INSTITUTE OF CHARTERED ACCOUNTANTS OF INDIA
RAIPUR BRANCH
DOMESTIC TRANSFER PRICING PROVISIONS
CA .T. P. OSTWAL
5th July 2013
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Introduction
•
TP was earlier limited to ‘International Transactions’
•
The Finance Act 2012, extends the scope of TP provision to ‘Specified Domestic
Transactions’ between related parties w.e.f. 1 April 2012
•
The SC in the case of CIT vs Glaxo Smithkline Asia Pvt Ltd [2010-195Taxman 35
(SC)] recommended introduction of domestic TP provisions
•
SDT previously reported/certified but onus on revenue authorities
•
Obligation now on taxpayer to report/ document and substantiate the arm’s length
nature of such transactions
•
Shift from generic FMV concept to focused ALP concept
•
These new provisions would have ramifications across industries which benefit from
the said preferential tax policies such as SEZ units, infrastructure developers or
operators, telecom services, industrial park developers, power generation or
transmission etc. Apart from this, business conglomerates having significant intragroup dealing would be largely impacted
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SDT – Intent of the Law
Bringing in
objectivity in the
interpretation and
governance –
introduction of ALP
mechanism
5th July 2013
Doing away with tax
arbitrage abuse that
stems from differential
tax rate, tax
holiday/benefits availed
by undertaking and
presence of
accumulated losses
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Protecting the revenue
of the Indian
Government
3
Intent of Indian TP Regulations
(International transactions)
Shifting of Profits
India
Overseas
Associated
Enterprise
(AE Co.)
Indian Co.
Tax @ 33.99%
Tax @ lower rate
approx 10%
Shifting of Losses
Tax Saving for the Group – Loss to Indian revenue
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Intent of Indian TP Regulations…
(Domestic transactions)
India
India
Shifting of expenses/losses
Indian Co.
Tax Holiday
undertaking
Related Enterprise in
Domestic Tariff Area
(DTA)
Tax @ 33.99%
Tax Exempt Unit
*However, MAT @ 20 %
applicable as per sec 115JB
Shifting of income/profits
Tax Saving for the Group – Loss to Indian revenue
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Intent of Indian TP Regulations…(Domestic transactions)
Particulars (Ordinary Situation)
Co. X (SEZ)
Co. Y (DTA)
Income
300
1000
Income from related party
100
-
Expenses
300
800
Expense to related party
-
100
Profit/ Loss
100
100
Tax rate applicable
0%
33.99%
Tax
- (However MAT @ 20% payable)
33.99 (100*.45%)
Particulars (Planned Situation)
Co. X (SEZ)
Co. Y (DTA)
Income
300
1000
Income from related party
200
-
Expenses
300
800
Expense to related party
-
200
Profit/ Loss
200
-
Tax rate applicable
0%
32.45%
Tax
-(However MAT @ 20% payable)
-
Loss to
Revenue –
Tax Saving
to the Group
* By shifting of income from a profit making company to a SEZ (Tax exempt Unit), the group could reduce its tax
liability from 33.99% to 20% on the profits shifted since though the profits of SEZ are otherwise exempt but they
would
attract
5th July
2013MAT liability as per sec.115JB.
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Intent of TP Regulations…
(Domestic transactions)
Shifting of expenses
India
Indian Co.
Loss making
India
Related Enterprise
Profit making
Maximum Tax @
33.99%
Reduced tax due to
shifting of profits
Tax @ 32.45%
No tax or reduced tax due to loss
Shifting of income
Tax Saving for the Group – Loss to Indian revenue
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Intent of TP Regulations…(Domestic transactions)
Particulars (Ordinary Situation)
Co. X (DTA)
Co. Y (DTA)
Income
500
1000
Income from related party
100
-
Expenses
