The energy and mining (“E&M”) sector is one of the largest contributors to the African economy. So, it goes without saying that revenue authorities closely monitor this sector from all tax perspectives, including Transfer Pricing (“TP”).

Of course, it is no secret that African tax authorities have been struggling to collect sufficient revenues to meet budget. One key prong in the strategy to rectify this is through identifying major industries, their trends, targeting multinationals enterprises (“MNEs”) with high or volatile profits, loss-making entities, high-value related party transactions, and scrutinising these MNEs for any non-compliance with various tax laws, including, of course, TP. As a result, African tax authorities have been conducting robust tax reviews and audits on taxpayers operating in the E&M industry (amongst others). This process can be daunting, expensive and the settlements can be eye-watering and sometimes technically ill-conceived.

Key TP issues in the energy and mining industry

TP challenges can arise as a result of perceived mispricing within MNEs. To put this into perspective, the typical intercompany transactions within the E&M sector can be grouped into the following categories:

  • Sale of minerals/ mineral rights to related companies;

  • Group sales/marketing/distribution;

  • Management and technical service fees;

  • Provision of financial assistance.

Due to the highly competitive and capital-intensive nature of the industry, it is very easy for MNEs to be challenged on their internal pricing arrangements, given that one small commission % or margin earned on the wrong side of “right” can amount to a difference of millions or billions of Rand per annum.

Some of the key industry-specific E&M TP issues being considered by Revenue authorities and taxpayers are:

  • Fragmentation of the supply chain and ability to locate functions to allocate profits to:

    • Marketing/procurement companies or branches; and

    • Offshore hedging companies.

  • Fragmentation of transactions (e.g. where MNEs enter into multi-jurisdictional structures));

  • High-value intercompany lending and thin capitalisation;

  • Accurately delineating transactions, determining who bears, manages, and controls commodity price risk (highly linked to returns) within the supply chain;

  • Appropriate economic support and TP methodology – heavily debated and challenged.

All these issues create complexity and confusion and have been thrashed out in various global TP litigation cases.

What’s next

Accordingly, a TP document and accompanying Legal Agreements governing the arrangements which accurately delineate the transactions, explains the supply chain and risks, clearly defines the functional analysis, business model, and provides robust economic support for your intragroup pricing arrangements is a must. Such documentation will help defend the pricing for intercompany transactions and thereby help manage potential exposures and lengthy disputes. Being TP Controversy ready is critical, particularly in the E&M sector, and other high-value complex African industries.

If you are operating in the E&M sector, or any other sector currently under scrutiny, ask yourself – “are you controversy ready”? If not, there is work to do. Please contact us to help you design an appropriate and robust defence strategy.

Associated enterprises

How can we help?

How you structure your business is a critical question as you expand globally.  The right structure will protect your assets, improve your currency position, support your business operations, facilitate future business expansion and changes, and optimise your overall tax rate. Trying to unscramble a sub-optimal structure entered into in haste or without full consideration of relevant facts is complex and expensive, so it’s important to plan upfront.

Structuring an international business is both a science and an art – this is our specialist area of expertise. Regan van Rooy is an international tax and structuring advisory firm focussing on Africa. We have offices in South Africa, Mauritius and Ireland and we can help you with any international tax or structuring query.

Leave a Reply