1. Transfer pricing: the arm's length principle
The most important rule is the Arm's Length Principle: prices between related entities must reflect what two independent parties would agree upon.
Why it matters
If a US parent charges its French subsidiary an artificially high fee, profits shift to the US to avoid French taxes. The IRS and French DGFIP stay very alert to these structures — if your pricing fails to reflect market reality, they can reassess your income and apply heavy penalties.
The solution: documentation
A Transfer Pricing Study or "Local File" justifies your pricing methodology using market data. Don't wait for an audit to build it — documentation should be ready before you file your annual returns.
2. Intercompany reconciliation: matching the books
A major red flag for auditors is a mismatch between two related entities. If your US entity shows a $100 receivable but the French books show only a $95 liability, you have a problem. Gaps often stem from FX fluctuations or simple data entry errors — but to an auditor, the cause matters less than the mismatch.
Run a monthly intercompany reconciliation process and treat these balances as real financial obligations. Settle them regularly rather than letting them sit indefinitely.
3. VAT and sales tax: internal doesn't mean exempt
Governments treat the exchange of goods or services as taxable events regardless of the corporate relationship.
- In Europe: VAT typically applies to management fees or IT support. A "reverse charge" mechanism is often used — but the invoice must be structured correctly.
- In the US: analyze transactions for sales tax nexus across states. Intercompany status doesn't grant automatic exemption.
Every intercompany invoice must look professional: clear description, correct tax IDs (VAT, EIN), right currency.
4. Consolidation and elimination entries
Year-end, every intercompany transaction must disappear from your consolidated statements — under US GAAP, you cannot recognize a profit from selling to yourself. The "elimination entries" are standard, but they require perfectly aligned books. One mismatched recording and the cleanup becomes a long manual exercise.
5. The US operator checklist
- Forms 5471 / 5472. Missing these IRS information returns triggers an automatic penalty of $25,000 even if no tax is owed.
- W-8BEN-E. Without withholding forms on file, payments face a mandatory 30% US withholding tax.
- Customs duties. If you ship physical goods, your intercompany price determines duties at the border. Underpricing to save on duties creates major legal exposure.
Conclusion: build to survive scrutiny
Moving money between entities you control is never "just" an internal transfer — from the outside, it's the first place auditors look for missing records or profit shifting. Get your transfer pricing study in place early and reconcile balances every month. The administrative effort is real, but much cheaper than a tax reassessment.