The history of Transfer Pricing (TP) in Nigeria dates back to 2012 when the first Income Tax (Transfer Pricing) Regulations No. 1, 2012 was gazetted. With increasing number of cross-border transactions involving related parties, a need arose for more robust guidelines and domestication of some of the OECD BEPS project measures, leading to the update of the 2012 Nigerian Transfer Pricing Regulations to the extant Income Tax (Transfer Pricing) Regulations 2018 (NTPR 2018). Simultaneously, another regulation; the Income Tax (Country-by-Country Reporting) Regulations 2018 ("The CbCR Regulation") was introduced to complement the revised TP Regulations. These regulations were introduced to establish a more comprehensive framework based on international best practices, with the goal of establishing a fair and transparent TP system in Nigeria.

Despite what appears to be a well-detailed regulatory guidance on TP in Nigeria, a closer examination reveals several gaps in its implementation, where achieving compliance in notable areas is not explicitly defined. These loopholes have created ambiguity and uncertainty among taxpayers regarding their obligations and the best practices to follow.

One such instance pertains to entities that are either yet to commence or have ceased business operations. Questions arise regarding the appropriate timing for initiating the filing of TP returns or, in the case of cessation, when to stop filing TP returns. Another instance is where an entity has not engaged in related party transactions during a specific financial year, despite having engaged in such transactions in previous years. In this case, determining whether the entity should file NIL returns or refrain from filing at all becomes important. These complex scenarios are frequently encountered by tax consultants in their daily interactions with clients, placing them in a difficult position of deciding whether to apply the accurate reading of the Regulations or take the prudent approach to ensure that their clients are not adjudged and penalized for non-compliance with the regulations by the Revenue Authority.

This article aims to shed light on the gaps in the NTPR 2018, provide insights that bridge the gap between TP theory and practice, and encourage constructive discussion among stakeholders to advance the development of more effective TP rules in Nigeria. Through contribution to thought leadership on this subject matter, it is expected that the content of this article will promote an environment that fosters compliance, fairness, and optimal tax planning practices.

Addressing the regulatory gaps in transfer pricing practice in Nigeria

TP has become an important aspect of international tax planning, and adherence to extant laws and guidelines is critical for responsible corporate citizenship. However, a number of issues arose because key provisions are not included in the subsisting regulations, leaving taxpayers unsure about how to address certain TP cases. In the following sections, this article identifies some of the issues faced by taxpayers while navigating the TP terrain and offer potential solutions to foster compliance and responsible tax practices.

  1. Filing requirements for dormant companies: The term "Dormant," as defined by the Merriam Webster dictionary, refers to the temporary suspension of activities or being temporarily devoid of external activity, yet capable of being activated. This seemingly straightforward term has given rise to one of the most prevalent TP issues in recent times.

    Because there is no clear provision in the NTPR or CbCR 2018 obligating dormant companies to file TP returns or submit CbCR notifications, many taxpayers fail to file returns for the dormant entities under their control, especially when there is no indication to start or restart operations by these entities. Regrettably, this approach has resulted in taxpayers facing substantial penalties and fines.

    For instance, in 2020, the service issued a circular instructing all dormant companies to regularize their tax filings. Entities that missed this correspondence from the FIRS find themselves in default. One could argue that a circular is not the law, but such arguments are open to interpretation especially when it introduces clauses that were not stated in the law or regulations.

    To navigate these complexities effectively, taxpayers must adopt a proactive approach. It is crucial for entities to ensure compliance and file necessary returns for dormant companies, even if they have no immediate plans to commence operations. By doing so, taxpayers can prevent facing penalties and demonstrate a commitment to responsible tax practices. Additionally, efforts should be made to improve the current regulations so that they match the complexity of real-world TP circumstances. This will not only give taxpayers clarity and certainty, but it will also give tax advisors the tools they need to give knowledgeable, accurate advice, guaranteeing that all parties involved are aware of their rights and compliance obligations.

