Transfer Pricing for Auditors: TP Documentation Testing

Why transfer pricing shows up on your risk assessment

Related party transactions are a presumed significant risk under ISA 550.18. If your client has material intercompany transactions with group entities in other jurisdictions, you can’t sign off on the financial statements without understanding whether those transactions are priced at arm’s length. Transfer pricing is not a tax-only issue. Mispriced intercompany transactions directly affect revenue, cost of sales, operating expenses, and net profit in the statutory financial statements you’re auditing.

For non-Big 4 firms, this creates a specific problem. Your clients are often mid-market subsidiaries of larger groups. The group’s transfer pricing policy is set at headquarters. The local entity receives a local file (or doesn’t), pays what it’s told, and the local finance team has limited visibility into how headquarters set the pricing. You inherit that information asymmetry.

The OECD reported in 2024 that approximately 120 jurisdictions now have transfer pricing documentation requirements based on BEPS Action 13. In the Netherlands, entities that are part of a multinational group with consolidated revenue above €50 million must maintain both a master file and a local file. The documentation must be available by the time the corporate income tax return is filed. If it isn’t, the entity faces reversed burden of proof: the Dutch tax authority can impose its own pricing, and the entity must demonstrate that the authority’s adjustment is incorrect.

That documentation requirement sits in tax law. But the same information feeds directly into your audit. The local file contains the functional analysis, the benchmarking study, and the pricing methodology that underpin the numbers in the financial statements. If that documentation is absent, incomplete, or unreliable, you have an ISA 550 and ISA 500 problem.

What ISA 550 and ISA 540 require from you

ISA 550 governs your responsibilities regarding related party transactions. The standard requires you to do four things in the context of intercompany pricing.

ISA 550.11 requires you to understand the nature and business rationale of related party transactions. For transfer pricing, this means understanding why the transaction exists, what function each party performs, what risks each party bears, and what assets each party uses. This is the functional analysis. If you don’t understand those four elements, you don’t understand the transaction.

ISA 550.23 requires you to evaluate whether related party transactions have been appropriately accounted for and disclosed. The related party note (IAS 24.18) must disclose the nature of the relationship and information about the transactions sufficient for users to understand their effect. A note that says “management fees were charged at arm’s length” without specifying the method, the quantum, or the basis is not sufficient.

ISA 540 applies because the selection of a transfer pricing method and the identification of comparable transactions involve estimation and judgment. ISA 540.13 requires you to understand how management made the accounting estimate (here, the pricing decision) and the data on which it is based. The transfer pricing documentation is that data.

ISA 620 may apply if the transfer pricing analysis involves a method (such as a profit split or transactional net margin method) that requires economic expertise your team doesn’t have. ISA 620.7 requires you to determine whether you need a specialist. For routine cost-plus or resale-minus arrangements, you likely don’t. For a profit split involving intangible property allocation, you likely do.

The link between these standards is practical: ISA 550 tells you what to audit, ISA 540 tells you how to audit the estimate embedded in the pricing, and ISA 620 tells you when to get help. Your file should show how all four connect.

The OECD three-tier documentation structure

BEPS Action 13 (finalised October 2015) introduced a standardised documentation framework with four components. A master file provides a high-level overview of the group’s global operations, transfer pricing policies, and allocation of income. At the entity level, a local file provides detail on the specific intercompany transactions in a single jurisdiction, including the functional analysis, the method selected, and the benchmarking study. The Country-by-Country Report (CbCR) provides aggregate financial data by jurisdiction. And intercompany agreements govern the legal terms.

For the external auditor, the local file is the primary document. It contains the information you need to test whether the pricing applied in the financial statements is supportable. The master file provides context (group-wide TP policy, key intangibles, major intercompany transactions) but doesn’t contain the entity-level analysis. The CbCR is filed separately with tax authorities and typically isn’t available to the statutory auditor unless specifically requested.

When you ask for the TP documentation, be specific. Ask for the local file, the underlying benchmarking study (not just the summary), and the intercompany agreements covering every material transaction. Many clients will provide the local file. Fewer will provide the raw benchmarking data. That raw data is where the audit evidence lives.

Testing the local file: what to look for

A local file that supports the financial statements you’re auditing should contain five elements. First, a functional analysis describing what each party does, what risks each party assumes, and what assets each party deploys. Second, a characterisation of each intercompany transaction (service, sale of goods, licence, loan, cost contribution). The method selected (comparable uncontrolled price, resale minus, cost plus, transactional net margin method, or profit split) with an explanation of why that method is the most appropriate. A benchmarking study identifying comparable transactions or companies and the arm’s length range. And a conclusion showing that the actual results fall within the arm’s length range.

Most of the problems you’ll find on audit sit in the benchmarking study. Here’s what to check.

