Transfer pricing in Zimbabwe: A review of the allegations against Econet Wireless

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Understanding Zimbabwe's relatively new transfer pricing laws is crucial to foreign investors in Zimbabwe, foreign businesses in the country, and Zimbabwean organizations doing business with offshore entities. The crux of the laws, like all transfer pricing legislation, is that they allow the Zimbabwe tax authorities to adjust a taxpayer's taxable income to include income that, if the arm's length principle had been applied, would have accrued to either of the parties.

Legislation

The Zimbabwe Finance (No.2) Act 9 of 2015 introduced new transfer pricing regulation with effect from the year of assessment beginning January 1, 2016. The regulation was introduced by the inclusion of section 98B and the Thirty-Fifth Schedule to the Income Tax Act [Chapter 23:06].

Section 98B introduced the concept of a controlled transaction, which is a transaction, operation or scheme with an associated person. The section reinforces the application of the arm’s length principle, being that the taxable income derived in a transaction between associated persons must be equal to that which would have been derived in a transaction "between independent persons, in comparable transactions carried out under comparable circumstances." Associates are defined as follows:

1. Any person, other than an employee, who acts in accordance with the directions, requests, suggestions or wishes of another person
2. A near relative
3. A partner of the person
4. A partnership in which the person is a partner, if the person, either alone or together with one or more associates, controls 50 percent or more of the rights to the partnership’s income or capital
5. The trustee of a trust under which the person, or an associate of the person, benefits or may benefit
6. A company which is controlled by the person
7. Where the person is a partnership, a partner in the partnership who, either alone or together with one or more associates, controls 50 percent or more of the rights to the partnership’s income or capital
8. Where the person is the trustee of a trust, any other person who benefits or may benefit under the trust

Notwithstanding the wide definition of associate, section 98B is not limited in application to associated persons, but also to any person who is resident in Zimbabwe and engages in any transaction with a person resident outside Zimbabwe in a jurisdiction considered by the Commissioner-General of the Zimbabwe Revenue Authority (ZIMRA) to provide a taxable benefit in relation to that transaction.

The Commissioner is, therefore, given wide powers in determining the jurisdictions that are considered to provide taxable benefit, and may do this on a case-by-case basis.

The section is in addition to section 98 of the Income Tax Act, which is generally referred to as the “tax avoidance section,” and which already codified the arm's length principle – although with much less certainty than the position under section 98B.

Econet Wireless

In 2017, allegations of transfer pricing violations and externalization of funds were made against Econet Wireless, in terms of which it was alleged to have deprived the tax authorities of US$300 million.¹ It was alleged that Econet was involved in "a transfer pricing scheme that involved the overstatement of prices on equipment bought from Econet Capital – its sister company based in Mauritius."²

When a business in Zimbabwe does business with a company outside of the country, whether it is a sister company or not, ZIMRA may scrutinize the transaction for possible transfer pricing schemes. How, then, does ZIMRA determine the correct value of the transaction at arm’s length? The answer is in the Thirty-Fifth Schedule to the Income Tax Act. The different methods are, briefly, as follows:

1. The Comparable Uncontrolled Price Method, which requires comparing the price charged in that transaction to the price charged in a comparable uncontrolled transaction.
2. The Resale Price Method, which requires comparing the resale margin that a purchaser of property in a controlled transaction earns from reselling that property in that transaction with the resale margin that is earned in comparable uncontrolled purchase and resale transactions.
3. The Cost Plus Method, which requires comparing the mark-up on those costs directly and indirectly incurred in the supply of property or services in a controlled transaction with the mark-up on those costs directly and indirectly incurred in the supply of property or services in a comparable uncontrolled transaction.
4. The Transactional Net Margin Method, which requires comparing the net profit margin relative to an appropriate base, such as costs, sales or assets, that a person achieves in that transaction with the net profit margin relative to the same base achieved in comparable uncontrolled transactions.
5. The Transactional Profit Split Method, which consists of allocating to each associated person participating in a controlled transaction the portion of common profit (or loss) derived from such transaction that an independent person would expect to earn from engaging in a comparable uncontrolled transaction.

In its response to the transfer pricing scheme allegations, Econet stated that:

"The Mauritius procurement arm of the group extended three years' credit to the Zimbabwe Company. It accepted payment partly in shares and partly cash. The price to the Zimbabwe Company included finance charges covering the three-year period which were equivalent to 18 percent per annum of the cost of the equipment. The finance charges were quite low compared to the rate of between 24.7 percent to 44.7 percent per annum (as per the Monetary Policy Statement issued on 28 July 2010) at which the company would have borrowed locally at the time."³

Accordingly, Econet used the Comparable Uncontrolled Price Method to justify the amounts charged and paid to its sister company. It is important, therefore, for businesses to be aware of the different methods and how they may be applied in the event that they are in a position where the tax authorities require a justification of a transaction value. A business cannot, however, simply pick the method that allows them the most benefit, but must select the most appropriate method for the transaction.

It must be borne in mind that, in all likelihood, the method that will be deemed to be most appropriate is the one that will result in more tax being paid over to the tax authorities, so a transaction may need to be tested against all the methods.

The result

In Zimbabwe, as in other jurisdictions, the law says that, when it comes to tax issues, you pay now, argue later.⁴ The tax authorities are also given the authority to appoint a bank as their agent and instruct it to pay over funds held in a taxpayer’s account by means of a garnishee order. Accordingly, if an adjustment is made to the amount of tax due by the taxpayer as a result of transfer pricing, ZIMRA may lawfully take the tax, penalty and interest from the taxpayer’s bank account.

This is what initially happened in the Econet matter. ZIMRA issued a garnishee order over Econet’s accounts for US$67 million. Though the garnishee order was subsequently set aside, with the consent of ZIMRA, by an order of the High Court, setting aside such orders is no easy feat. The court has been known to sympathize with taxpayers who have been bankrupted by garnishee orders while still upholding them as lawful.

Zimbabwe's newly elected president has adopted the mantra that the country is open for business. Accordingly, though transfer pricing issues have not been vigorously pursued by the tax authorities in Zimbabwe in the past, it is advised that, to avoid a potential financial setback, any offshore entity or individual doing business in the country should take transfer pricing considerations into account in every transaction.

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¹ https://www.techzim.co.zw/2017/02/econet-responds-tax-evasion-transfer-pricing-scandal-dismisses-allegations-says-case-already-courts/
² Ibid
³ Ibid
⁴ Section 69(1) of the Income Tax Act

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