The Botswana tax authority (BURS) has for many years relied on anti-avoidance rules in the Income Tax Act to scrutinise transactions between related parties. This presented a lot of challenges in that the anti-avoidance rules are too vague and broad to implement. This has led to a lot of discussions on introducing transfer pricing to ensure ease of compliance. The Minister of Finance and Economic Development presented the Income tax (Amendment) Act, 2018 which was approved by the national assembly and which introduces a specific section (section 36A) on transfer pricing. Transfer pricing rules will be effective from 1 July 2019 onwards.
Any person who engages directly or indirectly in any transaction with a connected person must ensure that the transaction is consistent with the arm’s length principle. The phrase ‘connected persons’ is specifically defined in the Act to mean at least two companies where either of the companies has control directly or indirectly, of the other, or if both companies are controlled directly or indirectly by the same person, and any person if that person has control of a company or if the person or persons connected to that person together have control of the company. This definition simply refers to related parties as known in the normal accounting sense.
The transfer pricing legislation is based on the Association of Tax Administration Forum (ATAF) transfer pricing model, but it is notable that for affected transactions transfer pricing will apply even in situations where the related parties are both resident in Botswana, which is rather stringent compared with other jurisdictions where transfer pricing only applies to cross-border transactions.
The arm’s length principle is where the conditions of a transaction do not differ from the conditions that would have applied between independent persons in a comparable transaction carried out in comparable circumstances. The transfer pricing law does not limit its application to pricing only - all the conditions for transactions between related parties must be at arm’s length. Payment terms can be considered as an example: if a company generally sells for cash to independent persons and sells at the same price to related parties on favourable payment terms, such transactions would not be at arm’s length. This broad word “conditions” may lead to difficulties in complying with the transfer pricing law. We are hopeful that this is not going to create protracted disputes between BURS and taxpayers.
All transactions between related parties which have the effect of reducing taxable income because the conditions are not at arm’s length will be adjusted, and additional taxable income from the adjustments shall be taxed accordingly.
A strange specific inclusion in the transfer pricing law relates to the acquisition of a new or used asset from a related party. Any person who acquires an asset from a related party, where the related party acquired that specific asset from an independent party, will be required to keep an invoice from the independent party in order to obtain a deduction for tax purposes. This appears onerous and may hit many taxpayers hard. This provision is further complicated because it does not list the affected assets. Where the taxpayer fails to keep the independent party’s invoice, the cost of that asset will be deemed to be nil for determining the taxable income of that person. The provision does not prescribe whether or not the price between related parties will be determined with reference to the independent party’s invoice. We suspect that its specific inclusion means that there is a high risk of BURS disallowing any form of a mark-up on an asset price when sold between the related parties.
The Minister has yet to prescribe how to determine whether the conditions of a transaction are consistent with the arm’s length principle and how to determine the amount of transfer pricing adjustments. This is expected to be published in transfer pricing regulations before the law comes into effect and will hopefully provide more clarity. We anticipate that the transfer pricing regulations will be based on the ATAF or Organisation for Economic Cooperation and Development (OECD) model.
The Minister is mandated to prescribe the transfer pricing documentation which taxpayers must keep with regard to transactions with related parties. This is also expected to be included in the transfer pricing regulations.
We also expect the transfer pricing documentation regulations to be based on the ATAF or OECD model.
The ATAF documentation regulations model requires documentation of the organisation and group structure as well as documentation of important service arrangements between related parties. Documentation is also required also for material controlled transactions in which the taxpayer was involved. We strongly recommend that taxpayers use the ATAF model in preparation for compliance, as there is a risk that the regulations will be published close to the effective date of the law.
The transfer pricing legislation allows taxpayers to apply for an APA with the tax authority. The agreement should apply to specific transactions for a fixed period of time. Where the related party involved in the controlled transactions resides in a country with a double taxation avoidance agreement with Botswana, BURS may enter into an agreement in consultation with the tax authority of the country where the related party resides. BURS will not have the power to make any adjustment where the taxpayer fully complied with the APA.
APAs will be set out in regulations which the Minister is also expected to publish before the effective date. However, the overarching guideline under the law is that the regulations must specify the following:
Various fines have been introduced in relation to transfer pricing.
For any transaction which is not at arm’s length, a penalty of the greater of 200% of the additional tax arising from a transfer pricing adjustment or BWP 10,000 will be charged.
Failure to provide transfer pricing documentation upon request will attract a minimum penalty of BWP 250,000 and a maximum penalty of BWP 500,000.
The current exchange rate of BWP to USD is 0.0928
We anticipate that the Minister may come up with some threshold or criteria of entities subject to transfer pricing. It is strongly recommended that while awaiting publication of the regulations, subsidiaries of multinational companies should start identifying and documenting all transactions with related parties. Critical consideration should be given as to whether or not the current pricing model and the conditions of the transactions reflect arm’s length principles. This will enable taxpayers to make any necessary adjustments to their pricing models and may also be useful in preparing an APA for those who would want to set up such agreements.