This article aims at responding to the key question of whether interest should be charged on intercompany payables from a tax perspective in Ghana.
What is an intercompany payable?
Trade payables generally arise when a business makes purchases or receives services on credit from its suppliers. When the two parties (i.e., supplier and a customer or a beneficiary/recipient) are members of the same group of companies or associates, the trade payable as a result of a supply of goods or services between these parties is referred to as intercompany trade payables.
In addition to intercompany trade payables, it is also a common practice for members of the same group of companies to settle third party expenses on behalf of each other and recharge the cost or expenses incurred to the party that actually benefitted from the service or goods for reimbursement.
While most businesses would ordinarily buy from and sell to a member of the same group of companies, the total value of intercompany payables for a business at any time represents the unpaid purchases and any costs recharged to that business which remains unpaid.
The value of an intercompany trade payable usually depends on several factors such as the following:
- The group policy around settlement of purchases made on credit. The longer the credit period, all else being equal, the greater the total value of intercompany payables;
- Internal challenges faced by the local operating company. For instance, it would be common to have an increase in the intercompany payable balance as a result of cash flow issues faced by the local operating company; and
- The impact of exchange controls. Accounts payables could be building-up as a result of exchange controls limiting or delaying amounts that are due to related parties.
Intercompany payables can be seen as a cheap way for a company to finance its working capital or short term financing needs. Given that intercompany payables represents one of the options available for short term financing needs of a company, should this attract interest from a tax perspective?
Ghanaian tax laws classify accounts payables (including intercompany payables) as part of debt obligations, in the same way as debentures, deposits and treasury bills. Given the inclusion of accounts payable or intercompany trade payable as part of the definition of debt and the general distinguishing fact that a debt ordinarily yields a return called interest, the question of charging interest on intercompany payables becomes even more relevant.
Should interest apply to intercompany payables for tax?
Let us assume a parent company selling raw materials to its Ghanaian subsidiary (‘Ghana Opco’) on credit. If the credit period involved is short (no longer than would be acceptable in the case of a transaction with a unrelated third party customer), this could be considered as an acceptable way of ordinarily financing the business and Ghana Opco would not be exposed to the imputation of any interest on the intercompany payables from a tax perspective. However, consistent with the practice in many countries, once a trade payable/reimbursement of expenses from an associate has been outstanding for longer than would be acceptable in the case of a third party customer, it is arguable that the intercompany payable has become a loan, in substance. By not paying the money back, the company is in effect receiving funds from the group lender and should therefore be subject to interest.
Trade payables/reimbursement of expenses will usually be treated as short-term debt in the financial statements of the trading company, but there may be a balance outstanding for a substantial period if the balances are rolled forward year on year. The change in the nature of the debt may not be recognised in the financial statements of the company and, in some cases, the company may even be unaware of the implications of receiving favourable treatment from an affiliate by way of interest-free financing. Since transfer pricing requires no motive test, it is irrelevant whether the arrangement is intentional or not. Also, with balances on trade account tending to fluctuate, the fact that it may be difficult to identify precise sums outstanding or the duration of the lending does not mean that the legislation applies any less to these ‘informal’ loans than it does to formal loans that are covered by written lending agreements. Hence, a deemed interest for tax purposes should apply on the period over the commercially acceptable credit period.
What constitutes an appropriate period is not a straightforward answer. It is determined on a case-by-case basis taking into account various factors such as the industry practice, the company business strategy and the pricing of the underlying goods/services which have given rise to the payable. The overall aim in this analysis is to ensure that the arrangement between the related parties do reflect commercially acceptable arrangements between independent persons under similar circumstances.
Potential tax implications
In Ghana, interest payments are subject to withholding tax. This means, the debtor, in the above example, Ghana Opco, may be required to withhold and remit tax on the deemed interest amount.
Follow-up questions to this would include whether the deemed interest can be used to offset the chargeable income of Ghana Opco and should the intercompany payables and the deemed interest be considered when determining whether or not the borrower is thinly capitalised?
Computing the interest amount (if applicable)?
Obviously, the interest rate to apply for intercompany payables that are usually beyond the commercial period cannot be set arbitrarily. The established conditions between independent parties is a relevant guide when determining the most appropriate interest rate for overdue intercompany trade finance and reimbursements.
This means that the interest rate applicable should be at arm’s length and this should be done in accordance with the transfer pricing rules and methodology acceptable under Ghanaian tax laws. It is also important to remember to calculate the interest only for the period in excess of the period considered to be reasonable or benchmarked interest-free period.
Who is at risk?
All entities with large intercompany payable balances may be at risk. This risk is present for all businesses but the risk may be heightened for consistent loss making businesses, low profit making businesses and for free zone entities.
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The writer, George Kwatia is a Partner in PwC Africa, the Country Tax Leader for PwC Ghana and Sierra Leone and the PwC West African Mining Leader.
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