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Transfer Pricing

Apr 19, 2023 2TRANSFER PRICING

S-61 Shivendra Kant Tewari Delhi Police

S-17 Chandrakant Chellani Indian Air Force

S-71 Vivek Dwivedi Marg Limited

S-52 Ritesh Arora Bharti Airtel

S-25 Kapil Juneja Ciena India

N-47 R.K Mahapatra Skyline Business College

N-4 Amit Jain Northern Railways

N-22 Indranil Chatterjee NDPL

Transfer Pricing

Plan1. Introduction to Transfer Pricing2. Transfer Pricing Policy3. TP Determination Process &

Documentation4. Indian Perspective5. OECD guidelines6. Global Perspective7. TP Methods8. Case Studies – Discussions9. ConclusionApr 19, 2023 3TRANSFER PRICING

Introduction to TP : Definitions

§ Transfer Pricing is simply the act of pricing of goods and services or intangibles when the same is given for use or consumption to a related party.

§ OECD defines Transfer Pricing: “Prices at which the Enterprises transfers fiscal goods and intangible property or provides services to Associated Enterprises”.


Reasons for Transfer Pricing

§ Corporate Tax Differential.§ High Customs Duty§ Restriction on Profit repatriation§ Ownership Restrictions§ Fiscal Incentives§ Loss of Government revenues§ Leads to distortion in BoP§ Affects the location of International

production and employment.§ Affects the FDIApr 19, 2023 5TRANSFER PRICING

Transfer Pricing: Conflicting

Perspectives§ Government’s Perspective: Tax

erosiontaxable profits of MNEs are not artificially

shifted outTrue reflection of economic activity

undertaken in the country by MNE§ MNE’s view: Management tool

a decision with the group objectives in mind

a management tool to manage the value chain


Historical Background

§ Goes back to 1915 when it was first introduced in UK.

§ Followed by US in 1917.§ In British India, it finds mention in the Income-

tax Act, 1922.§ In 1960’s USA - more stringent TP legislation

- Internal Revenue Service begins to audit TP of MNEs.

§ In 1979 OECD report – stating the guiding principles for states to formulate TP policy


Transfer Price Regulations

International§ OECD formulated

“Guidelines on transfer pricing”. They serve as generally accepted practices by the tax authorities

India§ The Finance Act

2001 introduced the detailed TPR w.e.f. 1st April 2002

§ The Income Tax Act§ Customs Law § Excise Law


OECD

§ Formed as part of Marshal plan after WW-II§ 30 Member: Developed & Democratic

Countries § Provide Statistics, Analysis, Forecast of Socio-

Economic situation§ Assist Member Nations to:

o Formulate Domestic and International Policies

oCompare Experiences and Identify Best Practices in economic, social and tax policy


OECD’s Recommendatio

ns§ Arm’s Length Principle (Article 9 of the

OECD Model Tax Convention):“ Where conditions are made or imposed between

the two enterprises in their commercial or financial relations which differ from those which would be made between independent enterprises, then any profits which would, but for those conditions, have accrued to one of the enterprises, but, by reason of those conditions, have not so accrued, may be included in the profits of that enterprise and taxed accordingly.”


TRANSFER PRICING POLICY

Apr 19, 2023 TRANSFER PRICING 11

Transfer Pricing Policy

§ ARM’s Length Standard (ALP): OECD encouraging nations to adopt the “Arms

Length Principle” (ALP)

ALP are those prices that prevail in transactions between two unrelated entities

The Tax Authorities : MNEs to have transactions between related enterprises based on ALP.

Defaulting MNE faces : double taxation / Heavy Penalties & possibility of costly litigation.


ARM’s Length pricing

§ Arm’s Length Price (ALP) – This is the price that would be charged in uncontrollable transactions, i.e. when parties are unrelated. Two most common methods of doing this are1. Checking the price in a similar transaction

between two totally different parties and A B vs. CD.

