WESTERN INDIA REGIONAL COUNCIL
SUB REGIONAL CONFERENCE, BARODA
JUNE-2013
in International
Transfer Pricing
CA T. P. OSTWAL
A SNAP SHOT
 INTERNATIONAL OVERVIEW
 GLOBAL TRANSFER PRICING REGIMES
 TRANSFER PRICING – A GLOBAL OUTLOOK [UN & OECD]
 FUTURE OF TRANSFER PRICING IN DEVELOPING COUNTRIES
 TRANSFER PRICING – RECENT TRENDS IN INDIA
 A BIRD’S EYE VIEW
 EXISTING BACKDROP
 CONCERN ON DISPUTE RESOLUTION PROCESS
 INDIAN TRANSFER PRICING – EMERGING AREAS OF
CONTROVERSIES
 FUNDAMENTAL ISSUES
 SPECIFIC ISSUES
M/s. T. P. Ostwal & Associates
GLOBAL TRANSFER PRICING REGIMES
 By the end of 2011 there were around 100 countries with some form of
specific transfer pricing legislation as shown by the red shading in the
diagram below
M/s. T. P. Ostwal & Associates
GLOBAL TRANSFER PRICING REGIMES (contd…)
Countries where Transfer Pricing Regulations are in existence
Argentina
Canada
Czech Republic
Estonia
Hungary
Italy
Latvia
Namibia
Panama
Romania
South Africa
Thailand
Venezuela
Australia
Chile
Denmark
Finland
India
Japan
Lithuania
Netherlands
Peru
Russia
Spain
Turkey
Vietnam
Austria
China
Dominican Republic
France
Indonesia
Kenya
Luxembourg
New Zealand
Philippines
Singapore
Sweden
United Kingdom
Belgium
Colombia
Ecuador
Germany
Ireland
Korea, North
Malaysia
Norway
Poland
Slovakia
Switzerland
United States
Brazil
Croatia
Egypt
Hong Kong
Israel
Korea, South
Mexico
Oman
Portugal
Slovenia
Taiwan
Uruguay
Countries where Transfer Pricing Regulations is still emerging
Algeria
Belarus
Cambodia
Gambia
Kazakhstan
Malawi
Morocco
Pakistan
Angola
Bolivia
Cote d'Ivoire
Georgia
Kuwait
Mali
Mozambique
Papua New Guniea
Armenia
Botswana
Cyprus
Ghana
Liberia
Mauritania
Netherlands Antilles
Qatar
Aruba
Bulgaria
El Salvador
Greenland
Libya
Mauritius
Nicargua
Senegal
Bangladesh
Burkina Faso
Ethiopia
Iceland
Macedonia
Mongolia
Nigeria
Sierra Leone
Sri lanka
Trinidad and Tobago
Ukraine
Uzbekistan
Zambia
Zimbabwe
M/s. T. P. Ostwal & Associates
INTERNATIONAL TRANSFER
PRICING
A GLOBAL OUTLOOK-UN -OECD
M/s. T. P. Ostwal & Associates
UNITED NATION’S TRANSFER PRICING MANUAL
COUNTRY PRACTICES – CHINA AND INDIA’S VIEWS
 Legal contracts asserting IP is held offshore will be disregarded
 If it is found that the developing country subsidiary has engaged in activities
that put it in control and create intangibles
 Routine cost-plus returns will no longer be acceptable
 for those contract R&D companies that are found to exert control or to enjoy
a high-tech status
 Limited risk distributors spending an excessive amount on AMP
 will be expected to enjoy a share of the excess profits related to the local
intangibles they are creating
 Location rents
 should be booked in the developing country under certain circumstances
rather than being booked in either the tax favoured jurisdiction or the home
country
 Companies engaged in toll manufacturing
 will need to add back the cost of the consigned materials into their cost base
M/s. T. P. Ostwal & Associates
UNITED NATION’S TRANSFER PRICING MANUAL
COUNTRY PRACTICES – CHINA AND INDIA’S VIEWS
 Comparables should be viewed with caution given the paucity of information in
developing countries.
 MNEs that operate multiple entities, each with a single function, may not be able
to claim that each entity is entitled to only a routine return
 A holistic approach would be more appropriate.