700
800
Expense to related party
-
100
Profit/ Loss
(100)
100
Tax rate applicable
33.99%
33.99%
Tax
-
33.99 (100*33.99%)
Particulars (Planned Situation)
Co. X (DTA)
Co. Y (DTA)
Income
500
1000
Income from related party
150
-
Expenses
700
800
Expense to related party
-
150
Profit/ Loss
(50)
50
Tax rate applicable
33.99%
33.99%
Tax
-
16.995 (50*33.99%)
Present
Loss to
Revenue* –
Tax Saving
to the
Group
* By shifting of income from a profit making company to a loss making company, the group could reduce its tax
liability by 16.995 for the current year, though the impact will be reversed in future years given carry forward of losses.
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Section 92BA – Meaning of SDT
(inserted by Finance Act, 2012 w.e.f. AY 2013-14 i.e. current FY)
For the purposes of this section and sections 92, 92C, 92D and 92E, “specified domestic
transaction” in case of an assessee means any of the following transactions, not being an
international transaction, namely:(i) any expenditure in respect of which payment has been made or is to be made to a person
referred to in section 40A(2)(b);
(ii) any transaction referred to in section 80A;
(iii) any transfer of goods or services referred to in sub-section (8) of section 80-IA;
(iv) any business transacted between the assessee and other person as referred to in section
80-IA (10);
(v) any transaction, referred to in any other section under Chapter VIA or section 10AA, to
which provisions of section 80-IA(8) or section 80-IA(10) are applicable; or
(vi) any other transaction as may be prescribed,
and where the aggregate of such transactions entered into by the assessee in the previous
year exceeds a sum of five crore rupees.
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Overview of Provisions of Section 92BA
Inter unit transfer of goods & services by
undertakings to which profit-linked deductions
apply
Expenditure
incurred
between
related
parties
defined under
section 40A
SDT
Any other
transaction
that may be
specified
Transactions between undertakings, to which
profit-linked deductions apply, having close
connection
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Overview of Provisions of Section 92BA
• S. 10AA uses the term close connection.
• S. 40A(2)(b) uses the term Related party.
• S. 80IA (8) inter unit.
• S. 80IA (10) uses the term close connection.
• S. 92A uses the term Associated Enterprises.
• No guidance or limited guidance on the meaning of close connection
• s
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Overview of Provisions of Section 92BA
•
S 42 (2) of ITA 1922,”Where a person not resident or not ordinarily resident in
the taxable territories carries on business with a person resident in the taxable
territories, and it appears to the Income-tax Officer that owing to the close
connection between such persons the course of business is so arranged that
the business done by the resident person with the person not resident or not
ordinarily resident produces to the resident either no profits or less than the
ordinary profits which might be expected to arise in that business, .the profits
derived therefrom, or which may reasonably be deemed to have been derived
therefrom, shall be chargeable to income-tax in the name of the resident person
who shall be deemed to be, for all the purposes of this Act, the assessee in
respect of such income-tax.“
•
[1958] 34 ITR 368 (SC)SUPREME COURT OF INDIA
•
Mazagaon Dock Ltd.vs. C.I.T. Excess Profits Tax
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Section 92BA Analysed......
For the purpose of sec. 92, 92C, 92D and 92E
Relevance with
provisions of
Sec 92BA
Section
92
: Computation of income having regard to ALP

