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Part C: Fiscal Terms - 36. Fiscal Terms | 36. 12 Transfer Pricing

Transfer pricing is a business practice that consists of setting a price for the purchase of a good or service between two “related parties” (e.g., subsidiary companies that are owned or controlled by the same parent company). There are various kinds of transactions that may take place between related parties, including procurement of goods, financing (see the discussion on thin capitalization under the section on deductions), support services (administrative, technical, advisory), mineral sales (see section on royalties).

Transfer pricing becomes abusive, however, if companies buy from related parties at inflated prices or sell to related parties at below-market prices in order to reduce their taxable income in the host country and shift taxable income to a lower tax jurisdiction, thereby reducing their overall tax liability. African countries depend three times as much on tax income receipts (in terms of percentage of overall tax revenue to the government) as developed economies, making abusive transfer pricing, or, transfer mispricing, a particularly serious issue for African governments.

In order to address abuses, the tax laws will often require companies to price transactions with related parties based on the “arm’s length principle”, that is, the price at which the transaction would take place if the buying and selling entities were not related. If the relevant transaction does not conform to the arm’s length principle, transfer pricing rules give governments the legal right to adjust the price in the reported profits of the company. Countries should make sure that the mining sector falls under the generally applicable legislation on transfer pricing.

The OECD Transfer Pricing Guidelines propose five major transfer pricing methods to apply the arm’s length principle and are regarded as the international authority on common practices and methods in the area of transfer pricing with more than 100 countries referring to these guidelines in their domestic legislation. Some of the five methods are based on comparing similar transactions between non-affiliated companies. Others compare the profit margins made by each subsidiary on a transaction. In 2013 the United Nations released its own transfer pricing manual that attempts to adapt transfer pricing guidance to the circumstances, priorities, and administrative capacity of non-OECD countries.

To effectively implement transfer pricing rules, regulations should provide guidance on application of the arm’s length principle, including:

  • transfer pricing methodologies
  • guidance on comparability analysis (i.e., use of local and/or foreign comparable data)
  • transfer pricing documentation requirements and filing deadlines
  • how and when transfer pricing adjustments will be made by the revenue authority
  • how taxpayer disputes will be resolved
  • fines and penalties
  • (optionally) specific guidance on particular related party transactions

Further, it is important for governments to invest in improved capacity in regulating authorities to address transfer pricing issues, particularly through equipping revenue authorities with both transfer pricing expertise and technical knowledge of the mining sector and through improving inter-agency coordination and sharing of information.

It should be noted that to properly implement OECD transfer pricing methods, governments need access to data on comparable transactions, which can be challenging for African governments. In the absence of comparable data, data from very different contexts may be used and adjusted to the African context. However, this may be time-consuming, complicated and produce results that do not reflect the realities companies operating in Africa. Tax administrators may also lack the capacity to adapt the data effectively.

For this reason, governments may consider adopting alternative tax policy rules, which reduce reliance on comparable data or the arm’s length principle. Many of these methods are innovative and not widely tested. Further research on their practicality is required. They include:

