Transactions involving internal corporate services and head office management fees are heavily audited by revenue bodies due to their high potential for profit stripping.
The Two-Step Test for Intra-Group Services
To claim a tax deduction for a management fee or administrative service paid to a foreign parent company, the local subsidiary must pass two strict tests:
- The Benefit Test: Did the service provide the local subsidiary with clear economic or commercial value that enhances its commercial position? Would an independent company have been willing to pay an external party for this service, or perform it in-house?
- The Arm’s Length Charge Test: Is the amount charged for the service in line with market rates?
Shareholder Activities (Non-Deductible Services)
Services performed by a parent company solely because of its ownership interest in the subsidiary—known as shareholder activities—cannot be charged to the subsidiary. Examples include:
- Costs relating to the juridical structure of the parent company (e.g., shareholder meetings, parent company board expenses).
- Costs for compliance with parent company stock exchange listings.
- Costs for consolidating the group’s overall financial statements.
Low Value-Adding Intra-Group Services
To simplify compliance, international rules allow a simplified approach for routine, low-risk back-office services (e.g., HR, payroll, accounting support). MNEs can use a standard 5% cost mark-up without needing an extensive economic bench-marking study.
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