92A : Meaning of AE

92B : Meaning of International transaction

92C : Methods of computation of ALP

92CA: Reference to TPO

92CB : Safe harbour rules

92CC : Advance Pricing agreement

92CD : Effect of TP agreement

92D : Maintenance of information and documents

92E : CA’s Report

92F : Definitions: Accountant, ALP, Enterprise, PE, Specified date, Transaction*

* Sec 92F – Definitions does not define terms relevant for domestic TP transactions
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Sec. 92 – Computation of income from international transaction having
regard to ALP
(1) Computation of income from international transaction having regard to ALP.
(2) mutual agreement etc for allocation or apportionment or contribution to any cost or expense
shall be determined having regard to ALP.
(newly inserted)
(2A) Any allowance for an expenditure or interest or allocation of any cost or expense or any
income in relation to specified domestic transaction shall be computed having regard to
ALP.
(3) section does not apply if the effect is reducing the income or increasing the loss.
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Sec. 92 C – Computation of ALP
The words “specified domestic transaction” has been inserted appropriately in various sub-sec.
(1) Any of the following methods, being most appropriate method :
(a)
(b)
(c)
(d)
(e)
(f)
Comparable uncontrolled price method;
Resale price method;
Cost plus method;
Profit split method;
Transactional net margin method;
other method of determination of arm’s length price
refer rule 10B
(any method that takes in to account the price which has been charged or paid or would
have been charged or paid for same or similar uncontrolled transaction with or between
non – associated enterprises)
(2) Most appropriate method as per criteria laid down in rule 10C considering FAR analysis
also.
FAR : Functions performed, Assets employed, Risks assumed [Rule 10C(2)]
• For the A.Y. 2013-14, the Government has notified a tolerance range of 3% u/s 92C for
specified domestic transactions vide notification dated April 15, 2013. However, for
wholesale traders, the range has been notified as 1% only.
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Section 92CA - Reference To TPO
The word “specified domestic transaction” inserted in various sub-sections.
 (1) AO may refer the computation of ALP to TPO
 (2) TPO to issue notice to Assessee to produce evidence in support of ALP
 (2A) Any other international transaction coming to notice of TPO*
 (2B) Non-furnishing of CA’s report and TPO’s power *
 (3) TPO shall pass the order determining ALP
 (4) AO to compute total income accordingly
 (7) TPO’s power of summons (s.131), survey (s.133A) and collecting
information u/s 133(6)applies even in Domestic Transaction
Sec. 144C (15)(b)…..Reference to DRP
• AO to forward draft of proposed order to eligible assessee
• eligible assessee means – any person in whose case order u/s 92CA is passed
* 92CA (2A ) & (2B) do not cover specified domestic transactions and hence the TPO cannot
suo moto upon the transaction coming to his notice apply the TP provisions
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Section 92CC : Advance pricing agreement
The Provisions of Advance pricing agreement are not made applicable to Specified
Domestic Transactions.
Section 92D : Maintenance and keeping information and document by
persons entering into an international transaction/ SDT
Entity Related
Price Related
Transaction Related
 Profile of Industry
 Transaction terms
 Agreements
 Profile of group
 FAR related
 Invoices
 Profile of related
parties
 Economic Analysis
(method selection,
comparable
benchmarking)
 Pricing related
correspondence
(letters, e-mails,
fax, etc.)
 Forecasts,
budgets, estimates
The onus of proving SDT at ALP is on tax payer
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Section 271 –Penalty Implications
Sr.
No.
1
Type of penalty
Section
Penalty quantified
a) Failure to maintain
prescribed information/
documents
(b) Failure to report any such
