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SARS Targets Transfer Pricing In Multinationals

by Lorys Charalambous,, Cyprus

23 January 2002

The South African Revenue Service (SARS) has begun to target illegitimate transfer pricing by international companies which use overseas subsidiaries to over-invoice costs to the home holding company, thus transferring profit out of the country.

SARS has asked a number of multinational companies to complete questionnaires on their intra-group transactions which requested cross-border trading information going back five years. Although ostensibly a questionnaire on interest-free loans, there are questions about other intra-group transactions that involved transfer pricing. The intention of the questionnaire is to develop a database of audit targets.

SARS spokesman Fani Zulu says the questionnaires were sent out to obtain information not included in a company's income tax returns, like Reserve Bank authorisation, transaction dates, agreements, and offshore structure organograms. He says that the questionnaire standardises the requests for information and facilitates a standard set of replies, arguments and comparable data. Zulu says the information is used to evaluate the risk of harmful transfer pricing in a particular taxpayer's case, and to determine whether further investigation is necessary to make transfer pricing adjustments.

Legislation on transfer pricing was introduced in 1995 when exchange control regulations were relaxed. The law gives the SARS the power to adjust the value of offshore transactions where companies are related to one another and have entered into an international transaction.

The tax commissioner, Pravin Gordhan, will adjust the value of a transaction to what he deems its "arms-length" value should be. This means that the transaction should have the financial characteristics of a transaction between independent companies.

Since 1996 the corporate tax return document has required companies to make disclosures of transactions between related entities. In the latter part of 1999, the SARS released a practice note dealing with transfer pricing. The focus of the practice note was on the methodology of determining an arms-length price.

Ernst & Young tax partner David Clegg told Business Day that if companies fail to complete a transfer pricing review, then they are liable to the scrutiny of the SARS and to the possibility of paying unexpected taxes, penalties and secondary tax determined by the SARS.

Clegg says that it is not only transfer prices a company is already paying that may be adjusted "it may be prices that a company never even thought of charging for". He says if a foreign affiliate is using a local company's trade name for free, the local company might be at risk because the taxman might rule that the company should pay for using the trade name. He also warns companies to do their analyses before the Receiver does its own.

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