rates, it is closely monitored by tax authorities. For example, if a subsidiary in a low-tax country sells components to its parent company in a high-tax country at inflated prices, the group’s overall tax burden may be reduced. This type of income shifting can trigger regulatory scrutiny.
IRS Regulations and Compliance Requirements
The U.S. Internal Revenue Service (IRS) enforces Internal Revenue Code Section 482, which requires that intercompany transactions reflect arm’s-length pricing—the price that would be charged between unrelated parties under similar circumstances. This rule is designed to prevent tax avoidance and ensure that income is accurately reported and taxed.
State tax authorities may adopt similar rules, and international jurisdictions often follow the OECD Transfer Pricing Guidelines. Noncompliance can result in significant penalties, including adjustments to taxable income and fines of up to 40% of the underpaid tax amount in the U.S.
Common Transfer Pricing Methods
To determine appropriate transfer prices, companies may use several accepted methodologies, including:
- Comparable Profits Method (CPM): Evaluates the profitability of the tested party against similar independent companies.
- Cost-Plus Method: Applies a market-based markup to the supplier’s costs to determine a fair transfer price.
The choice of method depends on the nature of the transaction, available data, and regulatory expectations in each jurisdiction.
Documentation and Risk Mitigation
Many jurisdictions require contemporaneous documentation to support transfer pricing practices. Even when not mandatory, maintaining detailed records is the best practice. Documentation should include:
- Organizational structure and ownership relationships
- Descriptions of intercompany transactions
- Functional and risk analyses
- Selection and application of pricing methods
- Financial data and comparables
Proper documentation not only supports compliance but also helps mitigate penalties in the event of an audit.
Safeguarding Your Manufacturing Business
To manage transfer pricing risk effectively:
- Conduct a risk assessment to evaluate exposure based on your company’s structure and operations.
- Develop formal transfer pricing policies tailored to your risk profile and business activities.
- Document your pricing methodology to defend your position during audits or regulatory reviews.
These steps help ensure that your intercompany transactions withstand scrutiny and reduce the likelihood of costly disputes.
Strategic Compliance and Tax Efficiency
Proactively managing transfer pricing not only reduces compliance risk but may also uncover opportunities to optimize your global tax position—within legal boundaries. Collaborating with tax professionals can help tailor strategies that align with your operational goals and regulatory obligations.
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Mark is a tax partner with over 29 years’ experience in services to international, corporate, and personal tax clients. As the partner in charge of the tax department, Mark supervises over 40 tax professionals. He specializes in international cross-border taxation and has worked on special projects relating to the interest-charged DISCs, offshore voluntary disclosures, transfer pricing analysis, cross-border royalty agreements, controlled foreign corporations, passive foreign investment companies, and corporate benefits of ESOP ownership. Additionally, Mark is responsible for the development and implementation of tax engagement strategies for personal tax clients and closely held businesses with an emphasis on the manufacturing industry.