Intercompany Model Design & Functional Alignment.
The return each entity earns is decided by where its functions, assets, and risks actually sit.
A group running an Indian captive, a limited-risk distributor, or a service entity for the foreign parent has usually set its intercompany margin first and described the entity afterward — the cost-plus rate was agreed, and the functional story was written to fit it. The model is sound only if the reverse is true: the characterisation comes first, and the return follows it.
When a transfer-pricing officer or an acquirer’s diligence team reads the structure back, they test the functions, assets, and risks the entity genuinely bears against the return it books. This page sets out how the firm designs that alignment — the Fiscal Architecture decision that decides whether the pricing holds.
How We Align Function to Return.
The firm designs the intercompany model from the functional reality outward, not from the target margin inward. The arm’s-length principle under Sections 92 to 92F of the Income Tax Act asks a single structural question — what would independent parties, performing these functions and bearing these risks, have earned — and the model is built to answer it consistently across the entity, its contracts, and its conduct.
For intangibles, legal ownership is no longer the anchor. The OECD DEMPE framework attributes the return to whoever performs the development, enhancement, maintenance, protection, and exploitation functions, so a model that books IP in one entity while the decisions and people sit in another is misaligned by design.
Alignment is what makes the model defensible: the characterisation, the pricing method, the agreements, and the actual conduct all describe the same entity. Where they diverge is where adjustment and double taxation enter.
- Functional mapping What each entity actually does, owns, and bears — the FAR analysis that fixes whether it earns a routine return or a residual one.
- Economic alignment Whether the chosen method and margin follow from the characterisation, rather than the characterisation being written to justify a pre-set margin.
- Contract architecture Whether the intercompany agreements allocate risk in a way the conduct actually supports, since a contract that the behaviour contradicts is disregarded.
- Control layer Where the decision-making over risk and intangibles genuinely sits, since DEMPE follows the people who decide, not the entity that signs.
Where the Model Is Built or Broken.
The design holds or fails at the point where the legal form of the arrangement meets the economic substance behind it. The decision that governs that point is set out below.
Intercompany Agreements & Cross-Border Contract Governance
The intercompany agreement is where the functional design is either locked in or quietly undone. It is meant to record which entity bears which risk — inventory, credit, market, foreign-exchange, warranty — because risk allocation is what drives the return each side is entitled to. An agreement that assigns full market risk to an entity whose people never decide on that risk is a document the revenue authority is entitled to ignore in favour of the conduct it observes.
The governance discipline, then, is keeping the paper and the practice in step. A limited-risk distributor whose agreement caps its downside but whose parent never actually absorbs the losses; a captive contracted as a routine service provider that in fact develops and decides on the group’s core IP — in each case the mismatch, not the margin, is the exposure. Designing the contract means writing it to the functions that will genuinely be performed, then governing the relationship so the conduct does not drift away from it.
Cross-border agreements carry a second layer the domestic ones do not: the same arrangement is read by two tax authorities with opposing incentives, and a clause drafted to satisfy one can hand the other an adjustment. The financing terms inside these agreements — intra-group loans, guarantees, and the thin-capitalisation limit on deductible interest — are designed in full at cash pooling, intra-group financing and thin capitalisation; this page governs how the operating agreements align function to return, not the financing terms themselves.
What the Model Sets in Motion.
A model designed function-first pays out across every position that depends on it downstream.
Profit entitlement
The functional characterisation fixes how much of the group’s profit each jurisdiction can claim, and therefore the scale of any future adjustment.
Documentation coherence
A clean functional design lets the benchmarking and the master file tell one consistent story rather than three that an officer can play against each other.
Audit durability
A model whose conduct matches its contracts withstands scrutiny on its own terms, instead of relying on the strength of the documentation alone.
Explore Related
- Intercompany Structuring & Transfer Pricing Governance → The broader practice this sits within — the full transfer-pricing and intercompany framework.
- Strategic Capital Repatriation & Profit Extraction Architecture → How profit leaves a well-aligned structure — dividend, buyback, royalty, and credit.
- Pre-Investment Restructuring & Cap Table Clean-Up → Realigning entities and ownership before a capital event or transaction.