 Where a significant percentage of the global employees or assets are actually in
developing country
 A formulary approach may be the best method
M/s. T. P. Ostwal & Associates
RECENT DEVELOPMENTS - OECD
Proposed Action Plan/ Recent Updates
 Improvements or clarifications to the transfer pricing rules
•
Rules relating to intra-group financing (e.g. interest deductibility,
withholding taxes, etc)
•
Release of Draft Handbook on Transfer Pricing Risk Assessment by
OECD's Global Forum on Transfer Pricing
•
Release of discussion draft on the Transfer Pricing Aspects of Intangibles
 Updated solutions to the ‘jurisdiction to tax’ issues
 More effective anti-avoidance measures
M/s. T. P. Ostwal & Associates
RECENT DEVELOPMENTS - OECD
Safe Harbour Rules - OECD approves the revision of Section on
safe harbours in the Transfer Pricing Guidelines
 On 16 May 2013, the OECD Council approved the revision of Section E on
safe harbours in Chapter IV of the Transfer Pricing Guidelines for Multinational
Enterprises and Tax Administrations (“TPG”).
 Revised guidance advises countries to weigh benefit & concerns regarding
safe harbour.
 New guidance on safe harbours provides opportunities for countries to relieve
some compliance burdens and to provide greater certainty for cases involving
smaller taxpayers or less complex transactions. With that, it provides a basis
for countries, especially developing countries, to design a transfer pricing
compliance environment that makes optimal use of the limited resources
available.
 It further recommends use of bilaterally or multilaterally negotiated safe
harbours for avoiding double taxation and double non taxation. It also provides
a Sample MOU for bilateral safe harbours.
M/s. T. P. Ostwal & Associates
FUTURE OF TRANSFER PRICING IN DEVELOPING COUNTRIES
 The economic significance of the OECD is in rapid decline.
 In 2000, OECD nations controlled 60% of gross world product.
 Now it is at 50% and is expected to drop to about 40% in 2030.
 Power and influence will need to be shared between developed and
developing countries
 With new players such as Brazil, Russia, India, China, and South Africa
(BRICS), and the UN entering the fray,
 India and China see themselves as "exceptional countries" and will want a
say in writing the rules, whether it is greenhouse gases, transfer pricing, or
intellectual property, and that is the way it will be.
 Confidence levels among Indian and Chinese tax authorities are growing
 It is clear that these developing countries will not allow themselves to be
pushed around much longer.
 Over 70% of the global transfer pricing litigation worldwide is in India a
sign of that country's independent thinking.
M/s. T. P. Ostwal & Associates
FUTURE OF TRANSFER PRICING IN DEVELOPING COUNTRIES
 The big question is whether India and China will pass new regulations to
incorporate the positions expressed in the UN manual.
 If so, the nature of global transfer pricing will shift.
 Location rents and local intangibles will become part of the analysis.
 Finally, every global tax director of an MNE will need to figure out a new
strategy
 Because the principal structure used to provide developing countries a
routine profit will get terminated
M/s. T. P. Ostwal & Associates
TRANSFER PRICING
RECENT TRENDS IN INDIA
M/s. T. P. Ostwal & Associates
INDIAN TRANSFER PRICING
A BIRD’S EYE VIEW
Sr.
No.
Year of Transfer
Pricing Assessments
Volume of
Adjustments
Types of Issues
1.
1st & 2nd Year
Low
Rejection of comparables and insertion of new
comparables
2.
3rd & 4th Year
Moderate
Rejection of selected method of benchmarking
and application of new method
3.
5th & 6th Year
High
Bringing unconventional transactions within the
ambit of Transfer Pricing
4.
7th & 9th Year
High
Application of retrospective amendment for
bringing transactions under transfer pricing
regime and treatment of transactions as deemed
international transaction
5.
Going Forward
Expected to be high
Introduction of transfer pricing on domestic
transactions
Reopening of closed assessments to bring
transactions covered under the scope of transfer
pricing due to retrospective amendments
Litigation Status: More than 650 decisions have been given by the tribunals over the last decade on
transfer pricing issues, setting precedents for taxpayers/revenue on wide range of issues.
