June 30, 2022 would mark the fourth anniversary of filing transfer pricing (TP) returns under the revised Transfer Pricing (TP) Regulations, 2018 for taxpayers with a December 31 year end. Since the release of the new TP Regulations, there has been a general increase in the compliance level.
By the end of December 2018, a sizeable number of non-compliant taxpayers had regularized their records with the tax authorities to avoid being penalized. By the first quarter of 2019, the Federal Inland Revenue Service (FIRS or Service) commenced the issuance of penalty assessments on companies that, despite the exorbitant administrative penalties imposed by the 2018 Regulations, did not comply.
The filing season generally involves a flurry of activity and TP is one of the key areas that requires keen attention. Bearing this in mind, taxpayers need to be aware of the actions to help them navigate the process seamlessly:
- Registration for e-filing
The FIRS have the mandate to digitize tax administration in Nigeria. In line with this objective, the FIRS issued a communique to the general public requiring all taxpayers to file their Companies Income Tax (CIT), Value Added Tax (VAT) and TP returns exclusively on the updated FIRS e-filing platforms. The FIRS have indicated that hard copies of the TP returns will no longer be accepted. Consequently, taxpayers that are yet to register need to commence registration process immediately, and escalate any difficulties experienced with the platform to the FIRS TP division to ensure a hitch free filing experience.
It should however be noted that FIRS may lack the power to penalize companies that opt to file hard copies of the returns or through other means such as by email. This is because the Regulations only require companies to submit the returns without specifying the modality for such submission. Thus, if a company can demonstrate that it complies with the requirement of the law by validly submitting it through other modalities other than the e-platform, it has fulfilled the requirements of the law and FIRS may not have the legal basis to penalize such company.
- Effecting TP adjustments in the Financial Statements and/or CIT returns before filing
More recently, there has been an astronomical increase in the number of taxpayers undergoing TP audits. The sharp increase is not surprising considering the need to shore up the Federal Government's fiscal revenue.
The first decided TP case in which the tax tribunal decided in favour of the FIRS, resulted in a tax liability of N 1.7 billion for the taxpayer.
The landmark ruling highlights the need for taxpayers to ensure that their related party transactions are in line with the arm's length principle before completing and filing the CIT returns.
Below are measures which taxpayers should look at before completing the CIT filing:
- Does the company have reliable support for the pricing of controlled transactions? Are the benchmarking studies and TP documentation up-to-date and relevant?
- Are there any exceptional costs appearing in the financial statements, and how should these costs be treated?
- Are there legal agreements in place that cover the related party transactions, and have they been signed on time?
- Have the tax team ensured that the expected profit outcomes correspond to both what the policy recommends and the benchmarking studies? Should the company be considering TP adjustments in the tax returns?
Although not exhaustive, these steps would minimise the risk of a TP adjustments in the future.
- Accurately and timeously completing the TP returns
Regulations 13(3) and 14 (3) provides that the declaration/disclosure shall be made and submitted to the Service not later than six months after the end of each accounting year or eighteen months after the date of incorporation, whichever is earlier.
Failure to meet the deadline for filing the TP returns attracts a minimum of N10 million. Also, erroneous disclosure of transactions attracts administrative penalty of N10 million or one percent of the value of controlled transaction incorrectly disclosed, whichever is higher.
A year-end reconciliation before the financial statements (FS) are signed-off would help prevent contradicting disclosures. On some TP health check engagements, there have been situations where members of the same group report different values against the same transactions in the FS and subsequently on their TP disclosure forms.
Large groups and conglomerates with high volume of transactions across related entities may consider investing in technology to ensure correct application of the pricing policies adopted, and at the same time, ensure consistent reporting of transactions in the financial statements and other records of all entities in the group.
- Preparing the TP Documentation
Often, the TP local file is the last compliance requirement to be attended to. Based on reasonable expectation from the FIRS, the TP documentation should be maintained contemporaneously. Taxpayers generally have 21 days to submit the TP local file upon request by the FIRS, or 90 days for companies with total related party transactions value less than N300 million.
The penalty for failure to submit the TP documentation within the stipulated time is the higher of N10 million or one percent of the total value of controlled transactions; and N10,000 for every day in which the default continues.
As the first form of defence for the pricing of related party transactions during TP audits, the importance of putting together a robust TP documentation cannot be overemphasized. The self-assessment check list noted in the paragraph on ‘effecting TP adjustments in the CIT returns before filing' flows from the TP documentation.
Taxpayer also needs to take a position on their higher risk transactions, such as royalty payments for intangible transactions, procurement arrangements etc. and consider making provisions in the FS, where necessary.
Looking ahead
Tax management teams should be forward-looking in terms of solutions. There is need for the tax team to reflect on current and future challenges to avoid negative surprises. Companies should think about any potential changes in its business model in the coming year, and the new related party transactions that may be conducted.
There may also be a need for a total overhaul of the existing TP policy document, particularly when the profit outcomes of the group make no sense from a broader TP and commercial perspective.
With the impact of the COVID-19 pandemic on government finances globally, it is expected that tax authorities will be more aggressive than ever. As such, there is never a better time for multinational enterprise groups to implement a robust TP process going forward, report correct results across all jurisdictions and pay their fair share of taxes.
Finally, taxpayers need to maintain documents such as agreements, invoices, reports, correspondence etc. relating to the controlled transactions conducted each year as support during audit engagement.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
