Advance Pricing Arrangements: A key transfer pricing risk management tool

In the recent years, the Tanzania Revenue Authority (TRA) has dedicated increased resources in the examination of the related party transactions and comprehensive transfer pricing (TP) audits have become the new norm. Recent experience, however, shows that very few businesses succeed to fully defend the arm’s length nature of their transactions, even for the common transactions such as intragroup services, intellectual property (royalties) and intragroup financing transactions. This is partly because transfer pricing is more of an art than a hard science.

It should be stated from the outset that transfer pricing audits are generally time and resource intensive. The information requests from the revenue authority are endless, and businesses have raised their concerns regarding the massive adjustments and the rather punitive TP penalties resulting from such audits.

Whilst businesses benefit immensely from the economies of scale and efficiencies realized from intragroup transactions, these assessments have made businesses reconsider their current arrangements with related parties. To alleviate the uncertainties and complexities surrounding the arm’s length pricing of intercompany transactions, our TP legislation i.e. Tax Administration (Transfer Pricing) Regulations, 2018 provides room for taxpayers with related party transactions to apply to enter an Advance Pricing Arrangement (APA) with the Commissioner General of the TRA.

An APA is an agreement between the TRA and the taxpayer, determining (in advance) the transfer pricing methodology to be applied to the taxpayer’s future intercompany transactions. The agreed TP methodology is to be applied for a fixed period (generally up to five years) and subject to the fulfillment of certain terms and conditions (known as critical assumptions). APAs can be concluded directly with the taxpayer (i.e. unilateral APA), or with foreign tax authorities through a Mutual Agreement Procedure (MAP). Once an APA is executed, compliance with the APA provides protection against transfer pricing adjustments resulting from audits.

APAs provide taxpayers and tax authorities with a greater level of certainty by ensuring predictability in the treatment of intercompany transactions. Taxpayers can embark on large-scale intercompany transactions with confidence as the outcome of the taxpayer’s transactions are agreed upon in advance. Through this arrangement, taxpayers and the TRA have the opportunity to work cooperatively to resolve complex issues in a practical manner; consequently, providing a win-win situation for both parties. APAs also substantially reduce compliance costs for the taxpayer (i.e. interest and penalties arising from TP adjustments and the potential costs of dispute resolution).

From the TRA’s perspective, an APA reduces the cost of administration and avoids contentious and expensive transfer pricing audits. The TRA in fact, encourages eligible taxpayers to apply for an APA in order to facilitate the necessary discussions to resolve any uncertainties regarding transfer prices.

Despite many benefits of an APA, very few businesses have adopted this option. One of the underlying reasons being the time required to negotiate and conclude an APA. The TP regulations do not stipulate a specific time frame in which an APA is to be concluded. As such, securing an advance pricing agreement is a time-consuming process. The TRA has indicated that they endeavor to reach an agreement in a timely manner, however, the duration varies depending on the complexity of the transactions involved in each case, and the readiness of the taxpayer to provide the information required.

An application for an APA requires full disclosure of information, which can be challenging for businesses with dealings with foreign related parties as they are governed by different data protection laws. This may further delay the process due to several approvals that may be needed in order to retrieve such information. Further, regulation 13(12) of the TP Regulations require the Commissioner to treat the information shared with him in the course of negotiating the APA as confidential. However, there is no provision that emphasizes that data related to an APA cannot be used as a basis for audit. Therefore, if an APA is not reached, there is no guarantee that the data that has already been disclosed will not be used as the basis for the auditor's findings.

In light of the above, APAs can be an effective TP risk management tool as they avoid transfer pricing disputes with the TRA and can significantly reduce the costs of tax compliance. As comprehensive TP audits increase, businesses have room to collaborate with the revenue authority to agree on transfer prices that are consistent with the arm’s length principle and requirements of the law. Businesses with complex and risky TP transactions should take advantage of this option to avoid lengthy transfer pricing disputes with the TRA.  The TRA on the other hand, should approach APA applications with flexibility and openness to engage in discussions with taxpayers in order to reach practical solutions. 

Linda Lyimo is a Tax Consultant with Deloitte Consulting Limited. The views presented are her own and not necessarily those of Deloitte. She can be reached at lilyimo@delotte.co.tz