May 1, 2018
With the current review of the Nigeria Transfer Pricing (TP) Regulations (the Regulations) by the Federal Inland Revenue Service (FIRS) after over five years of its introduction, it is imperative that we critically review the contending issues pertaining to the current Regulations. This will enable all stakeholders better assess whether the revised version, when gazetted, has addressed these contending issues.
This article reviews the following contending issues:
One of the key barometers used in this review and to be used in assessing the revised version is whether the Regulations has provided certainty in the treatment of related party transactions. This objective is very critical if the Government, specifically the FIRS, wants to achieve significant increase in voluntary compliance with the Regulations.
Next, we will review each of the contending issues relating to the current Regulations by identifying the source of ambiguity, indicating our expectation of how the FIRS may address each issue, and providing our insights as to whether the anticipated FIRS approach will suffice in mitigating or better still eliminating the ambiguities identified.
For a taxpayer to have a TP issue, two (2) conditions have to be satisfied: (i) it should have a “related” party; and (ii) there should be a “transaction(s)” between the related parties. Thus, the definition of a related party is critical to TP.
The latter condition refers to the scope of transactions that fall under the purview of TP. This is clearly listed in Regulation 3 and there is not much ambiguity associated with it.
However, the same cannot be said about the former, which is captured in Regulation 10 as “Connected Taxable Person” (CTP). Although the definition of CTP makes references to sections of Companies Income Tax Act (CITA), Personal Income Tax Act (PITA), Petroleum Profit Tax Act (PPTA) and Article 9 of the Organisation of Economic Cooperation and Development (OECD) Model Tax Convention, the effective definition of related party is captured in the definition of “associated enterprise” in the OECD TP Guidelines for Multinational Enterprises and Tax Administration (OECD Guidelines) and TP Regulations.
Regulation 19(c) defines associated enterprise as:
….a type of connected taxable person; two enterprises are considered to be associated where: (i) An enterprise participates directly or indirectly in the management, control or in the capital of the other; or (ii) The same person or persons participate directly or indirectly in the management, control or in the capital of both enterprises
Thus, three key factors are considered when determining whether parties are related: management, control and capital. Whereas it is relatively easy to establish the management factor, the same cannot be said for the other two factors; hence, the need for further guidance.
For capital, the obvious question is, what should be the minimum threshold of capital ownership for two entities to be deemed related? For example, Canada and France have a 50% minimum capital ownership threshold, Germany has 25% while South Africa has 20%. However, the Nigeria TP Regulations does not give any minimum threshold. Therefore, the FIRS could deem two enterprises to be related if one has less than 1% capital ownership in the other. Although this might sound ridiculous, that is the right interpretation of the current definition of related party in the Regulations.
The ambiguity of the definition takes a turn for the worst when you consider the third factor- control. In general, whether an entity exerts control over another will be based on facts and circumstances. However, a number of emerging economies have identified this issue and included specific provisions in their respective TP Regulations. For example, the India Regulations defines control as where an entity (i) purchases 90% or more of goods from another entity (ii) has dependency relating to intangible rights and (iii) has dependency relating to borrowings of at least 51 percent of a company’s total assets. Similarly, the Angola TP Regulations defines control between two or more entities where (i) the commercial relationship between the two entities represent 80% or more of another entity’s total volume of transactions and (ii) one entity finances more than 80% of the other entities credit portfolio.
Thus, to help mitigate the ambiguity in the definition of related party, we expect the revised Regulations to have similar specificities to help improve certainty of TP treatment.