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Transfer pricing: Intra-Group Loans

Transfer pricing: Intra-Group Loans

Tshwane, 17 JANUARY 2023 – The South African Revenue Service (SARS) has today released an interpretation note titled “DETERMINATION OF THE TAXABLE INCOME OF CERTAIN PERSONS FROM INTERNATIONAL TRANSACTIONS: INTRA-GROUP LOANS” which provides guidance on how SARS will determine arm’s length pricing for intra-group loans. The Note also provides guidance on the consequences for a taxpayer if the amount of debt, the cost of debt or both are not arm’s length.

A transfer price is broadly the price at which goods or services are exchanged between parties. Transfer pricing on its own is not good or bad, it is simply a necessity given that parties transact with each other. In a tax context, transfer pricing is of concern in situations where parties manipulate the transfer price to achieve a more desirable tax outcome. This is of particular concern in cross-border transactions between related parties as it is easier to manipulate the pricing and take advantage of different tax jurisdictions. This often results in tax jurisdictions not receiving the tax revenue they are rightfully entitled to receive.

The Income Tax Act contains section 31 which requires the transfer price of specified international transactions between connected persons or associated enterprises to be based on the arm’s length principle when determining taxable income. It also sets out the tax consequences when the pricing is not arm’s length. An arm’s length price is broadly a price negotiated on the open market between a willing buyer and a willing seller.

One of the areas of concern which has been subject to debate relates to arm’s length pricing for intra-group loans, for example, a cross-border loan between companies in a multinational group of companies. The pricing of intra-group loans includes a consideration of both the amount of debt and the cost of the debt. An intra-group loan would be incorrectly priced if the amount of debt funding, the cost of the debt or both are excessive compared to what is arm’s length.

It therefore remains critically important that in any intra-group transactions the principle of arms-length principle is scrupulously observed by those participating in such a transaction. SARS will act sternly to protect fiscus if the parties are found to have acted at variance with this principle. SARS would like to encourage all taxpayers who would like further detail on SARS’s approach to consult the published interpretation note. Companies falling within the ambit of section 31 must have an approved transfer policy that complies with the arms’ length principle and be in a position to demonstrate such compliance and that the policy has been implemented correctly.

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