M/s. T. P. Ostwal & Associates
INDIAN TRANSFER PRICING
A BIRD’S EYE VIEW (contd…)
70,000
44,536
23.238
10,907
6,491
1,612
6,138
M/s. T. P. Ostwal & Associates
INDIAN TRANSFER PRICING – EXISTING BACKDROP
 Transfer Pricing is the focus area for the Revenue Authorities
‒ Legislative changes to plug potential loopholes
‒ Increasingly aggressive positions adopted by the revenue
‒ Augmented staffing and training of officers
 Widened Scope & intrusive Approach of Transfer Pricing Assessments
‒ Request for higher level of documentation
‒ Legal back-up with greater investigation powers for revenue officials
 Newer areas of challenge
‒ Cross-border Financing arrangements, Intangibles, Intra-group Services,
Investments in group entities and Share Valuation
 Growing cross-country collaboration
‒ Several exchange of information treaties effected
‒ Extensive interaction with OECD officials
M/s. T. P. Ostwal & Associates
INDIAN TRANSFER PRICING – EXISTING BACKDROP
Revenue Approach
Revenue Approach – Concerns!!
Revenue – Target Driven Approach
Updation of comparables with captioned
year’s data contemporaneous principle
FAR analysis – disregard taxpayers
business
Use of secret comparables
Ad-hoc economic adjustments – rule of
thumb applied in most cases
Cherry Picking
Aggregation of Transactions
Unrealistic benchmark for captive
service providers
TNMM most commonly used by
tax payers
Precedents set in earlier years –
generally followed
Tax Authorities prefer CUP and
CPM
Use of standard benchmarking sets
M/s. T. P. Ostwal & Associates
INDIAN TRANSFER PRICING
CONCERNS ON DISPUTE RESOLUTION PROCESS
 Conventional Approach of Dispute Resolution - Tiers of Appellate Authorities
[DRP/CIT(A)ITATHCSC]
 Time consuming and several tiers of appellate authorities
 Appeal by tax authorities in case of favorable resolution at lower levels
 Factual nature of issues results in matter being remanded back
 Uncertainty on eventual outcome and impact on financial statements
 Risk of economic double taxation, if matter is resolved against the taxpayer
 Measures to Handle Dispute Resolution – Discouraging experiences with
DRP
 Independence - Structural issues in constitution of Panel
 Achievement- A “fast track” to next level of litigation?
 Policy Moderation - Empowering tax authorities to appeal against order pursuant to
DRP directions – Will there be any change in approach of DRP?
 Modern Approach – International
 Mutual Agreement Procedure (‘MAP’) - Emerged a viable alternative in recent times
 Advance Pricing Arrangements – Will it result into an approach to bring certainty?
M/s. T. P. Ostwal & Associates
INDIAN TRANSFER PRICING
REVISED REPORTING REQUIREMENTS [RULE 10E]
 Changes in Form 3CEB (Transfer Pricing Audit Report)
Sr.
No.
Reference in Annexure
to Form 3CEB
Reporting of Transaction(s)
1.
Clause 14 to Part B
Particulars in respect of lending or borrowing of money
2.
Clause 15 to Part B
Particulars in respect of transactions in the nature of
guarantee
3.
Clause 16 to Part B
Particulars in respect of international transaction of purchase
or sale of marketable securities, issue and buy-back of equity
shares, optionally convertible/partially convertible/compulsorily
convertible debentures/preference shares
4.
Clause 17 to Part B
Particulars in respect of mutual agreement or arrangement
5.
Clause 18 to Part B
Particulars in respect of international transactions arising
out/being part of business restructuring or re-organisations
6.
Clause 19 to Part B
Particulars in respect of any other transaction including the
transaction having a bearing on the profits, income, losses or
assets of the assessee
7.
Clause 20 to Part B
Particulars of Deemed International Transactions
8.
Part C
Particulars in respect of Specified Domestic Transaction
M/s. T. P. Ostwal & Associates
INDIAN TRANSFER PRICING
EMERGING AREAS OF CONTROVERSIES
M/s. T. P. Ostwal & Associates
SIGNIFICANT ISSUES ON TRANSFER PRICING PRINCIPLES
Fundamental issues
 Deemed International transactions – A Reasonable Approach?
