Transfer Pricing

Webinar
“Introduction to Transfer
Pricing and its implications”

©2021 Grant Thornton. All rights reserved.

Contents
1 Genesis of Transfer Pricing

2 Legal Framework in Uganda

3 Arm’s Length Principle

4 Benchmarking methodologies explained

5 Documentation Requirements
6 Q&A Session

©2021 Grant Thornton. All rights reserved.

Genesis of Transfer Pricing

©2021 Grant Thornton. All rights reserved.

©2021 Grant Thornton. All rights reserved.
In the News

©2021 Grant Thornton. All rights reserved.

Who & How?

©2021 Grant Thornton. All rights reserved.

Base Erosion and Profit Shifting [BEPS]
Base erosion – Using financial measures and tax planning to reduce a company’s taxable profits..

Profit shifting – making payments to other group entities in order to move profits from a high-tax paying economy to low-
tax economy or shifting to a company with allowable tax losses/complete exemption.

Profits transferred

Associate 1 Associate 2

Location: Cayman Islands Location: Uganda

Income Tax Rate: 0% Income Tax Rate: 30%

©2021 Grant Thornton. All rights reserved.

 How can multinationals transfer profits?

How do companies transfer profits on transactions with associated entities. Some of these
transactions may include:

• Payment for Intellectual property – Royalty fees

• Brand Equity fees – Trademark Fees
• Provision of loans
• Direct Sale and/or purchase of products and services
• Percentage on sales for:
• Provision of management and administrative services
• Provision of operating and maintenance services

©2021 Grant Thornton. All rights reserved.

Key Definitions
Term Definition
Transfer prices Prices at which an entity transfers goods or provides services to an
associated entity.
The arm’s length principle states that the cost of a transaction between
associated entities must be the same as if it had occurred between
Arm’s length principle independent parties.
The OECD calls it the “international standard that OECD member
countries have agreed should be used for determining transfer prices.”
The practice of establishing arm's length prices for associated entity cross-
Transfer pricing
border transactions.
An in-depth study to compare transactions with associated entities and
Benchmarking independent parties to test the arm's length nature of the transactions
under review.

Controlled transaction A transaction with associated entities.

Uncontrolled transaction A transaction with independent entities/parties.

©2021 Grant Thornton. All rights reserved.

Relevance of Transfer Pricing

Main Objective:
• Ensuring that transactions between associated entities take place at a price as if the transaction was taking place
between unrelated or independent entities.

Secondary Objective:
• Compliance with the transfer pricing regulations so that the entities do not suffer consequences at a later stage.
• Non-compliance can lead to expensive consequences for such multinational entities e.g. brand damage, ban from
operating form certain markets, substantial penalties.

Call for action:

• Determining the proper transfer prices for transactions between associated entities.
• Making sure that the resulting allocation of income reflects the underlying economic activity.
• Reaching cross border agreements on proper pricing among the taxpayer and the affected countries.
• Maintenance of sufficient documentation to ensure compliance

©2021 Grant Thornton. All rights reserved.

Legal Framework in Uganda

©2021 Grant Thornton. All rights reserved.

Legal Framework

©2021 Grant Thornton. All rights reserved.

Legal Framework

These regulations are applied in a manner consistent with the Organization for Economic Cooperation and Development
(OECD) documents:

• OECD Model Tax Convention on Income and Capital

• OECD Transfer Pricing Guidelines for Multinational entitys and Tax Administrations

In the event of any inconsistency, the Income Tax Act prevails.

©2021 Grant Thornton. All rights reserved.

Who is affected?
• Transactions between Branches (branch person) and their Headquarters (headquarter person).

• Transactions between associates where both parties are located or resident in Uganda.

• Transactions between associates where one party is a resident in Uganda and the other is a non-resident (outside
Uganda).

The term "associate" includes any person (individual or entity) who is not an employee but acts in accordance with the
directions, requests, suggestions or wishes of another person, whether or not those directions, requests,
suggestions or wishes are communicated, both persons are treated as associates UNLESS the Commissioner is satisfied
that neither person acts as such.

Examples of associated entity transactions include; transfer of tangible goods, financial transactions including loans or
guarantees, provision of services such as management, operating and maintenance services, and transfer of tangible or
intangible assets.

©2021 Grant Thornton. All rights reserved.

Penalties
Failure to comply with the documentation requirements is an offence and on conviction, a person may be liable to:

Imprisonment Imprisonment for a period not exceeding 6 months

Fine A fine not exceeding 25 currency points - UGX 500,000

One may be liable to both imprisonment and a fine.