transaction or
271AA
2% of transaction
value
271G
2% of transaction
value
(c) Furnish incorrect
information
2
Failure to furnish information/
documents during assessment
u/s 92D
3
Adjustment to taxpayer’s
income during assessment
4
Failure to furnish accountant’s
report u/s 92E
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271(1)(c)
271BA
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100% to 300% of tax
on
adjustment amount
INR 100,000
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Sec 40A (2)(b) – Related Party
Sr.No
Relationship can exists
any time during the year
Payer / assessee
Payee
(i)
Individual
Any relative
[defined in sec. 2(41) to mean husband, wife, brother, sister, lineal ascendant or
descendant]
* Definition of Relative u/s 56(2) not relevant
(ii)
Company
any director or relative of such director
Firm (includes LLP)
any partner or relative of such partner
AOP
any member or relative of such member
HUF
any member or relative of such member
(iii)
Any Assessee
any individual having substantial interest in the assessee’s business or relative of
such individual
(iv)
Any assessee
a Company, Firm, AOP, HUF having substantial
interest in the assessees business
or
any director, partner, member
or
relative of such director, partner or member
or (newly inserted)
any other company carrying on business or profession in which the first mentioned
company has substantial interest.
A Ltd. (holding co)
15th December 2012
X Ltd. (subsidiary co)
Y Ltd. (subsidiary co)
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Type of transactions covered (illustrations for payments made by a
Company) …
Case 1 - Director or any relative of the
Director of the taxpayer – Section
40A(2)(b)(ii)
Case 2 - To an individual who has
substantial interest in the business or
profession of the taxpayer or relative of
such individual – Section 40A(2)(b)(iii)
Assessee
(Taxpayer)
Director
Substantial interest >20%
Assessee
(Taxpayer)
Relative
Mr. A
Mr. D
Mr. C
Mr. A
Mr. D
Relative
Covered transactions
Mr. C
Relative
Holding Structure
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Type of transactions covered (illustrations for payments made by a
Company) …
Case 4 – Any other company carrying on
business in which the first mentioned
company has substantial interest – Section
40A(2)(b)(iv)
Case 3 – To a Company having substantial
interest in the business of the taxpayer or
any director of such company or relative of
the director – Section 40A(2)(b)(iv)
Mr. D
A Ltd
Assessee
(Taxpayer)
Substantial interest >20%
Substantial
interest >20%
C Ltd
Substantial interest >20%
Relative
Director
Assessee
(Taxpayer)
Substantial interest >20%
Mr. C
A Ltd
B Ltd
Covered transactions
Holding Structure
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Type of transactions covered (illustrations for payments made by a
Company) …
Case 5 – To a Company of which a director has a substantial interest in the business of the taxpayer
or any director of such company or relative of the director – Section 40A(2)(b)(v)
Director
B Ltd
Substantial
interest >20%
Mr. A
Relative
Mr. C
Assessee
(Taxpayer)
Mr. D
Covered transactions
Holding Structure
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Type of transactions covered (illustrations for payments made by a
Company)…
Substantial
interest >20%
Assessee
(Taxpayer)
Case 7 – Any director or relative of the
director of taxpayer having substantial
interest
in
that
person–
Section
40A(2)(b)(vi)(B)
A Ltd
Substantial interest >20%
Assessee
(Taxpayer)
B Ltd
D Ltd
Mr C
Relative
Case 6 – To a Company in which the
taxpayer has substantial interest in the
business of the company – Section
40A(2)(b)(vi)(B)
Substantial interest >20%
Mr B
Covered transactions
Holding Structure
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Type of transactions covered (illustrations for payments made by a
Company)…
Transaction Covered
A&B
A
B
D
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C
E
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
A&C

