Methods & benchmarking
Tested Party
The tested party is the entity in a controlled transaction whose financial results are examined and benchmarked against independent comparable companies to determine whether pricing is arm's length. It is usually the party with the less complex functional profile, since its performance can be measured more reliably.
Selecting the tested party requires a detailed functional analysis comparing functions, assets, and risks of each party, with the entity performing more routine activities generally chosen. This reflects the reality that reliable comparable data is easier to find for routine manufacturers and distributors involved.
Once selected, the tested party's results are measured using a profit level indicator, such as operating margin, and compared against a benchmarking set of independent companies. If neither party is sufficiently routine, a two-sided method such as profit split may be more appropriate than a one-sided analysis.
In practice
What matters when applying tested party
- Usually the less functionally complex party
- Chosen through detailed functional analysis
- Enables reliable comparable company benchmarking
- Measured using a chosen profit level indicator
- Two-sided methods needed if neither party is routine
Frequently asked
Common questions
Why is the less complex party usually chosen as the tested party?+
The less complex party is chosen because independent comparable companies performing similarly routine functions are far easier to identify in commercial databases, making the benchmarking analysis more reliable. Entities holding unique intangibles, bearing entrepreneurial risk, or making significant strategic decisions are difficult to compare against independent businesses, since truly comparable independent companies with the same unique characteristics rarely exist.
Can the tested party be a foreign entity in a group?+
Yes, the tested party does not need to be the domestic entity for which the transfer pricing analysis is being prepared. Tax authorities generally accept a foreign tested party provided reliable financial and comparable data is available for that jurisdiction, though many practitioners prefer selecting the tested party in a jurisdiction with abundant, transparent, and accessible comparable company financial data.
See how the tooling handles this in practice
Our transfer pricing tools calculate intercompany charges, benchmark financing and reconcile the intercompany ledger from your own data. Book a short walkthrough and we will show the workflow on a scenario that matches your group structure, rather than a generic demo dataset.