What the Master File and Local File Must Contain — Including the Bits Nobody Expects

Most summaries of transfer pricing documentation describe the master file as a group overview and the local file as the detail. That is true and it is not much use. The annexes to Chapter V of the OECD Guidelines set out what each must actually contain, and several of the items are ones no one anticipates until a tax authority asks.

The master file: five headed categories

The OECD describes the master file's purpose as providing "an overview of the MNE group business", and elsewhere as a "blueprint" of the group. Its five categories are:

Organisational structure. A chart illustrating the group's legal and ownership structure and the geographical location of operating entities.

Description of the business. This is the largest category and contains the item most often missed: a description of the supply chain for "the group's five largest products and/or service offerings by turnover plus any other products and/or services amounting to more than 5 percent of group turnover". Not the five largest. The five largest plus everything over a 5 per cent threshold, which in a diversified group can be a much longer list. It also requires important profit drivers, intra-group service arrangements, main geographic markets, important restructurings, acquisitions and divestitures in the year, and "a brief written functional analysis describing the principal contributions to value creation by individual entities".

Intangibles. The group's overall strategy for development, ownership and exploitation, including the locations of principal research facilities and of research management; a list of important intangibles and which entities legally own them; important related agreements, named as including "cost contribution arrangements, principal research service agreements and licence agreements"; transfer pricing policies for research and intangibles; and important transfers of interests in intangibles during the year.

Intercompany financial activities. How the group is financed, including arrangements with unrelated lenders. Then a requirement with real precision in it: identification of central financing entities, including both their place of organisation and their place of effective management. Those can differ, and the annex asks for both.

Financial and tax positions. The annual consolidated financial statement, and "a list and brief description of the MNE group's existing unilateral advance pricing agreements (APAs) and other tax rulings relating to the allocation of income among countries."

Note the word unilateral. The master file asks for unilateral APAs specifically, not the bilateral and multilateral ones.

The local file: three headed categories

Local entity. Management structure, a local organisation chart, and "a description of the individuals to whom local management reports and the country(ies) in which such individuals maintain their principal offices". Then the detailed business and strategy, flagging whether the local entity has been involved in or affected by restructurings or intangibles transfers "in the present or immediately past year". And one line that surprises nearly everyone: "Key competitors."

A tax authority is entitled to the local entity's view of who it competes with. Few documentation templates have a field for it.

Controlled transactions. Required "for each material category of controlled transactions", and the list is long: a description and the context; intra-group payments and receipts "broken down by tax jurisdiction of the foreign payor or recipient"; identification of associated enterprises and the relationships; "copies of all material intercompany agreements"; a detailed comparability and functional analysis; "an indication of the most appropriate transfer pricing method with regard to the category of transaction and the reasons for selecting that method"; the choice of tested party and why; important assumptions; reasons for any multi-year analysis; the selected comparables together with "a description of the comparable search methodology and the source of such information"; comparability adjustments; the arm's length conclusion; summary financial information; and copies of APAs and rulings "to which the local tax jurisdiction is not a party".

That last item is the mirror image of the master file's. The master file wants unilateral APAs; the local file wants the ones the local authority is not party to — which is to say, the agreements that authority could not otherwise see.

Financial information. The local entity's annual accounts, with a pragmatic rule: "if audited statements exist they should be supplied and if not, existing unaudited statements should be supplied." Then schedules tying the transfer pricing data back to those statements, and summary schedules of the comparables with their sources.

Two practical mercies

The annexes allow cross-referencing rather than duplication: "to the extent this functional analysis duplicates information in the master file, a cross-reference to the master file is sufficient." A local file does not need to restate the group functional analysis.

And the method documentation requirement explicitly asks for the reasons for selecting a method, which is where the Guidelines' actual selection rule matters. That rule is narrower than most people think — a most-appropriate-method test with a preference that bites only on a tie of reliability, as set out in our piece on transfer pricing method selection.

For the third tier and its filing mechanics, see our piece on the EUR 750 million CbCR threshold. Our list of international accounting standards covers the reporting framework the financial information ties back to.

Both annexes are published in Chapter V of the Transfer Pricing Guidelines by the OECD. The contents are expressed as what "should be included", so the binding obligation on a taxpayer comes from the domestic law implementing the standard, not from the annexes directly.