Vintage of the study

The OECD Transfer Pricing Guidelines (Chapter V, paragraph 5.36) recommend that the search for comparables be updated regularly. A study performed in 2019 using financial data from 2016–2018 is not evidence that 2025 pricing is arm’s length. If the study hasn’t been updated in more than two years, flag it. The client needs to explain why the old comparables remain valid, or provide an updated search.

Comparable companies

The comparables themselves need scrutiny. Check whether the companies in the benchmarking set are still operating, still independent (not acquired by a group), and still performing comparable functions. A common problem: the benchmarking study was prepared by the group’s TP adviser using a database like Bureau van Dijk’s Orbis. Three of the eight comparables were acquired in 2022 and are no longer independent. Nobody removed them from the set. The interquartile range shifted, but the report still shows the old range.

Method selection rationale

The method selection needs a documented rationale. If the client uses cost-plus for intercompany management services, verify that the entities receiving the services are not bearing risks that would make a different method (such as TNMM) more appropriate. ISA 540.13(b) asks you to understand the methods and assumptions used. A local file that states “cost-plus 5% was selected” without explaining why cost-plus is the most appropriate method for this transaction type does not satisfy your audit evidence requirement.

Actual results versus the arm’s length range

Finally, check whether the actual results for the audit year fall within the arm’s length range. The benchmarking study produces an interquartile range (for example, operating margins of 2.1% to 6.8% for comparable distributors). The client’s actual operating margin is 1.3%. That’s outside the range. The local file should explain why, or the pricing should have been adjusted. If neither happened, you have a potential misstatement. Use the ciferi transfer pricing calculator to test the margin analysis against the comparable data.

Intercompany agreements: the missing link

Beyond the local file itself, request copies of the intercompany agreements governing each material transaction. The agreement should match the functional analysis. If the local file describes the entity as a limited-risk distributor but the intercompany agreement assigns credit risk, inventory risk, and warranty obligations to it, the characterisation is inconsistent. Inconsistency between the legal agreements and the TP documentation is a red flag for both the tax authority and the audit file.

Check whether the agreements are signed, current (not expired), and actually reflect the pricing terms applied in practice. A management fee agreement that specifies “cost-plus 8%” while the entity has been charged cost-plus 5% for the last two years indicates either a breach of the agreement or an undocumented amendment. Either way, the amounts in the financial statements don’t match the legal basis, and that affects your ISA 550 conclusion.

Intercompany financial transactions

Since February 2020, the OECD TP Guidelines include Chapter X (Financial Transactions), which provides specific guidance on intercompany loans, cash pooling arrangements, guarantees, and captive insurance. Many local files still omit financial transactions entirely. If the entity has a material intercompany loan, check whether the interest rate is arm’s length by comparing it to the entity’s standalone credit profile and available market rates. A €10 million intercompany loan at an interest rate that doesn’t reflect the borrower’s credit risk produces a misstatement in finance costs. ISA 550 covers financial transactions just as it covers intercompany sales.

Worked example: Müller Fertigung GmbH

Client scenario: Müller Fertigung GmbH is a German contract manufacturer. It is a wholly-owned subsidiary of Müller Group AG (Switzerland), a group with consolidated revenue of €92 million. Müller Fertigung manufactures precision components exclusively for the group. It purchases raw materials independently but uses tooling and specifications provided by the Swiss parent. Revenue from intercompany sales to the parent: €14.6 million. Operating margin: 3.1%. The audit date is 31 December 2025.

Step 1: Understand the transaction and functional profile

Müller Fertigung performs manufacturing functions using parent-provided IP (tooling, specifications, product designs). It bears limited market risk (single customer, the parent), limited inventory risk (production is to order), and standard operational risks. The functional profile is that of a contract manufacturer, not a full-risk manufacturer.

Step 2: Evaluate the method

The local file applies the Transactional Net Margin Method (TNMM) with operating margin as the profit level indicator. TNMM is appropriate for a contract manufacturer because comparable uncontrolled transactions are unavailable (the components are proprietary) and the entity’s functional profile is limited. This is consistent with OECD TP Guidelines paragraph 2.64.

Step 3: Test the benchmarking

The local file includes a benchmarking study dated March 2024 using Orbis data from fiscal years 2021–2023. It identifies 11 comparable contract manufacturers in the EU. Interquartile range of operating margins: 2.4% to 5.9%. Müller Fertigung’s operating margin for 2025 is 3.1%, which falls within the interquartile range.

Check: are the 11 comparables still independent? Cross-reference to Orbis or public filings. One comparable (Trentino Meccanica S.r.l.) was acquired by an automotive group in mid-2024. Removing it narrows the set to 10 companies and shifts the interquartile range to 2.2% to 5.7%. The client’s 3.1% margin still falls within the revised range.