  • Adopting the “sixth method” with respect to pricing of minerals; that is, using international reference prices to value the minerals. However, note that for minerals without an international reference price, independent third-party valuation of the minerals could be considered (see discussion on royalties above).
  • Separating tax treatment of hedging income. Hedging consists of locking in a future-selling price in order for both parties to the transaction to plan their commercial operations with predictability. For example, a company might agree to sell copper to a buyer at $3 per ton at some point in the future. Abuse may take place if companies set artificially low prices in their hedging contracts. Governments may combat this abuse by separating the gains and losses associated with hedging contracts and taxing that income separately from operating income so that hedging losses may not be used to offset profits made from unhedged sales. This strategy has been adopted in Zambia (see Zambia Revenue Authority Practice Note 1/2012).
  • Capping management fees between related parties. For example, in Guinea, management fees, royalties, and similar payments to parent companies are deductible if they are reasonable and, in total, do not exceed five percent of annual turnover, or 20 percent of general expenses.
  • Capping interest deductions on foreign related party loans (see discussion on thin capitalization under the section on deductions)
  • Capping the value of total related party transactions as a percentage of EBITDA (earnings before interest, tax, depreciation, and amortization). For example, Ecuador has recently passed a similar rule, limiting total expenses for royalties, technical, administrative, consulting and similar services paid by Ecuadorian taxpayers to related parties to 20 percent of taxable income plus the amount of the expenses.
  • Use of advance pricing agreements (APAs) and “safe harbours.” An APA is a contract, usually for multiple years, between a taxpayer and at least one revenue authority, which agrees in advance how the transfer price will be set for a number of transactions between related parties. The revenue authority will not make any transfer pricing adjustments during the period of the agreement. A safe harbour is an administrative tool that applies to a defined category of transactions. It protects taxpayers from transfer pricing audits as long as the price of their related party transactions follows the pricing formula defined in the safe harbour rules by the tax authority (see, for example, article 12 of Tanzania’s 2014 Income Tax (Transfer Pricing) Regulations).
  • Use of global formulary apportionment. Formulary apportionment attributes a multinational corporation’s total worldwide profit (or loss) to each tax jurisdiction where it has subsidiaries, based on factors such as the proportion of sales, assets or payroll in that jurisdiction. Such a method, however, would require international consensus and cooperation and therefore may be unachievable. However, regions or sub-regions in Africa might consider the practicality of such an approach, especially for transnational mining projects (e.g. Liberia/Guinea, Mozambique/Malawi, etc.)

In addition to the shorter examples given below, Tanzania’s 2014 Income Tax (Transfer Pricing) Regulations can provide detailed guidance for drafting of transfer pricing rules.

36.12. Example 1:

Article [_]. Transfer Pricing

(1) In a transaction between persons who are associates, the [Regulating Authority] may distribute, apportion, or allocate inclusions in income, deductions, credits, or personal reliefs between those persons as is necessary to reflect the chargeable income or tax payable which would have arisen for these persons if the transaction had been conducted at arm's length.

(2) Where, in the case of an associated resident entity of a non-resident person, the [Regulating Authority] is satisfied that some adjustment is warranted under [relevant subsection], or in the case of a permanent establishment of a non-resident person in [Country], the [Regulating Authority] is not satisfied with a return of income of that person made under [relevant section], the [Regulating Authority] may adjust the income of the permanent establishment or entity for a basis period so that it reflects an amount calculated:

(a) by reference to the total consolidated income of the non-resident person and all associates of that non-resident person, other than individuals but irrespective of residence;

(b) by taking into account the proportion which the turnover of the permanent establishment or entity bears to the total consolidated turnover of the non-resident person and those associates; and

(c) by taking into account any other relevant considerations in determining the proportion of the total consolidated income which should be attributed to the permanent establishment or entity.

(3) In making an adjustment under subsections (1) or (2), the [Regulating Authority] may recharacterise the source of income and the nature of any payment or loss as revenue, capital, or otherwise.


Drawn from Ghana’s Internal Revenue Act (2000), this provision establishes use of the arm’s length principle for pricing related party transactions and also provides details on how adjustments will be made if the regulating entity deems it necessary. In this case, the regulating entity may make use of the total consolidated income of the multi-national group that a license holder is a part of and attribute a portion of that total income to the license holder.

36.12. Example 2:

Article [_]. Interpretation

(1) In these Rules, unless the context otherwise requires—

“arm’s length price” means the price payable in a transaction between independent enterprises;

“comparable transactions” means transactions between which there are no material differences, or in which reasonably accurate adjustments can be made to eliminate material differences;

“controlled transaction” means a transaction which is monitored to ensure payment of an arm’s length price for goods or services;

“related enterprises” means one or more enterprises whereby—

(a)one of the enterprises participates directly or indirectly in the management, control or capital of the other; or

(b) a third person participates directly or indirectly in the management, control or, capital or both.

Art [_] Purpose of Rules

(1) The purposes of these Rules are—

(a) to provide guidelines to be applied by related enterprises, in determining the arm’s length prices of goods and services in transactions involving them; and

(b) to provide administrative regulations, including the types of records and documentation to be submitted to the [Regulating Authority] by a person involved in transfer pricing arrangements.

Article [_] Person to choose method

The taxpayer may choose a method to employ in determining the arm’s length price from among the methods set out in rule 7.