    Furthermore, documenting the reasons for dormancy, providing evidence of non-transactional activities, and notifying the FIRS of such dormancy can support exemption claims and further strengthen the entity's decision not to file both Income Tax Returns and the returns relevant to TP in Nigeria.
  1. Digital filing of TP returns: It is essential to understand that the process of filing TP returns goes beyond submitting the TP disclosure and declaration form (when applicable). A complete TP return also includes the audited financial statements for the relevant year, evidence of submitted income tax computation, Corporate Income Tax (CIT)/ Petroleum Profits Tax (PPT) and Tertiary Education Tax (TET) self-assessment forms.

    Many taxpayers hold the belief that by submitting the TP disclosure and declaration forms, they fulfill their filing obligations, irrespective of the completeness of the returns. However, this perspective does not align with the stance of the tax authorities, which has led to numerous rejections of submitted TP filings.

    Over the last five years, there has been a rise in the difficulty of completing TP returns in time for submission by the TP compliance deadline for various reasons. As a result, taxpayers often submit their returns without all essential documentation in order to meet the deadline. In keeping with the spirit of their office, and to prevent taxpayers from losing sight of the requirement to update their online filing once all relevant documents become available, tax authorities send notices to affected entities, warning of potential penalties if the returns are not updated within a specific timeframe. Although there is no direct penalty for failing to update TP disclosure forms after submission, it is important to consider the broader implications. Regulation 14(5) of the NTPR 2018 states that incorrect disclosure of transactions attracts an administrative penalty of either ten million naira or one percent of the value of the incorrectly disclosed controlled transaction, whichever is higher.

    This raises a significant question: Can tax authorities impose penalties on taxpayers for failing to update their TP filings, even after they have met the initial obligation of submitting the returns online?

    In summary, the submission of TP returns is not the only element determining regulatory compliance. The subsequent act of updating these returns to reflect correct and complete information is equally important. Failure to take this step, while not directly violating a direct provision of the NTPR 2018, may be interpreted as non-filing. This interpretation, under the aforementioned regulation, then opens the door to administrative penalties.
  1. Filing requirement for entities with no related party transaction in a particular financial year: In the course of operations, entities may be in a situation where they have no related party transactions during a specific financial year, despite engaging in several related transactions in the previous year. The question then is whether the entity should file NIL returns for the relevant year or refrain from filing TP returns at all.

    According to Regulation 14 of the NTPR 2018, connected persons are mandated to disclose controlled transactions subject to the regulations for each year of assessment. However, when no related party transaction has taken place during the year, taxpayers often find themselves uncertain about the precise information that needs to be disclosed and reported to the tax authorities. Such situations may lead to increased scrutiny from tax authorities, who may inquire as to the grounds for the abrupt termination of transactions previously undertaken.

    To address such inquiries, the onus of proof lies with the taxpayers to demonstrate to the tax authorities the reasons for the discontinuation of any controlled transaction, if they have been. This can help to dispel any suspicion of unfavorable related party dealings or profit shifting. Handling such situations demands careful documentation to substantiate the entity's claims. For example, during a TP audit, providing comprehensive records of business activities, financial statements, and internal communications can offer vital evidence to support the entity's explanation for not engaging in related party transactions during the specific financial year.
  1. The application of commencement and cessation rules in TP: One area that often perplexes taxpayers is the application of commencement and cessation rules in TP and CbCR compliance. The question is, at what point does a newly incorporated entity file its first returns? upon starting operations or at the commencement of related party business activities. Similarly, confusion surrounds the timing for discontinuing the filing of returns in cases of cessation. Should the entity stop filing when the decision to cease operations is made, upon filing the letter of cessation with the tax authorities, or prior to the actual cessation when the entity refrains from engaging in related party transactions? The lack of explicit responses to these critical questions in the TP and CbCR Regulations adds to the uncertainty faced by taxpayers.

