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Understanding Transactional Net Margin Method (TNMM)
20 Oct 2025
TNMM is a widely accepted transfer pricing tool used globally and locally to assess whether related-party transactions are conducted at arm’s length. Both the Organisation for Economic Co-operation and Development (OECD) and the Bureau of Internal Revenue (BIR) recognise TNMM as a reliable method, particularly when gross margin data is unavailable.
Applicability of TNMM
TNMM is most appropriate in situations where detailed transactional data or gross margin information is unavailable, and where the tested party performs routine functions without owning unique intangibles or assuming significant risks. It is commonly applied to entities engaged in distribution, contract manufacturing, or service provision, where net profit indicators provide a reliable measure of arm’s length outcomes.
Key comparability factors in TNMM
To ensure reliable results, TNMM requires a thorough comparability analysis, which includes:
- Functions performed: Similarity in operational roles (e.g., manufacturing, distribution);
- Risks assumed: Comparable exposure to market, credit, or operational risks;
- Assets used: Similar capital intensity or use of intangibles;
- Economic conditions: Comparable markets and industry sectors; and,
- Accounting consistency: Uniform financial reporting standards to ensure valid comparisons.
Advantages of using TNMM
- Flexibility: Effective when direct comparables for prices or gross margins are unavailable and less sensitive to product-level differences and more focused on overall profitability;
- Simplicity: Requires analysis of one the tested party, which is usually the less complex entity; and,
- Compliance: Recognised by both OECD and BIR, aligning with international and local standards.
Limitations and challenges
- Sensitivity to functional differences: Even minor variations in functions, assets, or risks can distort comparability and affect reliability;
- Dependence on accounting consistency: Differences in accounting treatment or financial reporting standards may lead to inaccurate results; and,
- Impact of market conditions: Economic fluctuations and industry-specific factors can significantly influence profitability benchmarks.
(Chapter II: Transfer Pricing Methods, OECD Transfer Pricing Guidelines, January 2022 and Revenue Regulations No. 2-2013)
Net profit indicators under TNMM are generally less affected by product-level differences compared to gross margins. However, achieving reliable comparability still requires strong alignment in business models and consistent market conditions.
Organisations should regularly review their transfer pricing policies and maintain updated documentation to reflect changes in business models or economic conditions. Applying TNMM correctly not only ensures compliance with OECD and BIR standards but also strengthens the defensibility of transfer pricing positions during audits and reviews.
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