Plain English
When one group company lends money to another, tax authorities want to see the same discipline an outside bank would apply: a credit assessment, a rate that reflects the borrower's risk, and terms that make commercial sense. Groups sometimes treat these loans casually — round numbers, no term sheet, interest set once and never revisited — and that casualness is exactly what attracts scrutiny, because interest is deductible and moves profit between countries.
Technical definition
An intercompany loan is a financial transaction between associated enterprises within the meaning of Article 9 of the OECD Model, subject to accurate delineation under Chapter I Section D.1 and specific guidance under Chapter X paragraphs 10.1–10.93, requiring assessment of the loan's economically relevant characteristics — amount, term, seniority, currency, financial covenants and the borrower's creditworthiness — to determine an arm's length interest rate.
Why it matters
Interest is a deductible expense that moves cash directly out of the paying jurisdiction's tax base; it is one of the most frequently adjusted items in transfer pricing audits and increasingly interacts with thin capitalisation and interest limitation rules.
How it works in practice
- 01Delineate the instrument: confirm it behaves as debt (repayment expectation, interest obligation, no equity-like features).
- 02Assess the borrower's standalone credit rating using financial ratios and/or rating agency methodology.
- 03Decide whether and how much implicit group support to layer onto the standalone rating.
- 04Select a method — typically CUP using comparable bond or loan data — to derive an arm's length rate.
- 05Document the loan agreement with commercial terms consistent with the pricing.
Worked example
Five-year unsecured loan, USD 20m
A US parent lends USD 20m to its Brazilian subsidiary for five years, unsecured. The subsidiary's standalone rating is assessed at B+; with one notch of implicit group uplift it reaches BB-. Comparable USD-denominated corporate bonds of BB- issuers with similar tenor trade at a yield of 6.8%. The loan is priced at SOFR + 350bps, equating to roughly 6.9%, within the arm's length range. Pricing it at the parent's own AA- cost of funds plus a nominal 50bps margin would have understated the rate by over 250bps.
Common mistakes
- Pricing the loan off the lender's cost of funds instead of the borrower's credit risk.
- Never revisiting the rate as the borrower's financial position changes over the loan term.
- Ignoring currency mismatch between the loan and the borrower's functional currency.
- Failing to give full uplift-free effect to genuine standalone weakness before considering group support.
Audit red flags
- Interest rate unchanged for years despite deteriorating borrower financials.
- No loan agreement or one signed long after funds were advanced.
- Loan classified as debt for tax purposes but with equity-like features (no fixed maturity, subordination, interest contingent on profits).
Documentation & data
Documents to hold
- Signed loan agreement with commercial terms.
- Credit rating analysis, standalone and group-supported.
- Benchmarking study of comparable loans or bonds.
- Board approval and evidence of the funds' actual use.
Data you need
- Borrower's financial statements and forecasts.
- Comparable loan or bond market data.
- Group credit rating and public debt terms, if any.
Who owns this internally: Group treasury structures the loan; tax sets and defends the pricing; both sign off on documentation before drawdown.
Jurisdiction notes
- United States
- Treas. Reg. §1.482-2(a) requires an arm's length rate of interest and provides safe-harbour ranges tied to the applicable federal rate in some circumstances.
- OECD/EU
- Chapter X and most EU member state guidance require full credit rating and comparability analysis rather than a fixed safe harbour.
- India
- Rules under Section 92 require benchmarking against comparable uncontrolled loans, with CBDT guidance on acceptable rate bases for foreign-currency loans.
Notes by role
CFOs & finance leaders
The interest rate you choose directly affects both entities' cash tax; getting it wrong risks double taxation if only one side is adjusted.
Advisors & consultants
The credit rating step is usually where cases are won or lost — challenge both the standalone rating methodology and the size of any support uplift.
Frequently asked
- Can the interest rate be a flat group-wide rate?
- No. Chapter X requires the rate to reflect the specific borrower's risk profile, not a uniform group rate.
- What if the loan has no fixed repayment date?
- It may be recharacterised as equity or a different instrument entirely if it lacks genuine debt features.
Sources & status
- Primary source
OECD Transfer Pricing Guidelines, Chapter X, paras 10.1–10.93
OECD, 2022
- Primary source
Treas. Reg. §1.482-2(a)
US Treasury, 2023
Reference material only, not advice on a specific fact pattern. Reviewed 2026-06-30.
Careers
How this shows up in the job
Intercompany loans are the most common financial transaction case study in transfer pricing interviews — know the delineation-then-rating-then-method sequence cold.
Careers in transfer pricing