2. Checking the price in a similar transaction between one of the involved party and one unrelated party. AB vs. AC.


ALP: Some issues

§ More than one Transfer Price, that are defendable in any transaction.

§ Transfer pricing band rather than a singular transfer price.

§ Roadblocks in implementing ALP:Specialized nature of goods/ services and

uniqueness of intangiblesNon availability of comparable transaction

between Independent entitiesA huge administrative burden on part of tax

authoritiesConfidentiality issues


Arm's length price:

§ Shall be determined by one of the methods specified in Section 92C in the manner prescribed in Rules 10A to 10C that have been notified vide S.O. 808 E dated 21.8.2001

§ Specified methods are as follows:a. Comparable uncontrolled price method;b Resale price methodc. Cost plus methodd. Profit split method ore. Transactional net margin methodf. Any other method as may be prescribed by

Central Board of direct taxes


Associated Enterprises

§ In nutshell:Associated Enterprise in relation to

another enterprise means § An enterprise which participates, directly or

indirectly, or through one or more intermediaries, in the management or control or capital of the other enterprise

§ Enterprises in which common persons participate directly or indirectly, through one or more intermediaries in their management, control or capital


TRANSFER PRICING

DETERMINATION PROCESS AND

DOCUMENTATION


TP Determination Process

04/19/23 TRANSFER PRICING 18

Transfer PriceReqmts of Different Tax Authorities

Mgmt Goal of Profit Maximisation

Mgmt ApproachNeutral / Pro Active

Fact Finding & Comparability Analysis

Study Transaction :Tangibles / Intangibles

Identify Comparable Tx, Study Differences

Economic & Financial Analysis

Apply Adjustments

Documentation Requirement

§ Information concerning Associated Ent.§ Info on Independent Ent performing similar

functions§ Nature & Terms of Transaction§ Economic & Market Conditions§ Business relation of Associated Ent§ Sales & Operational results of last few Yrs§ Info about functions performed§ Info about risks assumed§ Record of Negotiations04/19/23 TRANSFER PRICING 19

INDIAN PRESPECTIVE


Transfer Pricing and India

§ It finds mention in the Income-tax Act, 1922.

§ Section-92 of Income Tax Act, 1961, provided that if the tax authority believes that the transaction between the resident and non resident resulted in less than ordinary profit for the resident due to close connection between the two , it can recompute the income of the resident.


§ This section comprises of two parts.Part 1: prescribes the contents on which charge

arose that is there should be a business carried out between the resident and the non resident and the clause of business was so arranged as to produce non profit or produce less than expected profit

Part 2: imposed the charge empowers the revenue officer to determine the amount of profit which may reasonably be deemed to have been desired from there


Section 92 of Income Tax 1961 Contd.

Shortcomings of Section 92

§ The provision applied to transactions between a resident and a non resident. Isolated transactions would be outside the preview of the section.

§ The provision is not applicable, when a non resident enter into a transaction with another non resident. Therefore, business transactions between a permanent establishment of a non resident company and a non resident were not covered.

§ Intangibles and services are not covered.§ Applies only when a business is carried on between two closely

connected enterprises.§ The emphasis is on the ‘profit’ rather than adjustment of prices or

income.§ The term close connection was not defined and therefore there was

arbitrariness in applying the provision. § There are no rules concerning documentation.§ Burden of proof is on the Assessing Officer without any

documentation in his possession.§ Rules 10 and 11, for determining ‘profits’ are not in accordance with

the arm’s length principle.


Objective of the amendments:

• The increasing participation of multinational groups in economic activities in the country. The profits can be controlled by the Multi national group, by manipulating the prices thereby leading to erosion of tax revenues.

• Provide a statutory frame work which can lead to computation of reasonable fare and equitable profits and tax in India.


New Section 92

The Finance Act, 2001 substituted section 92 with a new section and introduced new sections 92A to 92F in the Income-tax Act, relating to computation of income from an international transaction having regard to the arm's length price, meaning of associated enterprise, meaning of information and documents by persons entering into international transactions and definitions of certain expressions occurring in the said section.