Step 4: Test the IAS 24 disclosure

The financial statements note 22 (Related Party Transactions) discloses: “Sales to Müller Group AG of €14.6 million were conducted on an arm’s length basis using the transactional net margin method.” Confirm the amount agrees to the intercompany sales ledger. Confirm the method description is consistent with the local file. Check that the disclosure identifies the nature of the relationship (100% subsidiary of Müller Group AG) and the outstanding balance at year-end.

A reviewer opening this file sees a functional analysis that explains the transaction, a method that matches the entity’s risk profile, a benchmarking test with current data, and a disclosure that ties to the audit evidence. That is what ISA 550 compliance looks like on a TP engagement.

When you need a TP specialist

ISA 620.7 requires you to determine whether you need a specialist. For transfer pricing, the decision depends on the complexity of the method, not the size of the transaction.

Situations where a specialist is typically not required include routine cost-plus service arrangements where you can verify the cost base and markup independently, and resale-minus arrangements where the margin can be benchmarked against publicly available distributor data. These are the arrangements most mid-market subsidiaries have.

Situations where a specialist is typically required include profit split methods involving allocation of residual profits to intangible property, intercompany transactions involving hard-to-value intangibles (OECD TP Guidelines Chapter VI), restructurings where significant functions or risks transfer between group entities, and financial transactions (intercompany loans, guarantees) where the pricing depends on credit risk assessment.

If you engage a specialist, ISA 620.12 requires you to evaluate the specialist’s competence, capabilities, objectivity, and independence from the client. A report produced by the same TP firm that prepared the client’s local file is not independent. You need either a different firm’s review or your own independent analysis of the key assumptions. Document your ISA 620 assessment in the file.

Practical checklist

1. Identify material intercompany transactions. During risk assessment, identify all intercompany transactions above your performance materiality threshold by obtaining the intercompany transaction listing and agreeing it to the general ledger (ISA 550.11, ISA 315.25).
2. Request the documentation. Obtain the local file, the underlying benchmarking study data, and all intercompany agreements for material transactions. If the local file is unavailable, document the gap and assess whether you can obtain sufficient appropriate audit evidence from alternative sources (ISA 500.6).
3. Verify the functional analysis. For each material transaction, verify the functional analysis in the local file against your understanding from management inquiry, site visits, and contract review. Confirm that the characterisation (contract manufacturer, limited-risk distributor, service provider) matches the actual activities performed (ISA 550.23).
4. Test the benchmarking study. Check the vintage (within two years), confirm comparables are still independent and operational, recalculate the interquartile range, and verify the client’s actual result falls within it.
5. Test the IAS 24 disclosure. Compare the related party disclosure against the local file data: does the note correctly describe the method, the transaction amount, and the nature of the relationship?
6. Assess specialist need. Determine whether a TP specialist is needed under ISA 620.7 based on the complexity of the method used, and document that assessment.

Common mistakes

• Accepting the local file without testing the benchmarking data. The AFM has flagged files where the auditor relied on a TP report provided by management’s expert without performing any independent testing of the comparables or the method selection. ISA 500.8 requires you to evaluate the relevance and reliability of information produced by management’s expert, even if the expert is a reputable TP firm.
• Not updating the benchmarking test for the current year. If the local file uses a multi-year average benchmarking set (for example, 2021–2023 financial data), verify that the client’s current-year margin (2025) still falls within the range. The local file may show compliance for the study period but not for the year you’re auditing. This gap is the most common finding in regulatory reviews of TP testing on audit files.
• Ignoring intercompany financial transactions. Intercompany loans and guarantees are related party transactions under IAS 24 and ISA 550. They require arm’s length pricing just like intercompany sales. A €5 million intercompany loan at 0% interest rate is not arm’s length. If the client hasn’t included financial transactions in the local file, raise it. The OECD TP Guidelines Chapter X (Financial Transactions, issued February 2020) provides specific guidance.

Related content

Frequently asked questions

Further reading and source references

• OECD Transfer Pricing Guidelines, 2022 edition: the comprehensive framework for arm’s length pricing, method selection, and comparability analysis.
• OECD BEPS Action 13, October 2015: the three-tier documentation framework (master file, local file, CbCR).
• OECD TP Guidelines Chapter X, February 2020: specific guidance on intercompany financial transactions.
• ISA 550, Related Parties: the framework for auditing related party transactions including intercompany pricing.
• ISA 540 (Revised), Auditing Accounting Estimates: applies to the judgment embedded in transfer pricing method selection.
• ISA 620, Using the Work of an Auditor’s Expert: when to involve a TP specialist.
• IAS 24, Related Party Disclosures: disclosure requirements for intercompany transactions.