Article [_] Scope of guidelines

(1) The guidelines referred to in rule 3 shall apply to—

(a) transactions between related enterprises within a multinational company, where one enterprise is located in, and is subject to tax in, [Country], and the other is located outside [Country];

(b) transactions between a permanent establishment and its head office or other related branches, in which case the permanent establishment shall be treated as a distinct and separate enterprise from its head office and related branches.

Article [_] Transactions subject to Rules

The transactions subject to adjustment of prices under these Rules shall include—

(a) the sale or purchase of goods;

(b) the sale, purchase or lease of tangible assets;

(c) the transfer, purchase or use of intangible assets;

(d) the provision of services;

(e) the lending or borrowing of money; and

(f) any other transactions which may affect the profit or loss of the enterprise involved.

Article [_] Methods

(1) The methods referred to in rule 4 are the following—

(a) the comparable uncontrolled price (CUP) method, in which the transfer price in a controlled transaction is compared with the prices in an uncontrolled transaction and accurate adjustments made to eliminate material price differences;

(b) the resale price method, in which the transfer price of the produce is compared with the resale price at which the product is sold to an independent enterprise: Provided that in the application of this method the resale price shall be reduced by the resale price margin (the profit margin indicated by the reseller);

(c) the cost plus method, in which costs are assessed using the costs incurred by the supplier of a product in a controlled transaction, with a mark-up added to make an appropriate profit in light of the functions performed, and the assets used and risks assumed by the supplier;

(d) the profit split method, in which the profits earned in very closely interrelated controlled transactions are split among the related enterprises depending on the functions performed by each enterprise in relation to the transaction, and compared with a profit split among independent enterprises in a joint venture;

(e) the transactional net margin method, in which the net profit margin attained by a multinational enterprise in a controlled transaction is compared to the net profit margin that would have been earned in comparable transactions by an independent enterprise; and

(f) such other method as may be prescribed by the [regulating entity] from time to time, where in his opinion and in view of the nature of the transactions, the arm’s length price cannot be determined using any of the methods contained in these guidelines.

Article [_] Application of methods

(1) The methods set out in rule 7 shall be applied in determining the price payable for goods and services in transactions between related enterprises for the purposes of [relevant article] of the [Code][Act][Law].

(2) A person shall apply the method most appropriate for his enterprise, having regard to the nature of the transaction, or class of transaction, or class of related persons or function performed by such persons in relation to the transaction.

(3) The [Regulating Authority] may issue guidelines specifying conditions and procedures to guide the application of the methods set out above.

Article [_] Power of [Regulating Authority] to request for information

(1) The [Regulating Authority] may, where necessary, request a person to whom these Rules apply for information, including books of accounts and other documents relating to transactions where the transfer pricing is applied.

(2) The documents referred to in paragraph (1) shall include documents relating to—

(a) the selection of the transfer pricing method and the reasons for the selection;

(b) the application of the method, including the calculations made and price adjustment factors considered;

(c) the global organization structure of the enterprise;

(d) the details of the transaction under consideration;

(e) the assumptions, strategies, and policies applied in selecting the method; and

(f) such other background information as may be necessary regarding the transaction.

(3) The books of accounts and other documents shall be prepared in, or be translated into, the English language, at the time the transfer price is arrived at.

Article [_] Application of arm’s length pricing

(1) Where a person avers the application of arm’s length pricing, such person shall—

(a) develop an appropriate transfer pricing policy;

(b) determine the arm’s length price as prescribed under the guidelines provided under these Rules; and

(c) avail documentation to evidence their analysis upon request by the [Regulating Authority].

Article [_] Certain provisions of the [Code][Act][Law] to apply

The provisions of the [Code][Act][Law] relating to fraud, failure to furnish returns and underpayment of tax shall apply with respect to transfer pricing.

Article [_] Unpaid tax to be deemed additional tax

Any tax due and unpaid in a transfer pricing arrangement shall be deemed to be additional tax for purposes of [relevant sections] of the [Code][Act][Law].


Drawn from Kenya’s Income Tax (Transfer Pricing) Rules (2006), these provisions provide an example of the kinds of issues that should be included in regulations in order to properly implement the arm’s length principle, including definitions of “arm’s length” and “related enterprises”, the scope of the rules (the types of transactions covered), methods for calculating the arm’s length price, documentation and recordkeeping.

The rules use the OECD transfer pricing methods, which do rely upon availability of comparable data.