Section 92A

§ Meaning of associated enterprise.(1) Associated enterprise, in relation to another

enterprise, means an enterprise- (a) which participates, directly or indirectly, or

through one or more intermediaries, in the management or control or capital of the other enterprise; or

(b) in respect of which one or more persons who participate, directly or indirectly, or through one or more intermediaries, in its management or control or capital, are the same persons who participate, directly or indirectly, or through one or more intermediaries, in the management or control or capital of the other enterprise.


Section 92A continued

§ Deeming Provisions.(2) Two enterprises shall be deemed to be

associated enterprises if, at any time during the previous year,- (a) one enterprise holds, directly or indirectly,

shares carrying not less than 26% of the voting power in the other enterprise; or

(b) any person or enterprise holds, directly or indirectly, shares carrying not less than 26% of the voting power in each of such enterprises; or



(c) a loan advanced by one enterprise to the other enterprise constitutes not less than 51% of the book value of the total assets of the other enterprise; or

(d) one enterprise guarantees not less than 10 % of the total borrowings of the other enterprise; or

(e) more than half of the board of directors or members of the governing board, or one or more executive directors or executive members of the governing board of one enterprise, are appointed by the other enterprise; or



(f) more than half of the directors or members of the governing board, or one or more of the executive directors or members of the governing board, of each of the two enterprises are appointed by the same person or persons; or

(g) the manufacture or processing of goods or articles or business carried out by one enterprise is wholly dependent on the use of know-how, patents, copyrights, trade-marks, licenses, franchises or any other business or commercial rights of similar nature, or any data, documentation, drawing or specification relating to any patent, invention, model, design, secret formula or process, of which the other enterprise is the owner or in respect of which the other enterprise has exclusive rights; or



(h) ninety per cent. or more of the raw materials and consumables required for the manufacture or processing of goods or articles carried out by one enterprise, are supplied by the other enterprise, or by persons specified by the other enterprise, and the prices and other conditions relating to the supply are influenced by such other enterprise; or

(i) the goods or articles manufactured or processed by one enterprise, are sold to the other enterprise or to persons specified by the other enterprise, and the prices and other conditions relating thereto are influenced by such other enterprise; or

(j) where one enterprise is controlled by an individual, the other enterprise is also controlled by such individual or his relative or jointly by such individual and relative of such individual; or



(k) where one enterprise is controlled by a Hindu undivided family, the other enterprise is controlled by a member of such Hindu undivided family, or by a relative of a member of such Hindu undivided family, or jointly by such member and his relative; or

(l) where one enterprise is a firm, association of persons or body of individuals, the other enterprise holds not less than ten per cent. interest in such firm, association of persons or body of individuals; or

(m) there exists between the two enterprises, any relationship of mutual interest, as may be prescribed.


Section 92B

§ Meaning of international transaction.(1)International transaction means a transaction

between two or more associated enterprises, either or both of whom are non-residents, in the nature of purchase, sale or lease of tangible or intangible property, or provision of services, or lending or borrowing money, or any other transaction having a bearing on the profits, income, losses or assets of such enterprises.

§ A transaction entered into with an unrelated person:

(2) A transaction entered into by an enterprise with a person other than an associated enterprise shall, for the purposes of sub-section (1), be deemed to be a transaction entered into between two associated enterprises, if there exists a prior agreement in relation to the relevant transaction between such other person and the associated enterprise;


Section 92D

§ Maintenance, keeping of information and document by persons entering into an international transaction.

Rule 10D provides the nature of documents that should be maintained in case of an International Transactions.

General Information.Specific Information.Any other relevant Information.Supporting Information.Correspondences and Communications.Documentation Period:8 years from the end of

assessment year.


Section 92E

§ Report from Accountant.Provides that every person who has

entered into an international transaction during a previous year shall obtain a report from an accountant. (Rule 10E and form No. 3CEB have been notified in this regard).

