Workers at a flower local flower farm on June 9, 2020. A KRA investigation revealed that flower grower Van Den Berg’s Kenyan operations had been declaring lower-than-expected revenues.

| Cheboite Kigen | Nation Media Group

The slick number games firms are using to avoid tax

What you need to know:

  • KRA found that the Dutch-owned flower grower had been using clever accounting to declare lower revenues to attract lower taxes.
  • It was selling roses to its Dutch parent firm at prices significantly lower than the market rates.
  • As the two firms are related, it is expected that they have lower prices in mutual dealings.

In 2016, the taxman put flower grower Van Den Berg through an audit and discovered it had been selling a good chunk of farm produce to its Dutch parent company at extremely low prices.

While the audit appeared random, its findings would turn out to be nothing close to that as the Kenya Revenue Authority (KRA) found that the Dutch-owned flower grower had been using clever accounting to declare lower revenues to attract lower taxes.

The investigation revealed that Van Den Berg’s Kenyan operations had been declaring lower-than-expected revenues between 2008 and 2013 because it was selling roses to its Dutch parent firm at prices significantly lower than the market rates.

Half the market price

An analysis of the books indicated that, during the audit period, Van Den Berg (Kenya) Ltd priced each of its rose stems sold to Van Den Berg Holding BV (Netherlands) at €0.10 (Sh12.84).

Records from flower dealers indicate that, in 2008, the price of each rose stem was €0.19 (Sh24.39). This means that Van Den Berg Kenya was selling roses to its parent company at half the market price.

As the two firms are related, it is expected that they have lower prices in mutual dealings.

However, the significant difference in prices used by Van Den Berg showed that the flower grower’s parent company was using the Kenyan subsidiary to suppress profits in Kenya and declare huge earnings in the Netherlands, which has a much lower corporation tax rate than Kenya.

By the time the audit was complete, KRA had not only uncovered a Sh1.3 billion debt owed to it for the five-year period, but also found that Van Den Berg’s Kenyan operation was falsely listed as a medium taxpayer owing to the manipulated revenues.

Van Den Berg was immediately moved to KRA’s Large Taxpayers’ Office while officers sent agency notices to the flower firm’s bankers to recover Sh1.3 billion owed.

Dismissed case

In March, High Court Judge Momanyi Bwonwong’a dismissed a case Van Den Berg filed in 2016 to stop collection of the money and to compel the KRA to use the same calculations that the flower grower had used in the period under scrutiny.

Van Den Berg argued in court that it used the resale price method (RPM) to value its roses. It insisted that the method considers all physical attributes of a flower.

KRA used the comparable unit price method (CUP), which looks at how much other organisations buy or sell a flower for.

Van Den Berg insisted that Kenyan laws allow it to choose either pricing system to determine the cost of each rose stem and eventually the amount of taxes due.

Interestingly, Van Den Berg (Kenya) failed to provide auditors with some crucial documents that would have confirmed if it was playing dirty. Some of the documents it gave to the taxman’s number crunchers were in Dutch, which was deemed as a trick to at frustrate tax calculation.

With the suit now dismissed, Van Den Berg could end up paying the Sh1.3 billion debt the taxman is demanding from it.

Transfer pricing

The gimmick Van Den Berg used is known in corporate circles as transfer pricing. Two related companies do curious trade with each other, which appears to the layperson to make no business sense.

The company that makes money from the trade is usually registered in a tax haven, hence gets to enjoy almost all the profit it makes.

Profit shifting

Transfer pricing is just a tool, and the endgame—declaring profit in a tax haven—is known as profit shifting in corporate lingo.

Van Den Berg is, however, just one of several flower growers using such gimmicks to avoid paying taxes.

Another company in the same industry, Primarosa Flowers, was also selected for audit in 2016.

Primarosa’s beneficial owners are Deepak and Rashmi Kamani, who are Kenyan citizens.

However, the flower growing company’s parent company is Crest Overseas Holdings Ltd, which is registered in the British Virgin Islands — with one of the world’s lowest tax rates — and is a popular haven.

Borrowed money

The Primarosa audit was to cover the financial years between 2011 and 2014. The taxman found that Primarosa had borrowed money from banks.

It would then give interest-free loans to its sister company, Riverside Ten Ltd. This means Primarosa was using loans with interest to advance funds to its sister company at no cost.

Automatically, this would create a cash shortfall for Primarosa, which would then use the situation as an excuse to declare less revenue and pay less taxes.

The audit also revealed that Primarosa did several transactions with other foreign companies with the Japanese Yen as the trading currency.

Despite the Yen being an acceptable currency in Kenya, Primarosa would change the money to dollars and then to the Kenya shilling. The multiple transactions saw Primarosa appear to have lost Sh5 million, thereby lowering its tax liability.

Three years before the 2016 audit, Primarosa had been found to have taken a Sh1.6 billion loan from its parent company Crest Overseas and hidden interest payments from its books of accounts. The interest payments would have been subject to tax.

Most notorious

The taxman found that Primarosa was to repay Sh2.1 billion to Crest Overseas, which auditors insisted was an indication of payable interest.

Kenya’s flower industry is one of the most notorious user of transfer pricing as a profit shifting tool.

As Kenya enjoys being branded Europe’s flower garden, the country’s taxman is constantly playing cat-and-mouse games with some of the biggest industry players, who use sister companies to avoid paying taxes.

The flower growers do business with their sister companies and the services provided are difficult to account for despite having a huge price tag, a move that eventually reduces the local firm’s tax liability.

The intricate corporate play involves restriction of flower sales by the Kenyan company to its sister firm, often registered in countries that charge little or no tax, at minuscule prices.

Because the companies are related, the flower price is well below the usual market rates, which incurs the local company huge losses, even as its sister company registered outside Kenya swims in billions as profit.

As the local firm makes loss after loss, there is little to tax. And because the profit-maker in this structure is a company registered elsewhere, Kenya Revenue Authority (KRA) has no power to demand anything.

To the layman, the local firm operating year after year on losses makes no business sense.

In reality, however, the company’s owners smile all the way to the bank, but in other countries.

Transfer pricing and profit shifting cost the taxman billions.

Collection targets

The effect of these gimmicks is that the taxman misses collection targets, while piling pressure on other taxpayers by increasing their liability.

What should scare the taxman the most, perhaps, is the fact that Kenyan businessmen are now also using transfer pricing to avoid payment of taxes, as the Deepak Kamani family-owned Primarosa Flowers has proven.