 Tested Party – The right questions?
 Location savings
 Transfer Pricing Adjustment – Whether restricted to the overall group profits
or total revenue from the transaction ?
Specific Issues
 Intra-Group Financing Transactions – Guarantee/Loans etc.
 Marketing intangibles (AMP) – Focus on fundamentals?
 Contract Research & Development –Step towards Profit splits Approach!
M/s. T. P. Ostwal & Associates
EMERGING AREAS OF CONTROVERSIES
FUNDAMENTAL ISSUES
M/s. T. P. Ostwal & Associates
EMERGING AREAS OF
CONTROVERSIES
DEEMED INTERNATIONAL TRANSACTIONS
M/s. T. P. Ostwal & Associates
DEEMED INTERNATIONAL TRANSACTION
REASONABLE APPROACH?
Deemed International Transactions
 Section 92B(2) of the Act states that a transaction entered into with a person other
than AE shall is deemed to be a transaction between two AEs, if there exists a prior
agreement in relation to the relevant transaction between such other person and
the AE or the terms of relevant transaction are determined in substance between
such other person and the AE.
A transaction entered into by an
enterprise with a person other than an
associated enterprise shall be deemed to
be an international transaction if:
There exists a prior agreement in
relation to the relevant
transaction between such other
person and the associated
enterprise
OR
The terms of the relevant
transaction are determined in
substance between such other
person and the associated
enterprise
M/s. T. P. Ostwal & Associates
DEEMED INTERNATIONAL TRANSACTION
REASONABLE APPROACH?
 Kodak India Private Limited [ITA No. 7349/Mum/2012]
• The Tribunal discussed the provisions of section 92(1), section 92A(1) and section
92B(1), and the inter-linkage between them, to establish that they all relate to an
international transaction between AEs, where both the AEs are non-residents or
at least one of them is.
• Further, the Tribunal also concluded that section 92B(2) cannot be read
independent of section 92B(1), and thus section 92B(2) cannot apply to
transactions between domestic entities.
• A similar judicial precedent was laid down in the Tribunal ruling in the case of
Swarnandhra IJMII Integrated Township Development Co. Pvt. Ltd. v. DCIT
[ITA No. 2072/Hyd/2011]
 Stratex Networks (India) Private Limited [353/2011 Delhi High Court]
• Indian Co. had agreements with local clients to install and maintain equipment
supplied by its overseas associated enterprises.
• The High Court upheld the Tribunal’s ruling that the installation and
maintenance services were not deemed international transactions u/s 92B(2)
because none of the conditions stipulated u/s 92B(2) existed.
M/s. T. P. Ostwal & Associates
DEEMED INTERNATIONAL TRANSACTION
REASONABLE APPROACH?
 TYPICAL FACTS – OUTBOUND INVESTMENT
 Indian parent company infuses share capital in
the Foreign subsidiary (at premium or at face
value per share in case of negative networth of
subsidiary)
 The Revenue takes a position that the shares
have been issued to the Indian Company at an
overvalued price/more than the fair market
value of the shares;
 The difference between the actual issue price
and the ALP computed by the department is
characterized as:
• Deemed Loan by the Indian Parent treated as TP adjustment
Indian
Holding Co.
Subscription
of shares of
Foreign Co.
Outside
India
Foreign Wholly
Owned
Subsidiary
• Notional Interest on deemed loan- treated
as TP adjustment
 In the recent decision of Vijai Electricals Ltd vs. Addl. CIT [ITA No.842/Hyd/2012],
tribunal held that investment made in subsidiaries abroad is not an international
transaction u/s. 92B and TP provisions shall not apply as there is no income.
M/s. T. P. Ostwal & Associates
DEEMED INTERNATIONAL TRANSACTION
REASONABLE APPROACH?
 TYPICAL FACTS – INBOUND INVESTMENT
 Foreign parent company infuses share capital
in the Indian subsidiary (at face value or at
certain value per share arrived using DCF or
other valuation methodology)
 The Revenue takes a position that the shares
have been issued to the Holding Company at
an undervalued price / less that the fair market
value of the shares;
 The difference between the actual issue price
and the ALP computed by the department is
characterized as:
• notional income of the Indian Subsidiary treated as TP adjustment
• loan by the Indian Subsidiary to its
Holding Company - notional interest on
such alleged loan treated as the TP
adjustment
Foreign
Holding Co.
