Intercompany transactions take place within a group. For the best possible transparency, it makes sense to record these transactions separately. Here we show you what types of intercompany transactions there are and what the advantages are of recording them as such in accounting.
Intercompany transactions: Meaning
Intercompany transactions are financial transactions between related companies, for example between a group and a subsidiary or between two subsidiaries of a group.
Intercompany transactions are recorded separately to distinguish them from external transactions and to avoid them being recorded twice. This enables the group to accurately value company-wide assets and maintain an overview.
Intercompany transactions accounting - How does it work?
The intercompany transactions are recorded by the participating companies and reported to the group. This is where all transactions come together in accounting, so that a complete overview of all group-wide transactions can be created.
Intercompany transactions cannot be recognised as a profit or loss and must therefore be deferred from other transactions. However, intercompany transactions can affect the financial position of the group. By recording the transactions separately, the accounting department can assess which of them are positive or negative.
Intercompany transaction types
Intercompany transactions can be divided into three different categories: Downstream transactions: This is where the flow of funds from the group to one of its subsidiaries takes place.
- Upstream transactions: The flow of funds takes place from the subsidiary to the Group
- Lateral transactions: The cash flow takes place between two subsidiaries of the group
Intercompany transaction examples
A UK group has several subsidiaries. The subsidiaries pay annual management fees to the group, which corresponds to an upstream transaction.
The Group grants loans to its subsidiaries at more favourable conditions than a bank, so that the companies receive liquid funds for the expansion of their operations more quickly and without bureaucracy. These are downstream transactions.
Two of the subsidiaries regularly purchase goods from each other. When company A purchases certain goods from company B, there is a flow of money from A to B. This is a lateral transaction. It is a lateral transaction.
All these transactions have an impact on the financial situation of the companies involved, but there is no profit or loss for the group. This has an impact on the balance sheet as well as on the tax return, which is why these transactions must be recorded separately.
How to handle intercompany transaction
The recording of intercompany transactions does not only concern international groups, but can also affect companies that have several subsidiaries in the same country. In any case, intercompany transactions must be recorded as such and their impact on the tax burden of the group must be verified.
The handling of intercompany transactions becomes more complex when a group has subsidiaries in different countries where different tax laws apply. In this case, the accounting staff must be familiar with the respective tax regulations in the respective countries so that they can correctly evaluate the intercompany transactions and prepare an error-free tax balance sheet.
Benefits of accounting of intercompany transactions
Consolidation is easier for the group if it records intercompany transactions separately. In this way, the financial situation can be presented accurately, which leads to more transparency.
In the event of disputes, the documentation of intercompany transactions can also help to resolve or clarify them because the cash flows have been recorded and can be attributed to a consideration.