Penalties have been provided as a disincentive for non-compliance with procedural requirements


Section 92F

§ Definitions of certain terms relevant to computation of arm’s length price, etc.

§ (i) Accountant§ (ii) Arm’s length price.§ (iii) Enterprise.§ (iii a) Permanent establishment.§ (iv) Specified date.§ (v) Transaction.


Burden of Proof

§ Primary onus is on assessee to establish that:oArm’s length prices are compliedoMethod followed is the most appropriate

§ If tax authority claims that proper method has not been followed then burden of proof shifts


Penalties Associated with TP

§ In failure to carry out a statutory obligation, an order for imposing penalty is issued which results in quasi-criminal proceedings.

§ Penalty provisions incorporated in sections 271, 271 AA, 271 BA, 271 G and 273 B of the Income Tax Act w.e.f 1st April, 2002.o Failure to maintain information and document in respect

of international transaction - Sec 271AAo Failure to furnish report under sec 92E – Sec 271BA o Failure to furnish information or documents under sec

92D - Sec 271Go There must be deliberateness in not abiding a legal

requirement & conclusion should be drawn on facts and specific findings.

o Penalty not to be imposed if it is proven that there was reasonable cause for the said failure Section 273B

Excise Law Customs LawRelated Entities

Relative: Direct interestsRelative and DistributorInter-Connected undertaking

The concept of related entities is not clearly defined

Valuation Rules

Unrelated Entities: o 115% of the cost of manufactureRelated Entities:

o If the buyer uses for further production, then same rules apply as in case of unrelated entitieso If the buyer resales the goods, the value of goods shall be the normal transaction value at which these are sold by the related person at the time of removal

Transactional Value (similar to CUP method):

In case of ambiguity due to multiple values, lowest value is taken as ALP (vs. the Arithmetic mean as in CUP method)

Deductive Value (similar to RPM) Computed Value:

ALP = Total Cost of Supplier + MarkupTypically used for export of semi-finished goods and goods manufactured under contract

Residuary Method: When none of the previous methods suffice

TP Implications of Indirect Taxes

OECD


OECD

§ Formed as part of Marshal plan after WW-II§ 30 Member: Developed & Democratic

Countries § Provide Statistics, Analysis, Forecast of Socio-

Economic situation§ Assist Member Nations to:

o Formulate Domestic and International Policies

oCompare Experiences and Identify Best Practices in economic, social and tax policy


The OECD Guidelines

§ Tax administrations should take care to ensure that the administration of a penalty system as applied in such cases is fair and not unduly onerous for taxpayers.

§ The imposition of a sizable no fault penalty based on the mere existence of an understatement of a certain amount would be unduly harsh when it is attributable to good faith error rather than negligence or an actual intent to avoid tax.

The OECD Guidelines

• It would not be fair to impose penalties on taxpayers that made a reasonable effort in good faith to set the terms of their transactions with related parties in a manner consistent with arm’s length principle.

• It would not be appropriate to impose a transfer-pricing penalty on a taxpayer for failing to consider data to which it did not have access. In the same way it would not be fair to impose penalty for failure to apply transfer-pricing method that would have required data that was not available to the taxpayer.

• Among OECD member countries, penalties for tax understatement are frequently calculated as a percentage of understatement ranging from 10% to 200%.

International Double

taxation§ Economic double taxation -

multiple taxes are levied on different persons on one and the same income

§ Legal double taxation - taxes are repeatedly imposed on one and the same person by more than one country on the same income


Dispute resolution

§ Causes of Dispute : 1. Complex, absence of objective standard, large

amounts involved, and failure to narrow the issue.

2. Interpretation of the OECD model. 3. Different methods of transfer pricing. 4. Conflicts in country’s taxation laws and DTAA .

§ Methods to resolve Dispute :1. Appeals2. Mutual Agreement Procedure-MAP3. Advance Pricing Agreement-APA4. Arbitration Process5. Safe Harbour Rule


GLOBAL PERSPECTIVE


Basic approach

The arm length principle is the basis principle followed by all countries in determining transfer prices of transactions between related entities of an MNC.

