In many developing countries, a major challenge which occurs in related-party transactions is transfer pricing. A transfer price can be defined as the price at which related parties (that is, companies having existing relationship as a result of common ownership or control) transact with one another. In such circumstances, related parties have the tendency of transacting business at a price lower or higher than the market value in other to allocate profit for tax or other purposes. Transfer pricing can deprive governments of their fair share of taxes as well as expose corporate entities to possible double taxation. To combat these problems, several countries have adopted the Arm's Length Principle in their laws and regulations. In Nigeria, this principle is found in the Income Tax (transfer Pricing) Regulation 2018 (the "Regulation") established by the Federal Inland Revenue Service ("FIRS").

When is a transaction said to be at Arm's Length?

A transaction between related parties is said to be at Arm's Length where it is conducted in a manner that would not have been different if the parties were independent entities and have no pre-existing relationship. Thus, the transaction is conducted in the same manner a third party would have conducted it in comparable circumstances.

Where related-party transactions are deemed as non-conforming with the Arm's Length Principle, the Regulation empowers the FIRS to make necessary adjustments to the taxable profits accruing from such transaction to bring it into conformity with the Principle.

Implications of not complying with the Arm's Length Principle

The Regulation provides stiff penalties for related-party transactions which do not comply with the Arm's Length Principle. Below are some highlights of the transactions and their tax implications.

a. Transactions with respect to export and import of commodities

In the case of export, where the agreed price between related parties is lower than the price obtainable from an international or domestic commodity exchange market on the date of the transaction ("quoted price"), FIRS will disregard the agreed price and use the quoted price in computing the taxable profits.

In the case of import, where the agreed price is higher than the quoted price, the quoted price will be used by the FIRS in computing the taxable profit.

The above will however not apply where the taxpayer can show that the increase or decrease in the quoted price, as the case maybe, was reasonable.

b. Intra- group services

A test applied by FIRS in determining whether a service rendered by a taxpayer to a related party is consistent with the Arm's Length Principle is whether such service enhances the economic or commercial position of the recipient and whether an independent person in comparable circumstances will be willing to pay for such service at the agreed price or would have performed the service itself in-house.

Where the service does not fulfil the above conditions, the FIRS would make adjustments to the taxable profits of the taxpayer.

c. Transfer of Intangibles property between related parties

Intangible property includes copyright, patents, goodwill, trademarks and trade names. The test applied by the FIRS is whether an independent person in the position of the transferor would be willing to transfer such property at the agreed price and if in the position of the transferee, would consider such property useful to its business.

Whatever the case maybe, tax deductions on intangible property shall not exceed 5% of earnings before interest, tax, depreciation and amortisation.


Companies in related-party transactions should ensure that compliance with the Arm's Length Principle is a priority to prevent arbitral adjustments of their taxable income by the FIRS.

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.