Outside
India
Purchase /
Subscription of
shares of Indian Co.
In India
Indian Wholly
Owned
Subsidiary
 The TP Officer made TP adjustment to the tune of Rs 15,200 Cr on the
international transaction of receipt of Rs 870 Cr towards issue of fresh equity
shares by Shell India stating that there was under-pricing in the issue of shares.
M/s. T. P. Ostwal & Associates
EMERGING AREAS OF
CONTROVERSIES
SELECTION OF ‘TESTED PARTY’
M/s. T. P. Ostwal & Associates
RECENT CONTROVERSIES - TESTED PARTY
 Critical elements of a TP analysis,
• Functions, Assets and Risk analysis (FAR analysis) and
• Economic analysis,
 The selection of tested party is the first step in any economic analysis
and must find it’s “connect” back with the FAR analysis. The “connect”
is the characterization of the transacting entities, which a FAR analysis
must necessarily conclude with.
 The characterization of the transacting entities is the critical
determinant in deciding which entity would be the tested party.
 While the concept of “tested party” does not find any mention in
Indian regulations, the concept has been laid down in
• The US Regulations,
• OECD Guidelines
• UN TP Manual
M/s. T. P. Ostwal & Associates
RECENT CONTROVERSIES – ‘TESTED PARTY’
SR.
NO.
NAME OF DECISION
(CITATION)
DISPUTED ISSUE
FINDINGS OF THE APPELLATE AUTHORITIES
While the taxpayer had selected the AE as a tested party, the
Tribunal held there can be no question of substituting the
profit realised by the Indian enterprise from its foreign AE
with the profit realised by the foreign AE from the ultimate
customers and accordingly, the margin of the taxpayer (and
not the AE) has to be tested.
Indian assessee, procuring medicines and disposables from
suppliers selected by AE & selling medical kits to AE / third
parties, to be taken as ‘tested party’. Assessee is less complex
than AE, did not own any intangibles in form of ‘low cost
suppliers' list whereas AE takes all decisions, bears all types
of risk, can't be taken as 'tested party‘.
The Tribunal accepted the characterization of the AE as a
distributor and selection of the AE as a tested party, since the
Indian taxpayer was considered as a more complex entity.
Further,
the
Tribunal
accepted the international
benchmarking exercise supporting the margins earned by the
AE.
The AE retained 12% of the client revenues for its marketing,
coordination, client liaisoning, credit risk and market risk
and the taxpayer had a similar arrangement with a third
party. While the issue of tested party was not articulated and
disputed, in its final ruling, the Tribunal has remanded the
case to examine the application of internal TNMM vs external
TNMM to the taxpayer’s margins, thereby treating the
taxpayer as a tested party.
1
Onward Technologies
Limited (7985/Mum/2010)
Selection of tested party –
Whether taxpayer or the AE?
2
Missionpharma Logistics
(I) Pvt Limited [ITA No.
954 & 3149/Ahd/2010]
Indian procurer appropriate
as 'tested' party over riskbearing AE
4
Development Consultants
Pvt Ltd. [ITA No. 79 & 80/
Kol/2008]
Selection of tested party –
Whether taxpayer or the AE?
3
Cybertech Systems and
Software Limited [ITA No.
7303/Mum/2012]
Most appropriate transfer
pricing method (Internal
TNMM v. External TNMM)
M/s. T. P. Ostwal & Associates
RECENT CONTROVERSIES –
FUNDAMENTAL ISSUES
LOCATION SAVINGS
M/s. T. P. Ostwal & Associates
RECENT CONTROVERSIES - LOCATION SAVING

Location savings/ Location Specific Advantage/ Location rent & Market
Premium

Who gets location rents ?
 Multinationals generate enormous cost-savings by off-shoring
 Often these savings end up in a tax haven or back in the home country
 UN manual proposes an approach that would give developing countries a
bite of the apple.

