Cross border transfer pricing legislation has been around since 1995, but few taxpayers pay sufficient attention to it.
"Transfer pricing" refers to the price at which goods and services are transferred between two parties (this includes interest on loans).
The legislation regulates the price charged for goods and services between connected parties, one of whom is ordinarily resident in South Africa, and the other outside South Africa.
The legislation aims to prevent the South African Revenue Service (Sars) being prejudiced by the parties trying to move taxable profits into another country with a lower tax rate.
Clearly, the law does not apply if you do not send or receive goods or services to or from abroad in the course of your business, for example if you are merely receiving a gift from a relative overseas.
But if in terms of normal tax rules you would be required to include an amount of income in, or would be allowed to deduct an amount of expenditure from, your taxable income, and the transaction is with an offshore connected party, you must be able to show that the price you are charging or being charged can be compared to the amount that would have been charged in an arm's length transaction.
If Sars thinks that the price is not comparable to a third party transaction, you may find yourself with a bill for the income tax on the difference between the actual amount of the transaction and the amount at which Sars believes it should have been.
You may also be liable for a penalty (up to twice the amount of tax charged) and interest at 16 percent from when the tax was payable.
In addition, if the transactions are between your company and an offshore shareholder, their relative or a trust of which the shareholder or relative is a beneficiary, you may also be liable for secondary tax on companies (STC), plus penalties and interest. This will be levied at 12,5 percent on the difference between the actual amount and the amount that Sars considers to be reasonable.
So how do you avoid trouble in this arena? Firstly, if you have established that you do have international transactions with connected parties, you need to review and document your transfer pricing policies. I will discuss this in more detail in next week's article.
It is important to be aware of the concept of "financial assistance". If, for example, an overseas company is an investor in your company or is entitled to participate in 25 percent or more of its dividends, profits or capital or exercise 25 percent or more of the votes and Sars is of the opinion that the total of all financial assistance (loan provided by the overseas investor), is excessive in relation to your company's fixed capital, it may disallow the interest charged by the offshore investor on the amount regarded as excessive.
If your offshore investor has provided funds to your company in the form of share capital and loans, and the loans exceed three times the amount of the capital invested, the interest on the part of the loans exceeding three times the capital will not be allowed as a tax deduction.