• USA: As per Section 482 of Internal revenue code, 1986 – in case of related party transactions the taxable income of US taxpayer must reflect arms length transfer prices.

• United Kingdom: The provisions apply to cross border relations between associated enterprises. The rules provide for the adjustment of income if the conditions of the actual transactions depart from arms length standard and created a potential advantage for the purpose of UK taxation.

• Canada: parties not dealing at arm’s length are considered as separate entities. The revenue authorities have the power to readjust the amounts reported in non arm’s length cross border transactions if the terms and conditions differ from that of arm’s length.

• India: Transfer pricing provisions are incorporated in section 92 & 92F of the act. The law provides that any income arising from or expenses and interest payments related to an international transaction, shall be computed having regard to the arms length price.


Related party/ associated enterprise

• US: Section 482 of US regulation allows the revenue department to reallocate income or expenses between parties owned or controlled directly or indirectly by the same interest.

• United Kingdom: the regulations regarding connected persons are based on OECD guidelines. The law defines connected persons as persons or enterprise, which in case of individual is his wife or husband, or is a relative, or the wife or husband of a relative. A company is treated as an associated company of the other if one of the two has control of the other, or both are under the control of the same person or persons.

• Australia: an overseas entity & a non resident individual are considered as related entities when If overseas entity or the nonresident individual participates directly or indirectly in the management control or the capital.

• China: Article 52 of tax regulations define an associated enterprise as an enterprise that has direct or indirect ownership or control over finance , sales etc or direct or indirect ownership or control of both the companies by a third party.

• India: Two enterprises would be regarded as associated enterprise if an enterprise participates in the management, control or capital of the other enterprise, either directly, indirectly or through one or more intermediaries.


Control

The tax authorities are primarily concerned with transactions between entities which are under same or common control.

• US: The transfer pricing rules operate if 2 or more organizations/ trades/ business are controlled by the same interests indirectly or directly. If more than 50% of the voting shares were held, directly or indirectly, by another company it would generally be regarded as under the control of the second company.

• UK: control is defined as the capacity of a person means of shareholding or the possession of voting powers.

• India: the concept of special relationship is recognized in the deeming provision of associated enterprise.


Basis for adjustment of price

• United Kingdom: adjustment of price is done to the price that that the relevant service would have fetched if the parties had been independent parties acting at arm’s length. Section 770 of the UK IT act can be evoked which deals specifically with the sales or purchase of under value or over value of goods.

• USA: regulations provide for adjustment that would have resulted if an uncontrolled taxpayer were dealing with another uncontrolled taxpayer even at arm’s length.

• Japan: The law prohibits the deduction of onerous or gratuitous transfer of assets or rendering of services or gratuitous acquisition of assets, and would measure the extent to which a transfer was onerous by comparing the prices paid with the current value.

• India: Assessing officer may determines the arm’s length price after adjustment when the price charged or paid in international transaction is not in accordance with provisions of the act or documents relating to transaction has not been maintained by assessed or the information supplied is mollified.


Documentation requirements

• Different countries that have explicit rules for specified document requirement include USA, UK, Canada, Australia, Denmark, Sweden, Germany & India.

• OECD guidelines also give general rules for documentation.

• Documentation would be as far as possible contemporaneous and thus maintained as & when transactions take place.

• In India the provision relating to documentation is maintained in section 92D of the act & rule 10D of income tax rules.


Burden of proof

• Rules differ from country to country• In Belgium, Denmark, Germany, Japan, Sweden, UK –

the burden of proof lies with the tax authorities i.e. the tax payer does not have the onus to prove the correctness of the transactions.

• In Australia, Brazil, Canada, South Africa the burden of proof lies with the tax payer.

• In USA the initial onus is on taxpayer to proof that the prices charged are at arm’s length, once that is proves the onus passes onto the department to prove that the prices are not charged at arms length.

• In India – the burden of proof lies with the taxpayer, however the burden shifts to the authority when the initial burden is discharged.