A&D

A&E

B&C

D&E

C&D

D&E

24
Thus for Company A payments to following persons are covered
1
2
3
5th July 2013
• Company B having 20% or more voting power in A;
• any other company in which Company B has 20% or more voting power;
• a company in which A has 20% or more voting power;
• any company of which a director has 20% or more voting power in A;
• any company in which a director of A has 20% or more voting power;
• any director of A or of Company B or to any relative of such director; &
• any individual having 20% or more voting power in A or any relative of such
individual.
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Tax burden, if transaction not at ALP
X Ltd.
(non-tax
holiday)
Sale at 120 v/s
ALP i.e. 100
Sale at 120 v/s
ALP i.e. 100
X Ltd.
(tax holiday)
Sale at ` 80 v/s
ALP i.e. ` 100
X Ltd.
(tax holiday)
5th July 2013
Y Ltd.
(non-tax
holiday)
Disallowance of ` 20 to Y Ltd
[40A(2)(b)]
Y Ltd.
(non-tax
holiday)
Double Adjustment
Tax holiday on 20 not allowed to X Ltd –
[80IA(10)] (more than ordinary profits)
Disallowance of 20 to Y Ltd [40A(2)(b)]
Y Ltd.
(non-tax
holiday)
Inefficient pricing structure – reduced tax
holiday benefit since sale price is lower
than ALP
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Section 80IA (8) & 80IA (10) – Deduction in respect of profits and gains
from industrial undertaking or enterprise engaged in infrastructure
development, etc.
80IA (8)
80IA (10)
Inter-unit transaction of goods or services
• Business transacted with any person generates
more than ordinary profits
• Owing to either close connection or any other
reason
Applicable where transfer is not at market
value
Applicable to tax holiday units earning more than
ordinary profit
Onus on tax payer
• Primary onus on taxpayer
• Onus on tax authorities as well
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Illustration
ALP of 5 comparable companies OP/TC
Mark-up of the tax holiday entity
OP/TC
Arithmetic mean = 15%
30%
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Other Sections under Chapter VI-A......to which s. 80-IA(8) or (10) are
applicable
80-IA
Income from Infrastructure, Telecommunication, Industrial Park & Power sector etc.
80-IAB
Income of an undertaking or enterprise engaged in development of SEZ
80-IB
Income from certain Industrial undertaking and Housing Projects etc.
80-IC
Income from certain Industrial undertaking set up in Sikkim, HP...etc.
80-ID
Income from hotels etc in Delhi, Faridabad and other specified districts.
80-IE
Income from eligible business undertaking in North Eastern States
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Implication post - budget 2012 for SDT
FMV
ALP
No method prescribed for
computing FMV
Six methods prescribed for
computing ALP
No documentation required to be
maintained
Contemporaneous documentation
required to be maintained
Other than reporting in tax audit
report, no statutory compliance
Accountant’s report signed by a CA
to be filed
Assessment done by the AO
Assessment done by the TPO
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Points for Consideration
 Whether the threshold limit of Rs. 5 crore applies to the aggregate amount under all the
relevant sections taken together OR under each section separately i.e. 40A(2), 80A, 80-IA(8),
80-IA(10), 10AA etc. ?
 Whether payment for capital expenditure Or expenditure capitalized is also covered ?
 Whether the provisions will apply in case the payer’s income is chargeable to tax under the
head ‘Income from other sources’, because section 58(2) says –The provisions of section
40A shall, so far as may be, apply in computing the income chargeable under the head
“Income from other sources” as they apply in computing the income chargeable under the
head “Profits and gains of business or profession” ?
 Whether new provision applies to  Public Charitable Trust paying remuneration to related persons.
 Co-operative Societies
 Social Clubs
having a business undertaking

Transfer pricing provisions are not applicable in case where income is not chargeable to
tax at all.