UN TP Model explains the Approach as under:
Net location
savings
+/-
Other Location
Specific Benefits
=
Location Specific
Advantages
(“LSAs”)
+/-
(i.e. incremental profit)
=>
Location Rent
Location Specific
Advantages
(“LSAs”)
=
Other Location
Specific Benefits
M/s. T. P. Ostwal & Associates
RECENT CONTROVERSIES - LOCATION SAVING
 Off-late, Indian authorities have made upward adjustments to the income of the Indian
taxpayer by splitting the net location savings between the Indian taxpayer and overseas
enterprise.
 In many cases, the location savings are simply split equally between the Indian taxpayer
and overseas enterprise assuming equal bargaining power.
 In the recently released United Nations Transfer Pricing Manual for Developing Countries
(India Chapter), the Indian authorities has advocated that, in the quantification and
allocation of location savings amongst the parties, the profit split method (PSM) can be
used wherein the functional analysis and bargaining power of the parties to the transaction
would be relevant factors for consideration – benchmarking against local comparables
does not take into account the benefit of location savings.
 The Tribunal ruling in the case of GAP International Sourcing (I) Pvt. Ltd v. ACIT [2012] 25
taxmann.com 414 (Delhi), has not echoed the above views of the Indian authorities and
held that:
“the intent of sourcing from low cost countries for a manufacturer/retailer is to survive in stiff competition by providing a
lower cost to its end-customers. Generally, the advantage of location savings is passed onto the end-customer via a
competitive sales strategy. The arm’s length principle requires benchmarking to be done with comparables in the
jurisdiction of tested party and the location savings, if any, would be reflected in the profitability earned by comparables
which are used for benchmarking the international transactions. Thus in our view, no separate / additional allocation is
called for on account of location savings...” (emphasis supplied)
M/s. T. P. Ostwal & Associates
EMERGING AREAS OF CONTROVERSIES
SPECIFIC ISSUES
M/s. T. P. Ostwal & Associates
EMERGING AREAS OF
CONTROVERSIES
INTRA-GROUP FINANCING
TRANSACTIONS
M/s. T. P. Ostwal & Associates
AREAS OF FOCUS BY TAXATION AUTHORITIES
 No agreement in place;
 Terms & Conditions lack economic substance;
 Non exercise of prepayment or call options;
 High debt/equity ratios;
 Debt pricing resulting in low profitability;
 Interest rates or credit margins;
 Credit Guarantee Fees
 Interest rates / guarantee fees that are arbitrary or based on a
casual analysis, such as stray bank quotations;
M/s. T. P. Ostwal & Associates
CORPORATE GUARANTEE – DEFINITION
 Explanation to Section 92B(1) of Income Tax Act, 1961–
For the removal of doubts, it is hereby clarified that—
(i) the expression "international transaction" shall include—
(c) capital financing, including any type of long-term or short-term
borrowing, lending or guarantee, purchase or sale of marketable
securities or any type of advance, payments or deferred payment
or receivable or any other debt arising during the course of
business;
 What is a guarantee?
“A legally binding agreement under which the guarantor
agrees to pay any or all of the amount due on a loan
instrument in the event of non-payment by the borrower”
 Whether extension of charge of existing securities with
Indian bank for issuance of SBLC to its foreign branch on
behalf of Indian company’s foreign AE be treated as
guarantee?
M/s. T. P. Ostwal & Associates
CORPORATE GUARANTEE – WHETHER AN INTERNATIONAL TRANSACTION?
 Corporate Guarantees under consideration are generally in either of
following forms:
 Corporate Guarantee is extended by Indian company on behalf of its foreign AE to
the foreign branch of an Indian bank – Is it transaction between two Indian entities?
 Corporate Guarantee is extended by Indian company on behalf of its foreign AE to
the foreign bank or foreign branch of foreign bank
 Corporate Guarantee is extended by Indian company to an Indian branch of Indian
bank for issue of Stand-By Letter of Credit (‘SBLC’) or Letter of Comfort (‘LOC’) to
its foreign branch on behalf of its Indian company’s foreign AE.
 Benchmarking?
There is no transfer pricing regulation across the world which prescribes or defines a
method for benchmarking guarantee fees.
