Once your US startup has a foreign subsidiary, the two companies need written agreements that say what each does for the other, who owns the IP, and how money moves between them, priced as if they were unrelated businesses. For most venture-backed startups, the core document is an intercompany services agreement under which the subsidiary does development or support work for the US parent at its cost plus a markup, and assigns all the IP it creates to the parent. Sign it before the subsidiary starts working, and have tax advisors in both countries set the pricing.
Key takeaways
- Related companies must deal with each other at arm’s length. Tax authorities in both countries can adjust your prices and add penalties if you can’t support them.
- The usual startup model is cost-plus: the parent owns the IP, raises the money and sells to customers, and pays the subsidiary its costs plus a markup.
- The IP chain has two links: each employee to the subsidiary under local law, then the subsidiary to the parent.
- A subsidiary that negotiates or signs contracts for the parent can create a taxable presence for the parent abroad.
- Investors and buyers review these agreements in diligence. Missing or backdated agreements are a common finding.
Why does a subsidiary need agreements with its own parent?
The parent and the subsidiary are separate legal entities, and keeping them separate is the point. Separate books, decisions and contracts help keep one company’s liabilities from reaching the other, and they let each country tax only the profit that belongs there.
That second point drives most of the work. Under US transfer pricing rules (Section 482 of the Internal Revenue Code) and the similar rules of most other countries, which generally follow OECD guidelines, transactions between related companies must be priced as if the companies were unrelated. If your subsidiary does valuable work and earns nothing, its country can say it should have earned more and tax the difference. If it earns too much, the IRS can say the opposite. Without a written agreement, each tax authority gets to describe the relationship for you.
Agreements also support the practical side. Banks in some countries want a contract behind every cross-border payment, auditors want one behind every intercompany balance, and acquirers want to see that everything the subsidiary’s engineers built belongs to the company they’re buying.
Which agreements does a startup typically need?
| Agreement | What it covers | When you need it |
| Intercompany services (R&D or support) agreement | The subsidiary develops technology or provides support for the parent, is paid cost plus a markup, and assigns all resulting IP to the parent | Almost always, from the subsidiary’s first hire |
| License agreement | The parent lets the subsidiary use its technology, software and brand to do its work or serve local customers | When the subsidiary uses parent IP beyond what the services agreement covers |
| Distribution or reseller agreement | The subsidiary sells the parent’s product to local customers and keeps a return for its sales role | When the subsidiary contracts with customers itself |
| Intercompany loan or funding agreement | How the parent funds the subsidiary beyond service fees, with interest at a market rate | When the parent advances money the subsidiary will repay |
| Administrative services agreement | The parent provides finance, HR, legal or other support to the subsidiary | When the parent’s team does real work for the subsidiary |
| Data transfer agreement | Personal data shared between the companies, such as employee or customer data | When personal data crosses borders, especially out of Europe |
| Equity recharge agreement | The subsidiary reimburses the parent for stock options granted to its employees | Depends on local tax rules; ask your advisors |
| Cost sharing arrangement | The two companies split development costs and each owns IP rights for its own territory | Rarely right for an early-stage company |
How does the cost-plus model work?
The subsidiary tracks its costs (salaries, benefits, payroll taxes, rent, equipment and other operating expenses), adds a markup, and invoices the parent, usually monthly or quarterly, with a true-up after year end. The markup comes from a transfer pricing analysis that looks at what comparable independent service providers earn. Advisors usually prepare a transfer pricing study for this, and many countries require local documentation of it. US rules allow certain routine support services to be charged at cost with no markup, but the subsidiary’s country may still expect one.
The money has to actually move. An agreement that says the parent pays monthly, followed by two years of unpaid intercompany balances, undermines the arrangement and can cause problems of its own under local tax and currency rules. Your advisors should also check withholding taxes, tax treaty relief, and VAT or GST on the cross-border service fees.
Example (illustrative only). A Delaware startup’s subsidiary employs eight engineers. Its total annual costs are $1,000,000, and its transfer pricing study supports a 10% markup, so it invoices the parent $1,100,000 for the year. The subsidiary reports $100,000 of profit and pays local tax on it. The parent owns everything the engineers build. On the US side, because the work is research performed outside the United States, the parent generally has to deduct the $1,100,000 over 15 years rather than in the year it’s paid, starting with about $36,667 in the first year under the mid-year convention. Domestic research costs can again be deducted when paid under the 2025 tax law changes, but foreign research costs can’t. Ask your tax advisor to model where you hire before you commit.
How do we make sure the parent owns the IP?
Through two links in the chain, both in writing.
Employee to subsidiary. Each employee’s local contract needs an IP assignment that works under local law. Don’t assume US rules travel. Many countries don’t recognize work made for hire the way the US does, some give authors moral rights that can’t be fully waived, and some require extra pay for employee inventions. Local counsel should review the template.
Subsidiary to parent. The intercompany services agreement should assign to the parent all IP the subsidiary creates, using present-tense language (“hereby assigns”), with a promise to sign whatever is needed later and a license back so the subsidiary can keep doing its work. If the subsidiary owns valuable IP before the agreement is signed, moving it to the parent later can be a taxable transfer abroad at full value, which is the best reason to sign on day one.
The same logic applies to contractors the subsidiary hires and to any IP the founders created before the parent existed. See Who Owns Startup IP? and CIIAA.
What is permanent establishment risk?
If the subsidiary’s people habitually negotiate and conclude contracts on behalf of the parent, the foreign country can treat the parent itself as doing business there through a “permanent establishment” and tax part of the parent’s profits. That’s the risk when a subsidiary set up to do engineering quietly becomes the parent’s local sales team. The agreements should describe what the subsidiary does, such as research or sales support without authority to bind the parent, and the facts have to match. If the subsidiary needs to sell, consider making it a distributor that contracts with customers in its own name.
What US filings come with a foreign subsidiary?
A US parent of a foreign corporation generally files Form 5471 with its tax return every year. The penalty for missing it starts at $10,000 per form per year, and the IRS’s time to audit the whole return can stay open until the form is filed. The parent may also have to report the subsidiary’s foreign bank accounts, and under the US rules for controlled foreign corporations, some of the subsidiary’s income may be taxed to the parent before any cash comes home.
To avoid US transfer pricing penalties of 20% or 40% of any resulting underpayment, you need documentation of a reasonable pricing method in place when you file your return, and you must produce it within 30 days if the IRS asks. Your subsidiary’s country will have its own rules.
When should we put the agreements in place?
Before the subsidiary hires anyone, and ideally when you form it. Use this checklist:
- Sign the intercompany services agreement, with an effective date no later than the subsidiary’s first day of operations.
- Get local employment contracts with IP assignments reviewed by local counsel.
- Commission a transfer pricing analysis and set the markup.
- Open the subsidiary’s bank account and start regular invoicing and payment.
- Decide how employees of the subsidiary will get equity (usually NSOs granted by the parent) and whether a recharge agreement makes sense.
- Calendar Form 5471 and local annual filings.
- Review the arrangement each year, and whenever the subsidiary’s role changes.
If the subsidiary is already operating without agreements, paper the relationship now, describe the existing arrangement accurately, and let your advisors decide whether the agreement should cover the past. Never backdate a signature.
For related topics, see NSO vs ISO, GDPR Basics, Startup Licensing Agreement and Startup Due Diligence.
If you’re setting up a foreign subsidiary, contact us and we’ll draft the intercompany agreements alongside your tax advisors.
