Master File and Local File: Practical Guide for Small Multinational Startups

Understanding Transfer Pricing Documentation for Startups

Your startup is scaling internationally. You have a UK entity for development and a new US team driving sales, with funds and services flowing between them. Amid the rush to find product-market fit and manage runway, a term from corporate finance emerges: transfer pricing. Suddenly, you are facing questions about compliance and potential tax risks that feel worlds away from your daily operations in QuickBooks or Xero. For most early-stage companies, the immediate concern is not a massive audit but understanding whether complex rules like the Master and Local File even apply and what minimal steps are necessary to avoid future headaches during a funding round or an exit.

This guide provides a practical overview of transfer pricing requirements for startups, focusing on the UK and US rules. We will clarify the thresholds that trigger formal documentation and outline a simplified approach to compliance that protects your business without distracting you from growth.

What Are the Master File and Local File?

At its core, transfer pricing is about setting a fair, market-based price for goods, services, or intellectual property exchanged between related legal entities within the same multinational group. This process is governed by the “Arm’s Length Principle,” which essentially asks: what would two unrelated companies have charged each other for the same transaction? Tax authorities use this principle to ensure you are not artificially shifting profits to lower-tax countries to reduce your overall tax bill.

To standardize how companies document their adherence to this principle, the "The OECD's BEPS project created a standardized, two-level approach to transfer pricing documentation." This approach consists of two key documents that work together to tell your company’s story.

• The Master File: Think of this as the high-level group story. It provides a global blueprint of your business operations. A Master File describes your organizational structure, outlines the key drivers of profit, details the ownership of important intellectual property, explains your group financing arrangements, and summarizes your overall transfer pricing policies. It gives tax authorities a consistent, big-picture view of your multinational enterprise.
• The Local File: This is the detailed local chapter. It focuses on the specific transactions of a single entity within the group. The Local File provides a granular analysis to prove that its dealings with related parties were conducted at arm’s length. It includes details on specific intercompany transactions, the amounts involved, and a functional analysis of the local entity, supported by economic analysis (like benchmarking studies) to justify the prices charged.

For a growing startup, the critical distinction is understanding when the obligation to prepare these formal, and often costly, documents is actually triggered.

Do We Need a Master and Local File? UK and US Thresholds

This is the most common question for founders and the source of significant confusion. The good news is that the formal, mandatory requirement to prepare and file a Master and Local File is reserved for very large multinational corporations. For most startups, these high thresholds provide a clear safe harbor from the most intensive transfer pricing requirements for startups.

United Kingdom Thresholds

In the UK, the rules are straightforward and set a high bar. The formal "UK requirement for Master and Local Files applies to multinational groups with consolidated global revenue of €750 million or more in the prior period." This means you must sum the total revenue of all entities in your group worldwide. If that consolidated figure is below €750 million, you are not statutorily required to prepare these specific documents for His Majesty's Revenue and Customs (HMRC).

Furthermore, many UK startups benefit from a broader exemption for general transfer pricing rules. The "UK's SME Exemption for general transfer pricing documentation applies to groups with fewer than 250 employees AND either turnover under €50M or a balance sheet under €43M." This exemption covers the vast majority of companies from Seed to Series B, relieving them of the need to apply the arm's length principle to their UK-to-UK transactions and significantly reducing the compliance burden for their international dealings.

United States Thresholds

The United States has a similarly high bar for formal documentation. The "US formal Master File reporting is required for US-parented groups with annual global revenue of $850 million or more." The Internal Revenue Service (IRS) aligns with the OECD's general framework, targeting its most stringent requirements at the largest multinational players.

While the US does not have a broad SME exemption equivalent to the UK's, its local filing requirements are also aimed at large-scale operations. For instance, "US Local File requirements are generally tied to specific transaction volumes, such as over $50M in tangible goods transactions." For SaaS, Biotech, or Deeptech startups, which primarily transact in services or intellectual property, hitting such a threshold is years away. The key takeaway is clear: formal Master and Local file obligations are a problem for large enterprises, not early-stage companies.