In addition, the Tax Procedures Code (Section 49A) state that failure to provide requested transfer pricing documentation
will result in a penalty not exceeding Ushs 50,000,000.

©2021 Grant Thornton. All rights reserved.

Arm’s Length Principle

©2021 Grant Thornton. All rights reserved.

 “Entities that are related via management, control or capital in their transactions with associated
entities (controlled transactions) should agree the same terms and conditions which would have been
agreed between unassociated entities for comparable uncontrolled transactions”

-The Arm's Length Principle

©2021 Grant Thornton. All rights reserved.

Determining the arm’s length price
Transfer Pricing
methods

Traditional Transactional
Transaction Profit methods
methods

Comparable Uncontrolled Transactional Net Margin

Price method Method

Transactional Profit Split

Resale Price Method Method

Cost Plus Method

©2021 Grant Thornton. All rights reserved.

Hierarchy of the methods
The Regulations recommend 5 methods that may be used to determine the arm’s length price:

1) The Comparable Uncontrolled Price method (CUP) - Compares the price charged between associated entities
and the price charged between independent parties in comparable circumstances.

2) The Resale Price method (RPM) – Compares the resale price for products with no value addition between
associated and unassociated entities.

3) The Cost-Plus method (CPM) – Compares the mark-up to costs between associated and unassociated entities.

4) The Transaction Net Margin method (TNMM) – Compares the level of profit that would have resulted from
associated and unassociated entity transactions.

5) The Transactional Profit Split method (TPSM) – Combines and splits the profits earned by associated entities.

©2021 Grant Thornton. All rights reserved.

Benchmarking methodologies
explained

©2021 Grant Thornton. All rights reserved.

Comparable Uncontrolled Price method (CUP)
This method compares the price charged for goods/services transferred in controlled transactions with the price charged
in comparable uncontrolled transactions.

The CUP method is considered as the most direct and reliable way to apply arm’s length principle.

When the Comparable Uncontrolled Price method and another transfer pricing method can be applied in an equally
reliable manner, the CUP method is to be preferred.

CUP method can be applied if one of the following two conditions are satisfied:

▪ None of the differences between the transactions being compared could materially affect the price in the open
market; or
▪ Reasonably accurate adjustments can be made to eliminate the material effects of such differences

©2021 Grant Thornton. All rights reserved.

Comparable Uncontrolled Price method (CUP)

Price sold to Associated entity Price sold to Independent entity

UGX 100,000 per kg UGX 120,000 per kg

The sales pricing above is justified if the Associated entity purchased products in bulk and was extended a discount as
opposed to the Independent entity.

In such instances, a discount policy documenting the same should be maintained.

©2021 Grant Thornton. All rights reserved.

Comparable Uncontrolled Price method (CUP)
The types of comparables include:

• Internal comparables: These are transactions which are similar to the controlled transaction which an entity has
entered with its associated entities. e.g. purchase of assets from an associate entity

Independent
Party
Associate 1 Associate 2
Associate 1

• External comparables: These are transactions which are similar to the controlled transaction under similar conditions
but between unassociated entities. e.g provision of loan, reimbursement of marketing costs, among others

Independent Independent
Party Party
Associate 1 Associate 2

©2021 Grant Thornton. All rights reserved.

Resale Price Method (RPM)

This method compares the price at which a product that has been purchased from an associated entity and is resold to an
independent entity.

The RPM method is considered when there is no value addition whatsoever to the product.

RPM is used RPM is not used

It is most applicable to sales and marketing operations such as those done by a distributor.

©2021 Grant Thornton. All rights reserved.

Resale Price Method (RPM)

In a resale price method, the resale price margin (i.e. the gross margin) that the reseller earns from the controlled
transaction is compared with the gross margin from comparable uncontrolled transactions.

Sales prices to independent customers 1,000

Costs of goods sold (600)

Gross Profit 400

Indirect expenses (200)

Operating Profit 200

©2021 Grant Thornton. All rights reserved.

Cost Plus Method (CPM)

This method compares the mark-up on costs that the manufacturer or service provider earns from the controlled
transaction with the mark-up on costs from comparable uncontrolled transactions.

The mark-up to be charged should ideally be pre-defined in an agreement with the respective associated entity.

Cost of raw materials 1,000

Other production costs 600

Total cost base 1,600

Mark-up on costs (20%) 320

This method can be used for: provision of services, transfer of semi-finished goods, among others.

