With an increasing number of cross border transactions between related entities and the possibility of Multinational companies shifting profits from Lesotho to other countries (Parent companies’ countries), I believe Lesotho is losing a lot of money in the form of taxes due to intercompany transactions that are not at arms-length. Therefore, I believe Lesotho should adopt transfer pricing rules.
Besides, over 60 countries have adopted transfer pricing rules based on the framework published by the Organization for Economic Cooperation and Development (OECD) in OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations (OECD Guidelines).
What is Transfer Pricing?
A “Transfer Price” is the price at which one company buys and sells goods or services or shares resources with a related affiliate in its supply chain. Aggressive transfer prices may inflate profits in low-tax jurisdictions and depress profits in high-tax countries.
Thus, “transfer pricing” is the system of laws and practices used by countries to ensure that goods, services and intellectual property transferred between related companies are appropriately priced, based on market conditions, such that profits are correctly reflected in each jurisdiction.
Why is Transfer Pricing Important?
Multinational Companies (MNC) have a certain amount of discretion in determining how to apportion expenses and returns to their subsidiaries in different countries by setting prices for goods and/or services at the amount below or above market prices to avoid paying large taxes in countries with high tax rates normally called Base erosion and profit shifting.
At the same time, MNCs understand that transfer pricing can impact shareholder wealth because it influences how taxable income is distributed among countries with various tax rates – impacting after-tax free cash flow.
It is therefore important that businesses with cross-border intercompany transactions understand the concept of transfer pricing – defined as the prices at which companies sell goods, services and intangible assets to related parties – as well as the global environment in which transfer pricing takes place, the requirements for compliance, and risks of non-compliance.
Transfer Pricing in Lesotho
Part IV, Sec 113 Transfer Pricing of the Lesotho Income Tax Order,1993 states, “In any transaction between taxpayers who are associates, the Commissioner General may distribute, apportion, or allocate gross income, deductions, or credits between the taxpayers as is necessary to prevent the evasion of taxes or to clearly reflect the income of such taxpayers.”
The purpose of section 113 is to ensure that taxpayers make controlled transactions more transparent and to prevent the tax avoidance with respect to related party transactions.
However, in my opinion, the international transfer pricing environment is becoming more complex to be regulated by single statutory section (113). Therefore, our tax law is insufficient to accommodate the complex nature of transfer pricing.
Again, most countries follow guidelines put forth by the Organisation for Economic Co-operation and Development (OECD). These guidelines allow a wide variety of methods to be used for setting transfer prices and regarding key transfer pricing principles, including the arm’s length principle, transfer pricing methods, comparability analysis, intangible property, intra-group services, cost contribution agreements, transfer pricing documentation, administrative approaches to avoiding and resolving disputes, safe harbours and other implementation measures.
In conclusion, even though adopting Transfer Pricing rules would mean spending public funds, I believe at the end, the benefits would out way the costs. Based on the report by OECD (Organization of Economic Cooperation and Development), around 60% of world trade actually takes place within multinational enterprises. Therefore, provisions of transfer pricing legislation will discourage these MNEs from shifting profit to overseas associates through under or overpricing of cross-border transactions.
References
Lesotho Income Tax Order,1993 as amended
Organization of Economic Cooperation and Development website: http://www.oecd.org/