METHODS FOR DETERMINING TRANSFER

PRICING


Comparable Uncontrolled Price (CUP)

CUP is price for identical property traded between the two independent parties under the same or similar circumstances. CUP charged for goods or services transferred in a controlled transaction is compared to the price charged in a comparable uncontrolled transaction.

Applicability:. • Provision of services.• Transfer of Intangible or tangible property.• Loans and financial transactions.

Assumptions:1. A known comparable uncontrolled price exist for the same

goods to or from independent parties.2. The differences (if any) between the controlled and

uncontrolled transactions would not materially affect the price in the open market.

3. Accurate adjustments can be made to eliminate the material effects of such differences.

Income Tax Rules – Rule 10B- Ref sub-Section (2) of section 92C

Steps for computing arm’s length price under CUP method :

1. Identify the price charged or paid for the property transferred or services provided in comparable uncontrolled transaction.;

2. Adjust such price to account for the difference if any, between the international transaction and the comparable controlled transaction, which could affect the price in the open market;

3. The adjusted price is taken to be the arm’s length price; The arm’s length price is compared with the price charged in the international transaction;

4. If there is any variance in international transaction price (ITP) and arm’s length price (ALP) charged then necessary adjustment should be made to rectify the variance.

Comparable Uncontrolled Price (CUP) contd.

Cost-plus PricingCosts incurred by a supplier of a product or servicein controlled transaction by adding gross mark-up (Profit) to an non-arm's length Enterprise. Cost includes:

• Direct costs such as raw materials • Indirect costs such as repair and maintenance • Operating expenses such as Selling and Gen. Adim. Exp.

Applicability:. • Sale of Semi-Finished Products to related parties. • Long - Term buy & Sell Contract • Controlled Transaction of Services • Contract for Specialized Product i.e military equipment.

Reduce the price at which it is resold to an independent purchases by an appropriate markup (ie, an amount that covers the resellers’ costs and profit).

This method is probably applicable to marketing operations.

However, determining an appropriate markup can be difficult, esp when the reseller adds substantially to the value of the product.A Ltd. B Enterprises(reseller) third party

Resale price method

Profit split method Applicability - Transactions where integrated services are

provided by more than one enterprise. How to do - Combined net profit – arising from transactions is

split among the enterprises involved on the basis of the functions performed/assets/CE/relative contribution.

PSM is used when transactions are inter-related and is not possible to evaluate separately.

As per Indian Rule - Rule 10B under section 92C of the Income Tax Act, 1961,gives the steps.

LIMITATION - This method has a limitation as to availability of the costs/revenue from the main contractor to ascertain the overall profits, etc. Market data used for valuing may not be exactly comparable Combined revenue and cost of the AE is difficult to be

measured


Transactional net margin method

(TNMM)§ TNMM focuses on the arm's length operating profit earned

by one of the entities in the transaction.§ Here Net Profit Margin (NPM) of a taxpayer is the main

object of comparison. § How to Do - NPM that a taxpayer realises from a controlled

transaction is compared with net margin earned in comparable uncontrolled transactions. This net margin so compared forms the basis of determining arm’s length price. Pre-interest margin.

§ Applicability - In the case of transfer of - Semi-finished goods; Distribution of finished products, Transaction involving provision of services.

§ Criteria - In TNM Method net profit margin is calculated on some appropriate base like costs, sales and assets.


TNNM

Return on Assets, Return on Sales Berry Ratio - Gross Profit to Operating Expenses Ratio of NPBT to Shareholder’s Fund Ratio of NPBT or Sales to Number of Employees Limitations –

The NM of a tax payer can be influenced by some factors that either do not have an effect, or have a lesser effect, on price or gross margins.

Taxpayer may not have information like profit attributable to uncontrolled transactions while entering in transaction with AE.