©2021 Grant Thornton. All rights reserved.

Transaction Net Margin Method (TNMM)
This method compares the net profit indicator that a taxpayer realizes from a controlled transaction with the net profit
earned in comparable uncontrolled transactions.

Net profit indicators are less affected by transactional differences than is the case with price, as used in the CUP method.
Most often, the net profit indicator that is tested in a TNMM is the operating profit.

Sales prices to independent customers 1,000

Costs of goods sold (600)

Gross Profit 400

Indirect expenses (200)

Operating Profit 200

©2021 Grant Thornton. All rights reserved.

Transaction Profit Split Method (TPSM)
The transactional profit split method first identifies the combined profits to be split for the associated entitys from the
controlled transactions in which the associated entitys are engaged. It then splits the combined profits between the
associated entitys on an economically valid basis that approximates the division of profits that would have been
anticipated between independent entitys.

In some cases, the combined profits will be the total profits from the controlled transactions while in other cases, the
combines profits will be the residual profit that cannot be readily assigned to one of the parties such as the profit arising
from unique intangibles.

Controlled
transaction
Associate 1 Contribution to the controlled Contribution to the controlled Associate 2
transaction: x% transaction: y%

Share of the profit from the Share of the profit from the
controlled transaction: x% controlled transaction: y%

©2021 Grant Thornton. All rights reserved.

Tested Party

The 'tested party’ is the Entity to which a transfer pricing method is applied in the most reliable manner and for which the
most reliable comparable can be found. The Tested Party can be either one of the associated entities within the controlled
transaction.

The choice of the tested party should be consistent with the functional analysis of the transaction. The key factors for
determining are as below:

• one to which a transfer pricing method can be applied in the most reliable manner;

• for which the most reliable comparables can be found;

• it will most often be the one that has the less complex functional analysis; and

• fewest adjustments in computations are needed.

©2021 Grant Thornton. All rights reserved.

Tested Party – Per Method

i. In CUP, there is no tested party.

ii. In RPM, the tested party is the buyer (often, a distributor).

iii. In CPM, the tested party is the seller (often, a manufacturer or service
provider).

iv. In TNMM, the tested party can be either the seller or the buyer.

v. In TPSM, both parties to the transaction are tested. For this reason, the
transactional profit split method is often referred to as a “two-sided method”,
while the cost plus, resale price and TNMM are referred to as “one-sided
methods”.

©2021 Grant Thornton. All rights reserved.

Documentation Requirements

©2021 Grant Thornton. All rights reserved.

Specifications
Transfer Pricing Documentation must conform to the following:

1) It must be in writing
2) It must be sufficient to confirm that transfer prices are at arm’s length
3) It must analyze the controlled transactions, including business description, functional, asset and risk analysis,
economic and comparability analysis.
4) It must be prepared/updated for every year
5) It must be in place before the due date for furnishing the final income tax returns for the year
6) It must be provided upon request.

Persons required to prepare TP Documentation:

▪ Multi-National entitys (MNEs) entering into intercompany transactions.
▪ Companies within Uganda whose related party transactions exceed Ushs 500,000,000.

©2021 Grant Thornton. All rights reserved.

Policy vs Study
• Each entity prior to having transactions with its associate entities
ought to have in place a Transfer Pricing Policy that clearly outlines
the guidelines to be followed whilst transacting.

• This document is prepared once and only revised if there are new
types of transactions or changes in the method of pricing in
transactions with associate entities.

• Each entity ought to prepare a Transfer Pricing Study for each

financial period. These should ideally be documented prior to the due
date of filing income tax returns in the financial year.

• In addition to the Transfer Pricing Policy and Study, entities ought to

maintain evidence or support documents to the functions played by
each entity, basis of pricing between related parties, agreements and
reports where applicable for inter-company services as well as specific
documentation regarding actual transactions for each year.

©2021 Grant Thornton. All rights reserved.

 Content TP Policy TP Study

Transfer Pricing Regulations

Role of key management

Shareholding structure

Business overview

Industry analysis

Value in Ushs of the intercompany transaction

Functions performed by each entity

Risks realized in the intercompany transactions

Assets employed in the intercompany transactions

Description of the method selected

Transfer pricing analysis of each intercompany transaction

Details of the selection of comparable companies

©2021 Grant Thornton. All rights reserved.

Thank you!
Questions

35 ©2019 Grant Thornton Taxation Services Ltd. All rights reserved.