The Startup's Guide to Pragmatic Transfer Pricing Compliance

Just because formal filing is not required does not mean you can ignore transfer pricing altogether. The Arm’s Length Principle still applies to your cross-border transactions, regardless of your size. The practical consequence tends to be that during due diligence for a fundraising round or an M&A event, investors and acquirers will ask how you priced intercompany transactions. Having a simple, logical answer ready is a sign of good financial governance.

The reality for most Series A startups is more pragmatic: you do not need a 100-page report from a Big Four firm. You need a simple, defensible memo that can be prepared in-house or with light support from an advisor. This is the 80/20 approach to transfer pricing compliance for startups.

Step 1: Map Your Structure and Transactions

First, draw a simple diagram of your legal entities and identify the transactions flowing between them. A common setup for early-stage international companies is a UK Parent Company (ParentCo) that holds the core intellectual property and houses the R&D team, with a wholly-owned US subsidiary (SubCo) focused on sales and marketing.

In this structure, ParentCo provides valuable services to SubCo. These could include engineering support, use of the core technology platform, brand usage, and administrative overhead. In return for these benefits, SubCo needs to compensate ParentCo fairly. This payment is the intercompany transaction that needs to be priced at arm's length.

Step 2: Select a Simple Pricing Method

For services transactions common in SaaS, professional services, and biotech startups, the simplest and most defensible pricing method is often a “cost-plus” model. This method involves three steps:

1. Calculate the Cost Base: ParentCo identifies all direct and indirect costs incurred in providing services to SubCo. This includes salaries, software licenses, infrastructure costs, and a portion of administrative overhead.
2. Apply a Markup: A small, reasonable markup is added to the cost base. For routine support services, this is often in the 5-10% range.
3. Determine the Charge: The final charge is the cost base plus the markup.

This approach is straightforward to calculate using data from your accounting system like Xero or QuickBooks and is generally accepted by tax authorities for low-risk, routine services.

Step 3: Document Your Policy in a Memo

The next step is to document your chosen method in a short internal memo. This document does not need to be complex. It should clearly state:

• The entities involved and their roles (e.g., UK ParentCo as service provider, US SubCo as recipient).
• The types of services being provided.
• The chosen pricing method (e.g., cost-plus).
• How the cost base is calculated (i.e., which expense accounts are included).
• The markup percentage applied and a brief justification for it.

Consider this example for a SaaS company with a UK development entity and a US sales entity. To build the cost base, you would sum the relevant expenses:

• Allocated Developer and Support Salaries: £300,000
• Allocated Server and Infrastructure Costs: £40,000
• Allocated General and Administrative Support: £25,000

This gives a Total Cost Base of £365,000. Applying an 8% markup (£29,200) results in a Total Intercompany Charge to the US SubCo of £394,200. This calculation, explained in a two-page memo, provides a robust defense of your pricing. The key is to be contemporaneous, meaning you document the policy when you set it, not years later when asked.

Step 4: Use Your Accounting System to Track Costs

Leverage the tools you already use. In QuickBooks (common for US entities) or Xero (popular with UK entities), use features like classes, locations, or tracking categories to tag the specific expenses that form your cost-plus calculation base. For example, you can create a "Intercompany-US" tag in Xero for all UK costs allocable to the American entity. This makes pulling the data for your annual calculation a simple reporting exercise rather than a painful manual spreadsheet project.

The Real Risks of Getting It Wrong (and How to Mitigate Them)

For an early-stage company, the risks of poor transfer pricing are less about surprise tax raids and more about commercial friction and value erosion. While tax authorities have significant power, the more immediate threat comes from stakeholders who expect sound financial controls.

