“Since 2001 we have seen an average GDP growth across the region in excess of 5%,” Karen Miller, Ernst & Young’s Africa sub-area transfer pricing leader said at the firm’s 2012 Africa Tax Conference last week. “That is significant when we look at what is happening in the rest of the world. We have also seen increased investment from multinationals coming into Africa, coming in through South Africa as the hub into the rest of Africa or directly into the African region.”
These positive developments have meant that African tax administrations are becoming more aware that effective transfer pricing rules are necessary to ensure that multinationals report and pay tax on the correct proportion of profits they make in Africa. Yet there are a number of issues surrounding the complexity of transfer pricing.
Transfer pricing is the price charged by one subsidiary of a multinational enterprise to another subsidiary of the same enterprise. A transfer price is defined simply by the OECD Glossary of Statistical Terms as “a price, adopted for book-keeping purposes, which is used to value transactions between affiliated enterprises integrated under the same management at artificially high or low levels in order to effect an unspecified income payment or capital transfer between those enterprises”.
In Africa, with its vast quantities of natural resources, this is a major concern among authorities who are concerned that multinational enterprises can adjust transfer prices on cross-border transactions to reduce taxable profits. For example, a subsidiary company in one country may decide to sell its goods to its subsidiary in another country for US$1m when it is actually worth $10m. By doing this, $9m is concealed from tax authorities.
Miller stated that the African Tax Administration Forum (ATAF) has identified transfer pricing as being a key potential loss of revenue for the African continent. To counteract this, African countries are beginning to follow the rest of the world with transfer pricing regulations and enforcements to protect revenue for growth on the continent.
Problems facing transfer pricing rules in Africa
While South Africa has had relatively mature transfer pricing rules for years, the rest of the continent is only recently showing progress in the matter. Kenya, Malawi and Uganda are making their way to the forefront with the recent introduction of their formal transfer pricing legislation, while legislation is in the pipeline in Ghana, Nigeria, Tanzania and Zimbabwe.
There are a number of issues facing tax authorities concerned with transfer pricing in African countries. “The biggest problem we have, and this is not just for South Africa but the whole African region … is that there is no local comparable data in South Africa,” said Miller. “We’ve had a lot of pushback from the revenues saying they’re not comfortable with the European benchmarking because they’re saying you cannot compare a growing, developing continent like Africa with Europe which is in a relatively stagnant stage of growing.”
Miller also pointed out that a key transfer pricing focus area for revenue authorities across the world is that there is a major shortage of transfer pricing skills and resources.
“In addition to that, the documentation burden is growing,” continued Miller. “A lot of [African] countries don’t actually have the statutory requirement for you to complete for transfer pricing documentation.” However, Miller added that more African countries are jumping on the bandwagon and acquiring documentation to be completed. In some cases, more mature African countries that have had transfer pricing rules for years still don’t have statutory documentation requirements, such as South Africa. On the other hand, countries just bringing in legislation, like Uganda’s transfer pricing regulations that only came into effect in July 2011, are implementing compulsory statutory requirements. There has also been a move towards advanced pricing agreements (APAs) programmes, something South Africa has not yet adopted.
Miller said that there is still a broad consensus in using the ‘arm’s length’ principle in African countries, a method used by OECD countries. This arm’s length principle states that the amount charged for a product or service by one subsidiary company to another must be the same as if the subsidiaries were not part of the same multinational corporation, in other words, the amount charged must be market related.
While there are challenges that will be faced by African countries, Miller stressed that reforming and adopting more efficient transfer pricing rules across the continent will ensure consistency with international norms; create an environment of reduced tax risk; and increase incidence of foreign direct investment.