Benchmark Studies
Benchmarking in the UAE : A Guide to Transfer Pricing Compliance
As the UAE transitions into a formal corporate tax regime under Federal Decree-Law No. 47 of 2022, benchmarking has shifted from a “best practice” to a critical compliance tool. Whether you are dealing with intercompany loans, management fees, or salaries for shareholder-directors, your transactions are now under the microscope of both auditors and the Federal Tax Authority (FTA).
What is a Benchmarking Study?
A benchmarking study is an independent, third-party validation that proves your related party transactions meet the Arm’s Length Principle (ALP). This means the terms of your business deals must be consistent with what two independent companies would agree upon in similar circumstances.
The 5 Standard Methods for Benchmarking
To determine “market value,” businesses typically use one of the five OECD-aligned methods:
1. Internal Benchmarking
Compares performance, processes, and metrics across different departments or teams within the same organization. The goal is to identify successful practices and implement them across other areas of the business.
2. Competitive Benchmarking
Compares your company’s performance, products, services, and strategies with those of direct competitors in the same market. This helps identify competitive gaps and areas for improvement.
3. Functional Benchmarking
Compares specific business functions or processes with high-performing organizations outside your industry. This helps identify new ideas and best practices that can be adapted to your own business.
4. Collaborative Benchmarking
Involves two or more organizations working together to share data, knowledge, experiences, and best practices. The objective is to learn from each other and develop improved or innovative solutions.
5. Strategic Benchmarking
Focuses on comparing long-term business strategies, operating models, and approaches used by successful market leaders. It helps organizations understand how leading companies achieve and maintain strong performance over time.
Why Benchmarking is No Longer Optional
1. Auditor Sign-Off and Financial Integrity
Auditors are increasingly flagging the absence of benchmarking as a qualification point in financial statements. Without third-party data to support intercompany pricing, auditors may refuse to sign off, potentially eroding the trust of shareholders and lenders.
2. Connected Persons Scrutiny
In the UAE, payments to Connected Persons (directors, partners, or their relatives) are highly scrutinized because there is no personal income tax. Under Article 28 of the Corporate Tax Law, these payments—such as salaries or benefits—are only deductible if they reflect market value.
3. Mitigating Tax Risks
Without a robust report, the FTA may re-allocate your profits or disallow tax deductions, leading to:
- Tax Adjustments: Revising your taxable income figures.
- Financial Penalties: Interest and fines on underpaid tax.
- Recharacterization: Treating payments as “disguised profit distributions”.
The Path to Compliance: 5 Key Steps
- Identify Transactions: Map out all goods, services, loans, and royalties shared with related parties.
- Select the Method: Choose the most appropriate benchmarking method (e.g., TNMM or CUP).
- Find Comparables: Source data from independent market transactions.
- Economic Adjustments: Account for differences in business size or market conditions.
- Documentation: Create an audit-ready report that provides a clear “trail” of how pricing was determined.
Best Practices for UAE Businesses
- Annual Updates: Review and update your benchmarking reports annually or whenever transaction terms change significantly.
- Maintain Consistency: Ensure pricing is consistent across all related transactions to avoid red flags.
- Keep a Local File: Maintain a UAE-specific “Local File” with detailed pricing information alongside your “Master File”.