 The various approaches for benchmarking guarantee fees are:
 CUP Approach
 Risk of Loss Approach
 Valuation of Benefit Approach/ Interest Saving Approach
M/s. T. P. Ostwal & Associates
EMERGING AREAS OF
CONTROVERSIES
‘MARKETING INTANGIBLES (AMP)’
M/s. T. P. Ostwal & Associates
RECENT CONTROVERSIES – MARKETING INTANGIBLES
 Issue/Controversy
Indian tax authorities have been identifying excessive Advertising, Marketing and
Promotion (‘AMP’) expenses incurred by the Indian taxpayer by applying the
bright-line test and applying a markup on such expenses to allege that the taxpayer
was provide a service to the foreign brand owner, for which a compensation is
due.
 In case of LG Electronics India Pvt. Ltd. v. ACIT [2013] 29 taxmann.com 300 (Delhi)(SB),
tribunal held that TP adjustments in relation to the AMP expenses incurred by the Indian
taxpayer for creating and improving the marketing intangible for and on behalf of the foreign
parent company is permissible.
 Following the LG ruling, there have been series of other rulings on TP adjustment on
account of AMP Expenses & marketing intangibles in the case of
Name of the Decision
Citation
Reebok India Co. v. Addl. CIT
I.T.A. No. 5857/Del/2012
Sony India Pvt. Ltd. v. Addl. CIT
ITA Nos. 4978/Del/ 2011 & 6389/Del/2012
Panasonic Sales & Services India Pvt. Ltd. v. ACIT
ITA No. 1911/Mad/2011
RayBan Sun Optics India Limited v. DCIT
ITA No. 5933/Del/2012
Glaxo Smithkline Consumer Healthcare Ltd. v. ACIT
ITA No. 1148/Chd/2011
Canon India Pvt. Ltd. v. DCIT
ITA Nos. 4602/Del/2010, 5593/Del/2011 &
6086/Del/2012)
Haier Appliances India (P) Ltd. V. DCIT
ITA No. 4680/Del/2010 & ITA No. 5235/Del/2011
Ford India Pvt. Ltd. v. DCIT
(ITA No. 2089/MDS/2011)
M/s. T. P. Ostwal & Associates
RECENT CONTROVERSIES – MARKETING INTANGIBLES
 Key Issues in the Special Bench Ruling in case of LG Electronics
The special bench has specified the following considerations
which need to be applied to a taxpayers’ facts in determining
whether any adjustment needs to be made:
• Whether the foreign enterprise is compensating the Indian
taxpayer for promotion of brand in any manner such as subsidy
on goods sold to the taxpayer?
• Whether the level of subsidy is commensurate with the brand
promotion expenditure?
• Whether the brand is at an entry level or at an established stage?
• Whether there have been any new product launches or
continuation of existing product range?
• How the brand will be dealt with after termination of the
agreement with the Indian taxpayer?
M/s. T. P. Ostwal & Associates
MARKETING INTANGIBLE – CHARACTERIZATION OF DISTRIBUTOR
A CRUCIAL ELEMENT
TYPE OF
DISTRIBUTOR
PROFILE
REMUNERATION MODEL
MARKETING INTANGIBLE /
REMUNERATION FOR EXCESS AMP
EXPENSES
 Limited function and risk profile
Limited
Risk
Distributor
 Low
and
steady
returns  Remuneration model of guaranteed
guaranteed by the manufacturer –
return on sales automatically
 Key people functions performed
achieved either through
(i)
mitigates any further issue on
by principal
adjustment of pricing of products
account of marketing intangibles
or (ii) reimbursement of expenses
 Marketing strategies determined
 Economic ownership and associated
by manufacturer – Distributor  Arm’s length return on sales
rewards of marketing intangibles
merely executes the strategy
ensures AMP expenses incurred by
vest with the principal
distributor are “picked up” by
 AMP expenses incurred by
principal
Distributor - not significant
 Unlikely to incur start up losses
FullFledged
Distributor
 Takes necessary decisions and  Ideally
remunerated
with  In case the “intensity of functions” i.e.
