What do you mean by 'transfer pricing'? Explain its importance and benefits.

Transfer Price means the value or price at which transactions take place amongst related parties. It is the price at which an enterprise transfers physical goods and intangible property and provides services to associated enterprises. It is used in accounting for transfer of goods or services from one responsibility centre to another or from one company to another associated company. It affects the revenue of transferring division and the cost of receiving division. As a result, the profitability, return on investment and managerial performance evaluation of both divisions are also affected. Transfer pricing mechanism is very important and beneficial due to the following reasons: Helpful in correct pricing of Products/Services: An effective transfer pricing mechanism helps an organization in correctly pricing of its products and services. Since, in any organization, transaction between associated parties occurs frequently, it is necessary to value all transactions correctly so that the final product/service may be priced correctly. Helpful in Performance Evaluation: For the performance evaluation of any entity, it is necessary that all economic transactions are accounted. Calculation of correct transfer price is necessary for accounting of inter-related transaction between two associated enterprises. Helpful in complying Statutory Legislations: Since related party transaction have a direct bearing on the profitability or cost of a company, the effective transfer pricing mechanism is very necessary. For example, if the related party transactions are measured at less value, one unit may incur loss and other unit may earn undue profit. This will result in income tax imbalances at both parties end. Transfer pricing is also helpful in checking the practice of tax evasion.