Transfer Pricing Policy Document
Is A Transfer Pricing Policy Document A Fraud Document?
Transfer pricing sounds like one of those complex business terminologies only meant for tax experts and accountants. Nevertheless, behind the technical term lies matters that impacts normal persons too: how firms pay tax, and whether they pay their just share. The key query that frequently comes up, especially in public discussions and media stories, is whether a transfer pricing policy document can be or is a fraud document. It is for this reason that we, dennykinsandassociates.com take time to break down this concept in an honest and simple manner.
What Is Transfer Pricing?
Transfer pricing refers to how companies set prices for the various transactions between their related parties. For instance, if an entity in Kenya buys goods, services or get loans from a parent company that is located abroad, the prices they will charge for those transactions is referred to as transfer pricing.
Since these transactions take place between related parties/ companies in the same group, the various tax authorities worry that these entities might manipulate the prices to try and shift profits earned to nations with lower taxes. It is for this reason that transfer pricing was formulated, to ensure that related entities charge each other prices that are similar to prices they would have charged or paid independent parties. This is called the arm’s length principle.
What Is a Transfer Pricing Policy (TPP) Document?
A transfer pricing policy document is a written document that explains the following:
- The related parties
- The transactions that take place between them or the controlled transactions
- The basis for setting the prices for the transactions
- Why the prices are considered arm’s length
In summary, a transfer pricing policy document is a justification and story of a company for how the prices they use to transact within the group.
Often, tax authorities require entities to have a transfer pricing policy document. In some jurisdictions, e.g. Kenya, failing to provide or prepare the document can attract scrutiny and penalties as the Kenya Revenue Authority will use the available information to make adjustments to the related party transactions and this can cause tax burden to the companies.
Is a Transfer Pricing Document (TPP) A Fraud Document?
No. A transfer pricing policy document is not a fraud document.
The whole purpose of a transfer pricing policy document is to enhance transparency, and not fraud. The key objective is to assist the tax authorities to have a clear comprehension of the pricing decisions and operations of a company.
Nevertheless, this is the section that confuses, a transfer pricing policy document can become challenging when misused or abused.
When Does a Transfer Pricing Policy Document Look Like Fraud?
A transfer pricing policy document may be treated as fraudulent if:
- It bears false information
- It is created to justify wrongdoing after the fact
- It does not match and represent reality
- It us utilized to support and enhance tax evasion
ü It Bears False Information
If an establishment intentionally distorts facts, like coming up with services/goods that were never provided, exaggerate costs, or hide some of the related parties, the transfer pricing policy documents stops being a tool of compliance and becomes a tool of deception.
ü It Is Created to Justify Wrongdoing After the Fact
In some cases, entities only prepare a transfer pricing policy document when they are already having a tax audit. And in that case where the document is prepared to ensure the profits that have been shifted are covered up, then the tax authorities may treat and scrutinize the document with suspicion.
ü It Does Not Match and Represent Reality
A transfer pricing policy might say one thing, and on the other hand, the actual practices of the business indicate another. For example, the policy document might indicate that among the group of companies, there is one in the foreign country that provides another with strategic management services- as a controlled transaction- however, there is no clear evidence of that, there are no meetings, reports, or emails to indicate that. Such a mismatch can undermine the validity and credibility of the entire document.
ü It Us Utilized to Support and Enhance Tax Avoidance
It is critical to note that tax planning is an essential activity for any business enterprise and is legal, however, it is also important to note that designing aggressive structures for the key purpose of avoiding paying taxes, without having an actual economic substance, is illegal. In such instances, the transfer pricing policy document may be deemed a tool to enhance and support tax avoidance.
Key Distinction Between Poor Compliance Vs Fraud
It is critical that we all understand that there is a clear distinction between poor documentation and fraud.
Not all poorly written or weak transfer pricing policy document is fraudulent. Most entities:
- Use common templates
- Copy industry language without clear and full comprehension of the language
- Fail to regularly update the document
The above are compliance issues and not fraud, as fraud requires intention to deceive.
How Do Tax Authorities View Transfer Pricing Policy Documents?
Tax authorities do not trust transfer pricing policy documents automatically. According to tax authorities, a transfer policy document is a starting point and never the final proof.
The authorities will do the following during audits:
- Test the listed assumptions in the document
- Ask for supporting documents
- Compare prices with market prices to confirm arm’s length
- Look at actual the economic substance, not just the documented policies
If there exists any form of inconsistency, the policy document may be rejected and the subsequent taxes adjusted.
It is important to note that calling all transfer pricing policy documents fraudulent documents makes complex issues too simple. Although some documents are used to hide fraudulent practices, most of them indicate a genuine attempt to ensure compliance with the law.At Dennykins & Associates we help you prepare advise and defend the Transfer pricing policy.
Lastly, it is key to state that documents do not establish honesty, behaviour does. In that regard, a transfer pricing policy document should be a reflection of what a company actually does and not what they wish to do. In instances where reality and transparency align, transfer pricing documents serve their actual purpose, and that is, fairness in tax payments. Prepared by CPA Mutitu Dennis,CFE