Direct Tax Risk

The direct tax risk, though lower for small companies, is not zero. If a tax authority challenges your pricing and successfully argues that you have shifted profit incorrectly, the consequences can be costly. For example, "In the UK, penalties for incorrect transfer pricing can range from 30-100% of the potential lost tax revenue." This penalty is in addition to the underlying tax and interest owed. An adjustment can also lead to double taxation, where the same income is taxed in both countries, a situation that can be complex and expensive to resolve.

Commercial and Transactional Risk

The more frequent risk for startups is commercial. During fundraising or an acquisition, the buyer’s due diligence team will scrutinize your intercompany dealings. If there is no documentation, no intercompany agreement, and no clear logic for how you priced transactions, it raises a major red flag. It suggests weak financial hygiene and creates uncertainty about your historical profit margins and potential future tax liabilities.

A scenario we repeatedly see is a Series B company in a diligence process. The company that had a simple transfer pricing memo and signed agreement answered the diligence question in an afternoon. The company that had nothing spent weeks with expensive advisors trying to retroactively justify its pricing, delaying the deal and causing friction with the potential investor or acquirer. This is an unforced error that is easily avoided.

Practical Takeaways for Your Startup

Navigating international tax rules for startups does not need to be overwhelming. While the formal requirements for Master and Local Files are designed for global giants, the underlying principles are relevant for any company with cross-border entities. Focusing on practical, proportional steps will address 99% of the risk at this stage.

1. Confirm You Are Below the Thresholds. First, take comfort in the fact that the €750M (UK) and $850M (US) revenue thresholds for mandatory filing are likely years away. Your primary obligation is not formal reporting but maintaining a defensible pricing policy. See our UK thresholds guide for more details.
2. Create a Simple Policy Memo. Document your approach. For most service-based startups (SaaS, Biotech, Deeptech), a cost-plus methodology is a great starting point. Outline the entities, the services flowing between them, the costs included in your base, and the markup you are applying. Keep it to two pages.
3. Put an Intercompany Agreement in Place. This is a simple legal document that formalizes the policy laid out in your memo. It proves that the arrangement was deliberate and contractually agreed upon by both entities. This document, combined with your memo, is powerful evidence. See the documentation checklist for a list of minimal files to maintain.
4. Leverage Your Accounting System. Use tools like Xero or QuickBooks to tag relevant expenses throughout the year. This transforms the annual true-up calculation from a major project into a simple report, ensuring your documentation is rooted in accurate, contemporaneous financial data.

Ultimately, think of this not as a tax compliance burden, but as basic financial hygiene that strengthens your business, smooths the path for future funding, and makes your life easier during an exit. For more resources, see the broader Transfer Pricing Documentation hub.

Frequently Asked Questions

Q: What is the absolute minimum a Seed or Series A startup should do for transfer pricing?
A: The minimum requirement is to establish and document a reasonable pricing policy. This typically involves a short internal memo explaining your methodology (e.g., cost-plus for services) and a simple intercompany agreement to formalize the arrangement. This proactive step provides a strong defense if questions arise during diligence or from tax authorities.

Q: Can we just charge a flat intercompany management fee without a formal policy?
A: While simple, a flat fee is risky because it lacks a clear connection to the arm's length principle. Tax authorities or investors will question how you determined the fee was fair market value. A method based on costs (like cost-plus) is much easier to defend because it is grounded in actual economic activity and financial data.

Q: How often do we need to update our transfer pricing documentation?
A: You should review your transfer pricing policy annually to ensure it still reflects your business operations. A full update is necessary if there are significant changes, such as the launch of a new product line, a corporate restructuring, or a material change in how your different entities function and interact with one another.

Q: Does having a transfer pricing policy guarantee we will not be audited?
A: No, having a policy does not prevent an audit. However, it fundamentally changes the dynamic of an audit or diligence process. With clear, contemporaneous documentation, you can respond to inquiries quickly and confidently, demonstrating good governance. Without it, you are forced into a reactive and defensive position, which is far more costly and time-consuming.