Suitable ratios may not be easy to work out. Difficult to determine an appropriate corresponding

adjustment when applying TNNM, particularly when it is not possible to work back to transfer price


Recommended Methods Type of Transaction Possible method

Manufacturing of goods CUP, C+, Profit split

Sale of goods CUP, Resale price, Profit split, TNM

Provision of services CUP, C+, TNM

Financing Products (loans, deposits, guarantees)

CUP, Profit split, TNM

Transfer of intangibles (technology, brand, know –how)

CUP, C+

Transfer pricing of intangibles

INTANGIBLE - Refers to any property that derives its value from its intellectual content rather than its physical attributes and includes - patents, inventions, formulae, Processes, Designs, Patterns, Know-how, Trademark, Franchises, Licenses and other similar other property.

As per OECD guidelines, the intangibles may be Trade Intangibles - Result of research and development activities and include

patents, design and know-how Market Intangibles - It includes trademark and trade names, - helps commercial

exploitation of product or service.

Application of ALP to intangibles – Following to be considered Limitation on geographical area Export restriction on goods produced Exclusive or non-exclusive on rights transferred Capital Investment (for example new plant, special machinery Start-up expanses/development work required in the market The possibility of the sub licensing i.e. licensee's distribution network Licensees right to participate in further development of the property by licensor


INDIAN POSITION FOR INTANGIBLES Royalty – as per section-9 (1) (vi) of the Income Tax Act, Fees for technical service - 9 (1) (vii) Other provisions

a. TAX TREATIE’S – Provision of double taxation agreement b. Provision of Section-92, 92C – Where total income of an AE is

determined at ALP and tax is deducted accordingly, the income of the foreign party shall not be re-computed in terms of such ALP

COST CONTRIBUTION ARRANGEMENTS (CCA) CCA is an arrangement among business enterprises to share the cost and risk of

developing, producing or obtaining assets, services or rights. Legal ownership of the assets produced or developed or vested and other will

have effective ownership Participants being co-owners are not required to pay royalty or any other

consideration to any party for their interest Contribution to the cost by a participants should be in proportion to be benefits

expected by the participants from the arrangement.

Transfer pricing of intangibles & cca


DISCUSSIONS ON RECENT TRENDS &

CASE STUDIES


FMS, Delhi University

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A. INDIAN APPROACH - The Indian revenue authorities are seen to be adopting an

increasingly aggressive approach on TP-related issues, and a significant brunt of the TP audits has been targeted on captive information technology (IT) companies in India, specifically in the software services and the IT-enabled services/ BPO industry

B. Increased Litigations – Economic Downturn Aggressive position by Revenue Authorities Absence of APAs (advance pricing agreements) The lack of adequate guidelines on the practical

application of TP law

RECENT TRENDS IN TRANSFER PRICING


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C. TP AUDIT - Factors contributing to the rise in TP audits

Mounting fiscal demands on governments, compelling need to conserve tax base constant competitive pressures to structure the

business operations efficiently increased collaboration between revenue

authorities

D. TP in times of Recession Low Return on investments, Interest rates have been pushed down to spur

demand, and The pricing of goods and services is driven by

survival rather than profit



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E. Impact of TP on the lure of India as an offshore destination

The emerging issue relating to greater share of allocation by revenue authorities of locational savings (that is, benefits generated by moving functions from a high-cost country to a low-cost country) is being faced by taxpayers in India.

F. MNCs – To increase Business Efficiency

Centralised certain business processes/ functions and sought for cost-sharing arrangement with the affiliates – leading to TP litigations – RA insists on ‘Cost-Benefit Analysis’ – difficult due to benefit from intangibles.

India ‘offshoring’ advantage is typically passed to the end-customer and the intangible being sought to be taxed has diminished over the years, with increasing wage costs, fluctuations in exchange rates and overall inflation.



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G. CASES

1. CASE – Applicability of TP Provisions on Interest Free Loans advanced to Associated Enterprises

PEROT SYSTEMS TSI vs. DCIT (2005)

GRANT OF AN INTEREST FREE LOAN TO AN ASSOCIATED ENTERPRISES WOULD NOT BE CONSISTENT WITH THE ARMS’ LENGTH PRINCIPLE OF THE TP PROVISIONS AND A NOTIONAL ARM’S LENGTH INTEREST CAN BE IMPUTED ON THE LOAN AND TAXED IN THE HANDS OF THE TAXPAYER UNDER IT ACT, 1961.



