Company Taxation

Transfer Pricing

Transfer pricing refers to the inter-company pricing arrangements between related business entities and commonly applies to intercompany transfers of services and tangible/intangible properties. In India, detailed transfer pricing provisions were introduced by the Finance Act, 2001 to facilitate the computation of fair, reasonable, and equitable profits and tax in India for businesses carried on by multinational companies. Essentially, transfer pricing is the process of adjusting the prices of cross-border transactions between related/associated parties. Section 92 of the ITA provides that the price of any transaction between Associated Enterprises (AE), either or both of whom are non-residents for tax purposes (international transaction), shall be computed with regard to the arm's length principle. Subsequently, the Finance Act, 2012 also brought 'specified domestic transactions', where transactions are carried out between two related Indian entities under the purview of transfer pricing.

Associated Enterprises: Two enterprises are considered to be associated if there is direct/indirect participation in the control, management, or capital of one enterprise by another enterprise or by the same persons in both the enterprises. For the determination of participation in management or control, several factors are considered, including:

  • Direct/indirect shareholding with 26% or more of the voting power
  • Advancing of loans of 51% or more of the total assets
  • Appointment of more than 50% of the Board of Directors
  • Goods manufactured sold under influenced prices
  • Dependence on intellectual property rights owned by either party, etc.

An additional clarification was issued, highlighting the concept of a 'deemed international transaction', thereby widening the scope of transfer pricing in India. This provision considers a transaction between two residents in India as an international transaction subject to certain conditions.

International Transactions

Apart from trade transactions relating to the purchase and sale of goods and services, transfer pricing in India is applicable to even transactions involving business restructuring, intangibles, goodwill, corporate guarantees, overdue debtors, etc. In India, the authorities have included even Specified Domestic Transactions (SDT) under the ambit to mitigate tax arbitrages in transactions entered into between domestic companies. Initially, the threshold for the applicability of SDT was increased to INR 200 million from INR 50 million.

Obtaining an accountant’s certificate in the prescribed format is mandatory and would have to be filed before 31 October (formerly 30 November) of the relevant assessment year, along with the tax return. There is no threshold exemption limit provided for compliance. Strict penal provisions have been established for non-compliance with the prescribed requirements under the new transfer pricing regime.

Determination of 'Arm's Length Price' (ALP)

A crucial aspect of transfer pricing is the process of determining the Arm's Length Price (ALP). The Central Board of Direct Taxes (CBDT) has prescribed six methods for determining the ALP:

  • Comparable Uncontrolled Price Method
  • Resale Price Method
  • Cost Plus Method
  • Profit Split Method
  • Transactional Net Margin Method
  • Other Method (via Notification No. 18/2012 dated 23 May 2012)

The 'other method' has been prescribed to potentially cover transactions involving intangibles and business restructuring for which the above methods may not be the most appropriate.

The choice of the appropriate method is determined with respect to the nature and class of transaction, the classes of associated persons, the functions performed by them, and other relevant factors.

Furthermore, in a move to reduce confusion and offer flexibility to taxpayers, the concept of arm’s length range was introduced as opposed to the former arm’s length price. The adoption of the arm’s length range and allowing the usage of multiple-year data has aligned the transfer pricing rules to global practices to a certain extent.

Safe harbor provisions have been in existence since 2013 and have undergone a conscious revision to rationalize the acceptable profit ranges for a series of transactions such an IT/ITES/KPO, guarantee, etc. Also, a new category of international transactions for ‘receipt of low value-adding intra-group services’ was added. Safe harbor provisions have been stated to be in force only for the FY 2018-2019. It is yet to be prescribed whether the existing safe harbor provisions would continue to be valid for FY 2019-2020 or if there are any other prescribed rates.

Advance Pricing Agreements (APA)

  • The Finance Act, 2012, introduced Advance Pricing Agreements (APAs), which is an agreement between a taxpayer and the tax authorities that specifies the manner in which ALP will be determined with respect to an international transaction.
  • The ALP shall be determined on the basis of the prescribed methods or any other method.
  • An APA would be valid for a maximum of 5 consecutive years, unless there is a change in the provisions or the facts having a bearing on the international transaction.
  • In March 2015, the CBDT introduced roll-back provisions according to which, an APA would also be applicable to international transactions undertaken in the previous 4 financial years subject to certain conditions.
  • On 19 December 2014, India signed the first bilateral APA with Japan, which would be valid for five years.
  • The APA had been finalized within a time span of approximately 32 months, which is significantly shorter than the time normally taken to finalize APAs internationally.
  • It should be noted that the total number of applications filed till 31 March 2019 stands at 1155, which consists of 944 Unilateral APAs (UAPAs) and 211 Bilateral APAs (BAPAs). The report issued by CBDT shows that till 31 March 2019, 271 APAs were concluded, which consisted of 240 Unilateral APAs and 31 Bilateral APAs.4 The number of APAs signed during 2018-19, included 41 Unilateral APAs and 11 Bilateral APAs, which is lesser as compared to the prior years 2016-17 being the highest.
Get in Touch
Maulik Doshi
Senior Executive Director
Transfer Pricing and Transaction Advisory Services

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