South Africa: Transfer pricing implications of catch-up payments and retroactive adjustments

South Africa: Transfer pricing implications

The South African Revenue Service (SARS) in a recent tax court matter reiterated that tax is an annual event and therefore, expenses and/or allowances claimed must match the year during which such expenses or assets actually incur. The taxpayer agreed with SARS, but still went ahead and claimed an allowance pertaining to a prior year of assessment in the year under review, because the taxpayer was not able to claim the allowance in the relevant year.

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Transfer pricing implications

The principles discussed in the case may also have transfer pricing implications.

The principle that tax is an annual event is also applicable to transfer pricing. A taxpayer engaging in cross-border intra-group transactions must do so at arm’s length with respect to each year of assessment. If the arm’s length test is not satisfied and there is a tax benefit for one of the parties to the transaction, then a transfer pricing adjustment must be made.

In order to achieve an arm’s length result, taxpayers often make use of retrospective transfer pricing adjustments. For example, if the taxpayer overpaid its foreign connected-person supplier during the year and does not meet the arm’s length operating margin set in terms of the transfer pricing policy, the supplier would need to issue a credit note to retrospectively adjust the operating margin to the arm’s length level.

The question often is at what point in time must the retrospective transfer pricing adjustment be made. If the retrospective adjustment is performed before the financial accounts are closed, the profitability as per the financial statements would reflect an arm’s length result in line with the transfer pricing policy.

It has been argued that if a catch-up payment (additional invoice or credit note, depending on the case) is made in a subsequent year, this would be acceptable and would result in the taxpayer having transacted at arm’s length in the year under review because the subsequent catch-up payment (when taken into account for the tax calculation of the profitability achieved in the year under review) still results in arm’s length profitability. Thus, this view suggests that the timing of the adjustment is not relevant for determining arm’s length as long as the tax implications and tax treatment are correctly considered in the relevant year of assessment.  

KPMG observation

In applying the principle followed in the tax court case, tax professionals believe it is doubtful that SARS would agree with a taxpayer performing a retrospective adjustment in terms of a catch-up adjustment in a subsequent year and treating it as part of the calculation of taxable income of the subsequent year.

Therefore, taxpayers not only need to document their transfer pricing policy, but determine that it is correctly implemented in order to avoid costly disputes.


Read a March 2021 report [PDF 154 KB] prepared by the KPMG member firm in South Africa

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