TAX AND TRANSFER PRICING LESSONS FROM THE SOUTH: WHAT BUSINESSES MUST KEEP IN VIEW

INTRODUCTION

In recent times, compliance with transfer pricing (TP) rules and the arm’s length principle continues to take center stage in the decision making of multinational entities (MNEs). In Africa, an increased emphasis on compliance with the arm’s length principle is becoming increasingly important in light of the renewed enforcement posture of tax authorities and high penalty threshold established in various TP Regulations. In view of this, TP disputes continue to spring up across the continent. While many of these disputes are resolved at the audit stage, prior to litigation, some of these disputes are determined at the appellate levels in the relevant jurisdiction, presenting a learning opportunity for taxpayers and tax authorities.

Following the recent decision of the Supreme Court of Zambia in Zambia Revenue Authority v. Nestle Zambia Limited (the Nestle Zambia case), significant lessons worth noting arise for taxpayers with tax and transfer pricing compliance obligations. The case highlights essential aspects of transfer pricing especially with respect to the taxpayer’s responsibility of proof when dissatisfied with the tax authority’s independent assessments, and what may be considered an acceptable benchmark study, thereby providing important insights for Nigerian businesses and companies. In this article, we highlight some of the key lessons and takeaways from the case, applicable to Nigerian taxpayers.

Summary of the Nestle Zambia Case

As a background, following a consistent declaration of a loss position by Nestle Zambia Limited (NZL), from its incorporation in 2010 as a distributor for Nestlé products in Zambia, the Zambian Revenue Authority (ZRA) initiated a transfer pricing audit on NZL. As part of the audit process, the ZRA requested documentation from NZL, including the Master File and Local File. However, NZL submitted only its Master File. The audit subsequently revealed that NZL was financed by its shareholders primarily through debt rather than equity and engaged in significant transactions with related entities, including those involving general administrative and support services, licensing and distribution agreements, and the supply of Nestlé products. ZRA subsequently issued an assessment, adjusting NZL’s income and subjecting the Company to tax amounting to approximately USD 583,386.13.

Being dissatisfied with the ZRA’s position, NZL filed an appeal at the Zambian Tax Appeal Tribunal, which determined, amongst others, that the assessment arising from the audit was invalid due to the ZRA apply inappropriate transfer pricing methods and using comparables from unsuitable jurisdictions. In its decision, the Tribunal also categorised NZL as a low-risk distributor and directed ZRA to reassess.

Dissatisfied with the decision of the Tribunal, both parties appealed to the Supreme Court. At the Supreme Court, the ZRA argued that the Tribunal had misinterpreted the law, overlooking NZL’s obligation to demonstrate that its transactions were conducted at arm’s length. It emphasized that the taxpayer has an obligation to disprove an assessment and maintain sufficient documentation. On its part, NZL submitted that it was a fully – fledged distributor and that the comparables selected were unsuitable.

Allowing the appeal in favour of ZRA, the Supreme Court reiterated that the onus is on the taxpayer to provide evidence once an assessment has been made. The Court also noted, amongst others, that as a result of the fact that the greater risks and strategic functions rests with other related parties, NZL’s classification by the ZRA as a low-risk distributor was supported by evidence. It also held that using comparables from other jurisdictions does not automatically invalidates a benchmarking study. However, it may be justified where reliable local data was unavailable.

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