performs functions with respect
reference to gross margin and
advertising and marketing function
to Advertising & Marketing and
bears
the
volume
risk
–
intensity is higher than comparable
other distribution strategies
commensurate to comparable
distributors, there is a need for higher
companies’ gross margin having
remuneration
–
such
extra
 Bears entrepreneurial risks
similar “intensity of functions”
remuneration can even come either
through reduction in purchase price
 Can suffer start up losses,
of products and can be addressed
entitled to future higher profits
through the intercompany pricing
policy
 Above
guidance
provided
by
Australian Revenue and the OECD
 Reimbursement of AMP expenses not
the only way of compensation
M/s. T. P. Ostwal & Associates
EMERGING AREAS OF
CONTROVERSIES
‘CONTRACT RESEARCH & DEVELOPMENT’
M/s. T. P. Ostwal & Associates
RECENT CONTROVERSIES – CONTRACT R&D
CIRCULAR 2 OF 2013 - CIRCULAR ON APPLICATION OF PROFIT SPLIT METHOD
 Methods such as Transactional Net Margin Method (‘TNMM’) evaluating value of
intangibles on a Cost plus Return basis discouraged – no correlation between R&D cost
and return on intangibles.
 Preference for Profit Split Method (‘PSM’) - determines appropriate return on intangibles
considering relative contribution by each AE.
 Selection and application of PSM dependent upon factors prescribed under Rule 10C(2)
 Onus on TPO to record reasons for non-applicability of PSM before considering other
methods. In such cases, TPO empowered to consider TNMM or CUP.
 Onus on taxpayer to have sufficient reason for non-applicability of PSM due to nonavailability of information
CIRCULAR 3 OF 2013 - CIRCULAR ON CONDITIONS RELEVANT TO IDENTIFY DEVELOPMENT
CENTRES ENGAGED IN CONTRACT R&D SERVICES WITH INSIGNIFICANT RISK
 Provides for 5 conditions to be satisfied cumulatively satisfied in order to treat a
development centre in India as a contract R&D service provider:
 Functions - economically significant functions are performed by AE
 Funding - economic significant assets are provided by AEs.
 Supervision & Control - direct control & supervision of the AE.
 Risk Profile - significant risks are borne by the AE
 Ownership Rights - rights of the intangible developed vests with the AE
M/s. T. P. Ostwal & Associates
RECENT CONTROVERSIES – CONTRACT R&D
Recently, the Delhi Tribunal in the case of GE India Technology Centre Pvt. Ltd. v.
DDIT [ITA Nos. 789/Bang/2010, 487 & 925/Bang/2011] made some interesting
observations in relation to Contract R&D services, as under:
“Identification of risk and the party who bears such risks are important steps in
comparability analysis. The conduct of the parties is key to determine whether the actual
allocation of risks conforms to the contractual risk allocation. Allocation of risk depends
upon the ability of the parties to the transaction to exercise control over risk. Core
functions, key responsibilities, key decision making and level of individual responsibility
for the key decisions are important factors to identify the party which has control over the
risks.........The notion that risk can be controlled remotely by the parent company and that
the Indian subsidiary engaged in core functions, such as carrying out research and
development activities or providing services are risk free entities is something which
needs to be demonstrated by the assessee.”
(Emphasis supplied)
The question as to “who exercises control” is a factual exercise i.e. the significant
people functions and conduct of the parties involved must be necessarily
substantiated and documented by taxpayers.
M/s. T. P. Ostwal & Associates
Disclaimer
The information provided in this presentation is for informational purposes only, and
should not be construed as legal advice on any subject matter. No recipients of this
presentation, clients or otherwise, should act or refrain from acting on the basis of any
content included in this presentation without seeking the appropriate legal or other
professional advice on the particular facts and circumstances at issue. The content of
this presentation contains general information and may not be accurate or reflect
current legal developments, verdicts or settlements. The presenter and M/s. T. P.
Ostwal & Associates expressly disclaims all liability in respect to actions taken or not
taken based on any or all the contents of this presentation.
THANK YOU
M/s. T. P. Ostwal & Associates
Chartered Accountants
4th Floor, Bharat House, 104 Mumbai Samachar Marg, Fort, Mumbai-400001.
Tel No.: +91-22-40693900 Fax No.: +91-22-40693999
Mobile:+91 9004660107 Email: fca@vsnl.com
M/s. T. P. Ostwal & Associates