Following an audit of Beta Healthcare International Limited, a Kenyan subsidiary in the Aspen Healthcare Group, the tax authorities issued a notice of additional taxable income relating to controlled transactions, in which they had determined the arm’s length price for controlled transactions using the CUP method instead of the TNM-method as applied by the company.
Beta Healthcare International Limited appealed to the Tax Appeals Tribunal, arguing that the tax authorities had failed in its characterisation of the company, failed to consider the comparability factors of the transactions and misapplied the transfer pricing guidelines.
Decision of the Tax Appeals Tribunal
The Tribunal dismissed the appeal and ruled in favour of the tax authorities.
Excerpts
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134. The Tribunal reviewed the parties’ pleadings and established that the Appellant attached the disputed information to its pleadings. However, the Respondent, both in its pleadings and orally at the hearing, urged that the information was never provided to it. Further, while the Appellant stated that it submitted the disputed information on 8th March, 2022, the Tribunal did not sight any document to confirm this averment.
135. In regard to selection of an appropriate Transfer Pricing method, Paragraph 2.1 of the OECD Guidelines provides that the selection of the transfer pricing method should consider the following;
a. the respective strengths and weaknesses of the OECD recognised methods;
b. the appropriateness of the method considered in view of the nature of the controlled transaction, determined through a functional analysis;
c. the availability of reliable information (on uncontrolled comparables) needed to apply the selected method and/or other methods; and
d. the degree of comparability between controlled and uncontrolled transactions, including the reliability of comparability adjustments that may be needed to eliminate material differences between them.
136. Additionally, Paragraph 3.20 of the OECD Guidelines states that,
“ In order to select and apply the most appropriate transfer pricing method to the circumstances of the case, information is needed on the comparability factors in relation to the controlled transaction under review and in particular on the functions, assets and risks of all the parties to the controlled transaction, including the foreign associated enterprise(s).”
137. Paragraph 1.35 and 1.36 of the OECD Guidelines state as follows regarding comparable factors for the establishment of an appropriate Transfer Pricing method:
“ 1.35. …Before making comparisons with uncontrolled transactions, it is therefore vital to identify the economically relevant characteristics of the commercial or financial relations as expressed in the controlled transaction.
1.36 The economically relevant characteristics or comparability factors that need to be identified in the commercial or financial relations between the associated enterprises in order to accurately delineate the actual transaction can be broadly categorised as follows:
i. The contractual terms of the transaction;
ii. The functions performed by each of the parties to the transaction, taking into account assets used and risks assumed, including how those functions relate to the wider generation of value by the MNE group to which the parties belong, the circumstances surrounding the transaction, and industry practices;
iii. The characteristics of property transferred, or services provided;
iv. The economic circumstances of the parties and of the market in which the parties operate; and
v. The business strategies pursued by the parties.”
138. The Tribunal further notes that Paragraph 2.20 of the OECD Guidelines provides as follows in regard to application of the CUP method of Transfer Pricing:
“ For the CUP method to be reliably applied to commodity transactions, the economically relevant characteristics of the controlled transaction and the uncontrolled transactions or the uncontrolled arrangements represented by the quoted price need to be comparable. For commodities, the economically relevant characteristics include, among others, the physical features and quality of the commodity; the contractual terms of the controlled transaction, such as volumes traded, period of the arrangements, the timing and terms of delivery, transportation, insurance, and foreign currency terms. For some commodities, certain economically relevant characteristics (e.g. prompt delivery) may lead to a premium or a discount. If the quoted price is used as a reference for determining the arm’s length price or price range, the standardised contracts which stipulate specifications on the basis of which commodities are traded on the exchange and which result in a quoted price for the commodity may be relevant. Where there are differences between the conditions of the controlled transaction and the conditions of the uncontrolled transactions or the conditions determining the quoted price for the commodity that materially affect the price of the commodity transactions being examined, reasonably accurate adjustments should be made to ensure that the economically relevant characteristics of the transactions are comparable.
Contributions made in the form of functions performed, assets used and risks assumed by other entities in the supply chain should be compensated in accordance with the guidance provided in these Guidelines.” (Emphasis ours)
139. Separately, Paragraph 2.64 of the OECD Guidelines provide as follows regarding the application of the TNMM method:
“ The transactional net margin method examines the net profit relative to an appropriate base (e.g. costs, sales, assets) that a taxpayer realises from a controlled transaction (or transactions that are appropriate to aggregate under the principles of paragraphs 3.9 -3.12). Thus, a transactional net margin method operates in a manner similar to the cost plus and resale price methods. This similarity means that in order to be applied reliably, the transactional net margin method must be applied in a manner consistent with the manner in which the resale price or cost plus method is applied.
This means in particular that the net profit indicator of the taxpayer from the controlled transaction (or transactions that are appropriate to aggregate under the principles of paragraphs 3.9 -3.12) should ideally be established by reference to the net profit indicator that the same taxpayer earns in comparable uncontrolled transactions, i.e. by reference to “internal comparables” (see paragraphs 3.27-3.28). Where this is not possible, the net margin that would have been earned in comparable transactions by an independent enterprise (“external comparables”) may serve as a guide (see paragraphs 3.29-3.35). A functional analysis of the controlled and uncontrolled transactions is required to determine whether the transactions are comparable and what adjustments may be necessary to obtain reliable results. Further, the other requirements for comparability, and in particular those of paragraphs 2.74 -2.81, must be applied.”
140. The Tribunal posits that in line with Paragraph 2.20 of the OECD Guidelines on application of the CUP method and Paragraph 2.64 on application of the TNMM method quoted earlier herein, the information in dispute by the parties is key in establishing a number of the comparable elements for the determination as of which Transfer Pricing method is the most appropriate to be applied on the Appellant’s transaction.
141. The Tribunal notes that during the hearing, both parties admitted to having introduced further documentation and information in the course of the Appeal and both parties confirmed that this information was not considered by the Respondent in issuing its objection decision.
142. The Tribunal further notes that from the pleadings, and from the oral presentations, it is apparent that certain key documents were not provided during the objection and when requested by the Respondent on 18th February, 2022 and 9th April, 2022.
143. Section of 6 of the Tax Appeals Tribunal Act provides as follows regarding grounds of appeal that the Appellant should rely on in Appeals to the Tribunal:
“ The appellant shall, unless the Tribunal orders otherwise, be limited to the grounds stated in the appeal to which the decision relates.”
144. The Tribunal posits that if the Appellant provided all the documentation requested by the Respondent prior to the issuance of the objection decision, it should have adduced evidence to show that indeed it provided the disputed information on 8th March 2022 as averred by it. To the extent that it did not provide this evidence, it did not exhaust its burden of proof under Section 56(1) of the Tax Procedures Act.
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146. The Tribunal is guided by the the case of Alfred Kioko Muteti Timothy Miheso & Another [2015] eKLR where the court held that:-
“ a party can only discharge its burden upon adducing evidence. Merely making pleadings is not enough”. In reaching its findings, the Court stated that: “Thus, the burden of proof lies on the party who would fail if no evidence at all were given by either party…. Pleadings are not evidence.”
147. In view of the foregoing, the Tribunal finds that the Appeal fails.”
KRA vs Beta Healthcare 2024 NW