Section 140A of the Act imposed on the taxpayer an obligation to apply the arm's length principle to a controlled transaction. Section 140A(2) says, "..…. where a person in the basis period for a year of assessment enters into a transaction with an associated person for that year for the acquisition or supply of property or services, then, for all purposes of this Act, that person shall determine and apply arm's length price for such acquisition or supply". Subsection 140A(3) gives the power to the DGIR to make adjustment if the income reported is not at arm's length. The application of Section 140A has to be read together with the Rules and Guidelines.
The above legal provisions place the burden of proof of an arm's length price in a transaction where a taxpayer transfers goods or services with its associated persons, on the taxpayer. The contemporaneous transfer pricing documentation has to be prepared based on the requirement of the Rules and Guidelines to justify their pricing is at arm's length. The facts presented in the transfer pricing documentation will be analysed and compared with the actual transaction and condition. In cases, such as, where the facts presented by the taxpayer in the transfer pricing documentation is different from the actual conduct of the taxpayer, the information provided will be considered as incorrect information and be subjected to the penalty under paragraph 113(2)(b) of the Act.
Paragraph 113(2)(b) provides that where a person gives any incorrect information in relation to any matter affecting his own chargeability to tax or the chargeability to tax of any other person, then, if no prosecution was made under under subsection 113(1) in respect of the incorrect return or incorrect information, the Director General may require that person to pay a penalty equal to the amount of tax which has been undercharged in consequence of the incorrect return or incorrect information or which would have been undercharged if the return or information had been accepted as correct.
Below are some of the issues and conditions which may lead to a penalty being imposed when an adjustment is made to the reported income:
(a) Form and substance is not the same; i.e. where the agreement does not reflect the actual conduct between the taxpayer and its associated person.
(b) Comparables selected by the taxpayer do not meet all of the economically relevant characteristics or comparability factors set out in the Rules.
(c) Inaccurate or misleading explanation of function, assets and risk; e.g. where a taxpayer claims that it does not bear the foreign exchange risk but in substance it does, and this is reflected in its accounts.
Penalty will not be imposed in cases, where:
(a) transfer pricing documentation is submitted within 30 days upon request by the DGIR for transfer pricing audit cases which have commenced before 1 January 2021; or
(b) transfer pricing documentation is submitted within 14 days upon request by the DGIR for transfer pricing audit cases which have commenced on or after 1 January 2021 and;
(c) the transfer pricing documentation prepared fulfils the requirement of the Rules and these Guidelines, wherein reliable and correct information is provided by the taxpayer.
The penalty rate is as listed in the Transfer Pricing Audit Framework.