Johannesburg — THE world is experiencing a commodities boom fuelled by rampant industrial growth in China. Africa can expect foreign direct investment to rise significantly.

A report by the United Nations Conference on Trade and Development (Unctad) says there was a 28% increase in foreign investment in the continent. It expects significant new investment, particularly as foreign companies invest in exploiting Africa's natural resources.

There has been a steep rise in investment in the continent's petrochemical industry. Investment services are also on the increase. The report says this can be seen in the telecoms sectorm, where the number of cellphone subscribers in Africa rose from 1,2-million in 1996 to 51-million last year.

Major hotel chains are pursuing opportunities for resorts in Africa. "The focus for growing hotels and resorts will be exclusively Africa, the Indian Ocean islands and Middle East, and will centre on areas of natural beauty or city-based hotels with casinos."

The Unctad report says changes in economic policies in many African countries play a role in attracting foreign investment. Countries such as Ghana, Zambia and Benin are undertaking "investment policy reviews" to improve their investment climates. Angola enacted laws on private investment, allowing projects to be undertaken with participation of domestic and foreign investors.

The Democratic Republic of Congo adopted an investment law reinforcing its mining code and abolishing previous requirements that saw investment projects approved in "an ad hoc manner".

The common denominator in all these developments is the involvement of a foreign (to Africa) multinational expanding operations into Africa via incorporated and/or unincorporated investment structures. This implies the involvement of at least two tax jurisdictions and the potential for disagreement on the extent of the profits in each country. This scenario is the classic transfer-pricing dilemma.

Transfer pricing has been slow in coming to Africa. In SA, transfer-pricing legislation has been up and running since 1995, and active enforcement soon followed with a dedicated task team at the South African Revenue Service, where highly qualified and experienced transfer-pricing specialists have been employed. SA also embraces the Organisation for Economic Co-operation and Development guidelines to a large extent, and South African tax practice has invested in the development of several transfer-pricing specialists.

To date we are not aware of any significant income-tax adjustments relating to transfer pricing in any African country.

We are aware of sporadic attacks on multinationals in various African countries notably Zambia and Botswana but in general these were isolated incidents. Past experience has shown that the African revenue authorities lag behind SA, and a "wait-and-see" approach has been adopted with various other tax laws such as VAT and employee tax.

More and more we are becoming aware of a transfer-pricing investigation launched by African revenue authorities on multinationals operating in Africa.

SA has long been treated as the gateway into Africa. Many global multinationals have opted to use SA as the stepping stone into other African destinations. Many South African multinationals have preferred expansion into Africa above other international expansion. It has been widely reported that it is difficult to trade in Africa due to various barriers like language, lack of infrastructure, lack of an educated workforce and rampant bureaucracy. Yet a presence in Africa has allowed multinationals to tap into this largely virgin market.

Significant profits were to be made by the select few that got it right. These profits were then relocated as quickly as possible. Another tactic was to show as little profit as possible in the local African entity, by inflating prices of goods bought from offshore group companies or by inflating the prices paid for services rendered by group companies.

The time has now come for that scenario to change. African tax jurisdictions have latched onto the indiscriminate relocation of profits, which if taxed would assist greatly in advancing the economy of the African countries.

Various methods are now being implemented to stop this outflow of funds, and transfer pricing in various shapes and forms has been earmarked as a way to make a "quick buck". The result is the unprecedented implementation of legislation with a smell of transfer pricing.

Leading this wave of investigations are the eastern African countries of Kenya, Uganda and Tanzania and the countries bordering SA, including Namibia and Botswana. It is highly unlikely the rest of the countries will refrain from keeping up with their neighbours, and we expect a wave of transfer-pricing adjustments across the continent to follow suit.

Global multinationals operating in Africa and wanting to show that connected-party transactions take place at arm's length face severe problems, including lack of country-specific comparable data, lack of transparency in implementation procedures and lack of guidelines.

No guidelines on the preferred methodology are published, and the taxpayer is generally left in the dark as to the methodology that may be followed to illustrate the arm's-length principle.

The arm's-length principle is generally not defined, and adjustments are justified on the basis that transactions should be conducted in a way that provided a similar profit had the transaction been conducted between persons who do not have a special relationship. No reference is made to advanced pricing arrangements, mutual-agreement procedures or any of the other known (to the transfer-pricing world) and accepted methodologies. A reciprocal adjustment would probably not be on the cards.

All this may result in a huge additional global tax bill for a multinational.

Grove is Deloitte global transfer-pricing team associate director.