A group of companies, partnerships, joint-ventures, affiliated companies may conduct transactions amongst themselves. Many countries, like Nigeria, have adopted transfer pricing mechanisms to ensure such transactions are done at arm’s length. Companies need to pay more attention to such transactions to avoid falling short of transfer pricing requirements and being taxed higher than they planned. 

Nigeria’s Transfer Pricing Regulations

The Transfer Pricing Regulations No 1, 2012 “the Regulation” in Regulation 3 lists the transactions the regulation shall apply to include: (a) sale and purchase of goods and services, (b) lease of tangible assets, transfer, (c)purchase, license and use of intangible assets, (d) provision of services, (e) lending or borrowing of money; (f) Manufacturing arrangements, any transaction that might affect the profit and loss, or (g) any other matter incidental to, connected with, or pertaining to transactions referred to (a) –(f) of the regulation.

The arm’s–length principle” of transfer pricing states that the amount charged by one related party to another for a given product must be the same as in a case where the parties were not related. The Regulation mandates a taxable person entering into any transaction which the Regulation applies to ensure that the taxable profits resulting from that transaction are consistent with the arm’s length principle. It also enables the Service (The Federal Inland Revenue Service) to adjust the sums declared where it considers the conditions imposed by the taxable person in the controlled transaction are not in compliance with the arm’s length principle- Regulation 4.

To determine that a transaction is consistent with the Arm’s length principle the Regulations has set down different transfer pricing methods for use in Regulation 5.

The Regulation states that before any price is applied the strength and weakness of the Transfer pricing Method, the appropriateness of making use of the method, the availability of reliable information needed to apply it and the degree of comparability should be considered- Regulation 5.

The Regulation by Regulation 9(1) also states that in order to determine whether the pricing & other conditions of a related party transaction are consistent with the arm’s length principle, the taxpayer shall ensure that the transaction is comparable with a similar or identical transaction.

Decided Cases

The case of Prime Plastichem Nigeria Limited “PPNL” v. Firs Appeal no. tat/lz/cit/015/2017 the Tax Appeal Tribunal “the Tribunal” held the Appellant liable to of ₦1.74 billion in tax liability for its 2013 and 2014 years of assessment.

PPNL adopted the Comparable Uncontrolled Price (CUP) Transfer Pricing Method in determining whether the pricing of its transactions with a related company, Vinmar Overseas Limited (VOL) were at arm’s length in its 2013 returns. The CUP method compares the price charged for transactions or services transferred in the transaction between related parties with a similar transaction between unrelated parties. Any difference between the two prices may show that the conditions for the transaction with the related company are not at arm’s length and the price in the transaction between unrelated parties may be substituted for the price in the related party transaction.

However, in 2014, due to lack of comparable data to enable the Appellant to adopt the CUP method, the Appellant adopted the Transactional Net Margin Method (TNMM). The TNMM examines the net profit relative to incidences like costs, sales, assets that a taxpayer realizes from a related party. Profit arising from a related party transaction can be relied upon to show that the related transaction was not at arm’s length.

In 2016, the FIRS reviewed PPNL’s Transfer Pricing documentation and disregarded the CUP method applied in 2013. The FIRS applied TNMM to both 2013 and 2014 transactions and issued an assessment of ₦1.74 billion. The FIRS argued that PPNL did not provide it with sufficient documentation to enable the use of the CUP method. The FIRS used the gross profit earned on the related transactions as its base for calculating the profit earned instead of net profit, thus disregarding the alleged costs incurred.

The PPNL appealed to the Tribunal and on 19 February 2020, the Tribunal upheld the FIRS’ assessment. The Tribunal reached this decision by stating that the FIRS appropriately applied the appropriate TNMM in assessing the Appellants’ transactions in the 2 relevant tax years and that such assessment was in line with best practices.

Lessons To Learn

• Transactions between related companies would be scrutinized more to ensure tax is paid.
• Keep proper documents relating to related party transactions.
• Conduct research as to market prices on similar transactions between unrelated parties.
• Ensure all costs incurred are incurred in similar transactions between unrelated parties.

For more on this, kindly send an email to amarachi@tonbofa.com