    Addressing these challenges requires a careful and well-informed approach. For these entities, it is recommended that they obtain expert guidance to determine if filing TP and CbCR returns is required under the circumstances. Also, to promote clarity and compliance, tax authorities should consider updating the TP and CbCR Regulations to explicitly address commencement and cessation scenarios. This will provide taxpayers with clear guidance, ensuring they comply with the proper standards and avoid unnecessary penalties or disputes.

Measures to Enhance TP Compliance and Avoidance of Penalty

Having highlighted the significant gaps in the Regulations, this article offers valuable recommendations that taxpayers can adopt to assure compliance, mitigate penalties, and avoid unnecessary costs.

  1. Understand the law: It is common knowledge that one cannot fully comply with laws that they are ignorant about. Hence, the first step is for taxpayers to understand the laws governing transfer pricing in Nigeria. Taxpayers are encouraged to thoroughly review the existing regulatory guidance, even if ambiguous, to identify key principles and objectives that the regulation intends to achieve. Understanding the spirit of the law can aid in making compliance decisions.
  1. Seek expert guidance: Seeking expert advice from TP specialists or tax advisors can provide the much-needed clarity in navigating TP issues. Engaging professionals with extensive knowledge of TP regulations and practices can provide clarity on ambiguous issues, identify, and ensure compliance with relevant laws. Leveraging on the wealth of knowledge and experience gathered over the years, coupled with a comprehensive understanding of taxpayer's circumstances and specific obligations under the regulations, these experts can offer tailored guidance to navigate through ambiguities. Further, they can also assist taxpayers with assessing TP risks to identify potential non-compliance areas as well as address and resolve any inconsistencies or red flags found prior to or during the assessment process.
  1. Engage in open communications with the tax authorities: Entities should not shy away from engaging the tax authorities in dialogues. The Service's vision is "To deliver quality service to taxpayers, in partnership with other stakeholders and make taxation the pivot of national development". This demonstrates their commitment to ensuring that taxpayers have all the information they may need to act responsibly as corporate citizens. The most effective way for taxpayers to take advantage of this opportunity is to maintain open lines of communication with tax authorities and to provide timely updates on the status of their business operations. Keeping the tax authorities informed enables them to understand the entity's position and compliance requirements, thus minimizing potential disputes.

    Indeed, taking a proactive approach and seeking clarification from regulatory agencies benefits taxpayers, consultants, and tax authorities. It is, however, recommended that any clarification sought from tax authorities be in writing, with an acknowledged correspondence received and maintained for reference purposes.
  1. Take a prudent approach to the reading of the law: This entails erring on the side of caution and selecting a method that is least likely to attract penalties. In the absence of clear guidance, taxpayers can adopt a conservative approach to TP compliance. Taxpayers who want to take this approach may proceed with fulfilling the filing requirements as provided for in the Regulations. Using a dormant entity as an example, the taxpayer may submit returns for the dormant entity since there is no provision that exempts this company from the obligation to file returns with the FIRS, even if it is dormant and is intended to be liquidated or dissolved in the near future.
  1. Monitor global and local regulatory Updates. Tax authorities frequently put out circulars to provide clarity on TP issues faced by taxpayers. In practice, there have been several instances where clients missed regulatory updates issued by the tax authorities which should have prompted them to take or refrain from taking an action, resulting in avoidable penalties imposed on clients.
  1. TP documentation: Documentation is essential in TP. Taxpayers must keep detailed records of all important business activities, decisions, and interactions with tax authorities. These records serve as critical evidence to support the taxpayer's compliance position and rationale. It would be in the best interest of the taxpayer to document all business activities since the onus for proving compliance lies with the taxpayers. In addition, taxpayers should make every effort to ensure that all financial and transactional data is correct, comprehensive, and up to date, bearing in mind that the foundation for accurate TP compliance reporting is reliable data.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.