OECD Transfer Pricing Guidance On Documentation And It’s Adoption In Kenya

Finance Bill, 2022/23 Proposed Amendments on Transfer Pricing Documentation

The finance bill 2022 was received in the National Assembly on 12^th April 2022 for debate. The income tax amendments section 18C has been introduced to include notification to the commissioner by a multi-national enterprise (MNE) group on the following disclosures not later than the last day of reporting financial year of that group:

• Whether or not it is the ultimate parent entity of the group
• In case it is not the ultimate parent entity of the group, whether it or not it is a surrogate parent entity; or
• In case paragraphs (a) and (b) do not apply, the identity of the constituent entity which is the ultimate parent entity or surrogate parent entity and the tax residence of that constituent entity

The notification referred therein shall be made to the commissioner in such form as the commissioner may specify.

The Income Tax Act proposed amendment in the finance bill 2022/23 sets the framework for transfer pricing documentation for MNE group parent or subsidiary to be adopted and relevant clauses in relation to filing as stated below:

• Income Tax Act section 18D {Filing of country-by-country, Master File and Local File}
  • An ultimate parent entity or a constituent entity of a multinational enterprise group with a gross turnover of ninety-five billion shillings (KES 95B) (including extraordinary or investment income) that is resident in Kenya shall file a country-by-country report with the Commissioner of its financial activities in Kenya and for all other jurisdiction where the group has taxable presence not later than twelve months after the last day of the reporting financial year of the group.
  • The master file and the local file shall be filed not later than six months after the last day of the reporting financial year of the multinational enterprise group.
• The Income Tax Act section 18D {Transfer Pricing Documentation): The bill proposes the following documentation reports to be submitted:
  • Country-by-Country Report: The bill proposes the report shall consist of;
    • the information relating to the identity of each constituent entity, its jurisdiction of tax residence, if different, jurisdiction where such entity is organized, and the nature of the main business activity or activities of such entity.
    • the group’s aggregate information including information relating to the amount of revenue, profit or loss before income tax, income tax paid, income tax accrued, stated capital, accumulated earnings, number of employees and tangible assets other than cash or cash equivalents with regard to each jurisdiction where the group has taxable presence; and any other information as maybe required by the Commissioner.
  • A Master file Report: The bill proposes the report to contain the following information:
    • A detailed overview of the group
    • The group’s growth engines
    • A description of the supply chain of the key product and services
    • The group’s research and development policy
    • A description of each constituent entity’s contribution to the value creation
    • Information about intangibles assets and the group intercompany agreements associated with them
    • Information on any transfer of intangible assets within the group during the tax period including the identity of the constituent entities involved, the countries in which those intangible assets are registered and the consideration paid as part of the transfer.
    • Information about financing activities of the group
    • The consolidated financial statements of the group
    • Tax rulings if any made in respect of the group and any other information that the commissioner may require.
  • Local File Report: The bill proposes the report to contain the following information:
    • Details and information on the resident constituent entity’s activities within the multinational enterprise group
    • Management structure of the resident constituent entity
    • Business strategies including structuring description of the material-controlled transactions, the resident constituent entity’s business and competitive environment
    • The international transactions and amounts paid to the resident constituent entity or received by the entity and any other information that the commissioner may require.

The finance bill  2022/23 in relation to the transfer pricing documentation also proposes that:

• A resident surrogate parent entity of a multinational enterprise group shall not be required to file a country-by-country report with the Commissioner with respect to the reporting financial year of the group, if:
  • the ultimate parent entity is obligated to file a country-by-country report in its jurisdiction of tax residence
  • the jurisdiction in which the ultimate parent entity is resident for tax purposes has an international agreement and a competent authority agreement in force; and the Commissioner has not notified the resident constituent entity in Kenya of a systemic failure, if any.
• A resident constituent entity of a multinational enterprise group shall not be required to file a country-by-country report with the Commissioner with respect to the reporting financial year of the group, if;
  • a non-resident surrogate parent entity files the country-by-country report on the group with the competent authority of the tax jurisdiction of the entity
  • the jurisdiction in which the non-resident surrogate parent entity is resident requires the filing of country-by-country reports
  • the competent authority of the jurisdiction in which the non-resident surrogate parent entity is resident and Kenya have a competent authority agreement for the exchange of information
  • the competent authority in the jurisdiction where the non-resident surrogate parent is resident has not notified Kenya of a systemic failure; or the non-resident parent entity has notified the competent authority in the jurisdiction of its tax residence that the entity is the designated surrogate parent entity of the group.

Proposed Finance Bill 2022/23 Amendments on Transfer Pricing Documentation Insights

As per OECD 2022 guideline, paragraph 5.25, country-by-country information report should be exercised with caution in that the information should not be used as a substitute for a detailed transfer pricing analysis of individual transactions and prices based on a fully functional analysis and a full comparability analysis. Their argument is that the information in the country-by-country report on its own does not constitute conclusive evidence and that it should not be used by tax administrations to propose transfer pricing adjustments based on a global formulary apportionment.

The key to a sustainable international consensus on taxation is to ensure that the stakeholders appreciate the strength of the arm’s length principle and feel comfortable with the application and results. Any paradigm shift to formulary apportionment (county by country data) would dissolve the link between economic activity and taxation on the basis of individual business relationships, spawning an unforeseeable extent of conflicts between taxpayers and tax authorities as well as among different tax authorities.

In conclusion, the adoption of OECD 2022, guidelines on Transfer Pricing Documentation into Kenya Finance bill 2022/23 is a great step towards supporting the arm’s length principle to ensure tax avoidance is minimized through transparency and accountability. Tax avoidance has seen countries like Zambia lose USD 3 billion and in Europe the loss is roughly estimated to be USD 1.2 trillion. In addition, developing countries are estimated to have loses of USD 1 trillion a year in illicit financial flows through corporate tax avoidance. This is being addressed in the proposed amendments on MNE using country-by-country report to bring clarity and seal loopholes. Our hope is the country-by-country report doesn’t become the sole basis for tax administration as it would prolong litigations with MNE and tax authorities in different jurisdictions; and undermine the economic assessment of MNE subsidiaries.

 

Author: Eddie Opiyo