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2. CASE – SHOWING LOSS DUE TO EXTRA-ORDINARY ITEM

DCIT vs. Vertex Customer Services (ITAT Delhi)§ The assessee, a call centre, adopted the Transactional Net Margin Method

(”TNNM”) and showed an operating profit to operating cost at 10.12% on the basis of comparables. The assessee, however, showed a loss of Rs. 4.27 crores from the international transaction after making adjustment for provision for doubtful debts towards sums due from the parent company.

§ The TPO rejected the third adjustment on the ground that it being an ordinary item of expenditure did not qualify for adjustment. – falling in the ordinary course of trade.

3. CASE – PENALTY CANNOT BE LEVIED JUST DUE TO DIFFERENCE OF OPINION

Hindustan Steel 83 ITR 26 (SC) and Nath Bros penalty u/s 271 (1) (c) cannot be imposed where there is merely a difference of

opinion and unless the party obliged either acted deliberately in defiance of law or was guilty of conduct contumacious or dishonest, or acted in conscious disregard of its obligation;



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4. CASE – VARIATION FROM ARM’S LENGTH PRICE

An existing proviso to section 92C(2) of the Income-tax Act mandates that in determining the arm’s length price, the arithmetical mean of the comparable uncontrolled transactions must be considered to be the arm’s length price. The proviso also affords taxpayers an option to adopt a price that varies by not more than 5% of the arithmetical mean, to be the arm’s length price.

In certain recent judicial actions, the Indian tax tribunals have upheld the interpretation by taxpayers that the proviso to section 92C(2) provides a standard deduction of 5%.

With a view to resolving this controversy, it has been proposed that the proviso be amended so that if the variation between the “price of the controlled transaction of the taxpayer” and “the arm’s length price” is not more than 5% (of the controlled transaction of the taxpayer), the former would be deemed to be at arm’s length.



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H. RECENT TRENDS – REQUIREMENTS

Macro changes are needed in the TP regulations

Provision for APAs, introduction of a transaction safe-harbour (PROPOSAL – sec.92CB), Introduction of dispute resolution mechanism clarification or illustration on the practical implementation of law, focused set of guidelines on valuing benefits received from intangibles, clarity on the subject of attribution of profits to permanent

establishment, a suitable method for valuation of imported goods which is acceptable

to both customs and TP authorities recognition of business and commercial realities, and economic

substance, to cope with the changing pattern of MNC enterprises across the world


CONCLUSION


§ TP is a Management tool in optimizing efficiency and hence profits

§ TP needs to be used carefully to avoid litigations and penalties

§ In-tangibility, services, risk bearing are means by which TP can be controlled

§ Proper Documentation is essential

THANK YOU

Backup Slides

COST CONTRIBUTION ARRANGEMENTS (CCA) As per OECD Guidelines

Expectation of the benefits by each participants should be determined Contribution by each participants should be determined It should be seen whether contribution by the tax payer (who is a

participants in the arrangement) is proportional to the expected benefit. If any difference observed in the previous steps then corresponding

adjustment be made. INDIAN PERSPECTIVE

CCA should be in regard to an international transaction They should be mutual agreement or arrangement Parties should agree for contribution to cost Cost should be in connection with benefit or service or facility Cost shall be determined having regard to arms length principle TYPES OF CCA

Arrangement for the joint development of intangible property Arrangement for joint funding ensuring of cost

Transfer pricing of intangibles & cca


transfer pricing. 25-aug-152transfer pricing s-61shivendra kant tewaridelhi police s-17chandrakant...

Documents

transfer pricing policy

definitions transfer

act of pricing

tax policy

tp policy

tp of mnes

income tax act

oecd guidelines