Correlative adjustments - if excessive or unreasonable expenses are disallowed in the hands
of tax payer at time of the assessment then corresponding adjustment to the income of the
recipient will not be allowed in the hands of recipient of income. Hence, it would lead to double
taxation in India.
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Challenges
Type of payments/ transactions
• Salary and Bonuses paid to the partners
Challenges
• Benchmarking?
• Whether the limit as mentioned in section 40 (b)
would be the ALP?
• Remuneration paid to the Directors
• Benchmarking?
• Whether the limit as mentioned in Schedule XIII
would be the ALP?
• Transfer of land
• Whether the rates mentioned in the ready
reckoner be considered as ALP?
• Joint Development agreements
• Benchmarking?
• Project management fees
• Benchmarking?
• Allocation of expenses between the same
taxpayer having an eligible unit and non- • Whether these allocation would be SDT – Sec 80eligible unit
IA(10)?
• Definition of Related Party
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• Directly v/s Indirectly
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Filling Form 3CEB
• CBDT has issued a notification dated 10 June 2013 notifying the rules and
certificate for reporting specified domestic transactions.
• The existing rules have been amended to include specified domestic transactions.
• Further Form 3CEB has been amended to include Part C which contains reporting
of specified domestic transactions undertaken by the assessee.
• Accordingly every assessee who has entered into specified domestic transactions
will now have to obtain the auditors report in Form 3CEB and file the same with the
Income Tax Department.
• The amended rules comes into effect from 1 April 2013.
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Annexures to Form 3CEB
PART C (Specified Domestic Transactions)
21. List of associated enterprises with whom the
assessee has entered into specified domestic
transactions, with the following details:
(a) Name, address and PAN of the associated
enterprise.
(b) Nature of the relationship with the associated
enterprise.
(c) Brief description of the business carried on
by the said associated enterprise.
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Annexures to Form 3CEB (contd)…
22. Particulars in respect of transactions in the nature of any
expenditure:
Has the assessee entered into any specified domestic
transaction(s) being any expenditure in respect of which
payment has been made or is to be made to any person
referred to in section 40A(2)(b)?
Yes/No
If “yes”, provide the following details in respect of each of such
person and each transaction or class of transaction:
(a) Name of person with whom the specified
transaction has been entered into.
domestic
(a) Description of transaction along with quantitative details, if
any
(a) Total amount paid or payable in the transaction(i) as per books of account;
(ii) as computed by the assessee having regard to the arm’s
length price.
(d) Method used for determining the arm’s length price [See
section 92C(1)]
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Annexures to Form 3CEB (contd)…
23. Particulars in respect of transactions in the nature of transfer
or acquisition of any goods or services:
A. Has any undertaking or unit or enterprise or eligible business
of the assessee [as referred to in section 80A(6), 80IA(8) or
section 10AA)] transferred any goods or services to any other
business carried on by the assessee?
Yes/No
If yes, provide the following details in respect of each unit or
enterprise or eligible business:
(a) Name and details of business to which goods or services
have been transferred
(b) Description of goods or services transferred
(c) Amount received/receivable for transferring of such goods
or services –
(i) as per the books of account;
(ii) as computed by the assessee having regard to the arm’s
length price.
(d) Method used for determining the arm’s length price [See
section 92C(1)].
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Annexures to Form 3CEB (contd)…
23. Particulars in respect of transactions in the nature of transfer
or acquisition of any goods or services:
B. Has any undertaking or unit or enterprise or eligible business
of the assessee [as referred to in section 80A(6), 80IA(8) or
section 10AA] acquired any goods or services from another
business of the assessee?
Yes/No
If yes, provide the following details in respect of each unit or
enterprise or eligible business:
(a) Name and details of business from which goods or services
have been acquired
(b) Description of goods or services acquired
(c) Amount paid/payable for acquiring of such goods or
services(i) as per the books of account;
(ii) as computed by the assessee having regard to the arm’s
length price
(d) Method used for determining the arm’s length price [See
section 92C(1)].
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Annexures to Form 3CEB (contd)…
24. Particulars in respect of specified domestic transaction in the
nature of any business transacted:
Has the assessee entered into any specified domestic
transaction(s) with any associated enterprise which has
resulted in more than ordinary profits to an eligible business
to which section 80IA(10) or section 10AA applies?
Yes/No
If “yes”, provide the following details:
(a) Name of the person with whom the specified domestic
transaction has been entered into.
(a) Description of the transaction including quantitative details,
if any.
(a) Total amount received/receivable or paid/ payable in the
transaction (i) as per the books of account;
(ii) as computed by the assessee having regard to the
arm’s length price.
(d) Method used for determining the arm’s length price [See
section 92C(1)].
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Annexures to Form 3CEB (contd)…
25. Particulars in respect of any other transactions:
Has the assessee entered into any other specified domestic
transaction(s) not specifically referred to above, with an
associated enterprise?
Yes/No
If ‘yes’ provide the following details in respect of each
associated enterprise and each transaction:
(a) Name of the associated enterprise with whom the
specified domestic transaction has been entered into.
(b) Description of the transaction.
(c) Amount paid/received or payable/receivable in the
transaction(i) as per books of account;
(ii) as computed by the assessee having regard to the
arm’s length price.
(d) Method used for determining the arm’s length price [See
section 92C(1)].
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Importance of TP Documentation
•
•
•
•
•
•
•
Legal requirement [Sec. 92D read with Rule 10D]
Helps taxpayer in discharge of “burden of proof” that transactions are at
arm’s length
Captures relevant aspects of price determination mechanism in controlled
transactions
 Economically significant
 Functions
 Assets
 Risk
 Other relevant factors (such as ‘business strategies’, ‘special
circumstances’, etc.)
Facilitate TP audit and evaluation by tax authorities
A good defense against TP litigation
Greater the complexity and unusualness of the case, more importance is
attached to documentation.
Cost, time and efforts involved vis-à-vis likely benefits and importance need
to be evaluated
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Pre transaction-Planning Stage TP Documentation
• Quote from updated OECD TP Guidelines [page 182, para 5.3]:
“Each taxpayer should endeavor to determine transfer pricing for
tax purposes in accordance with the arms length principle, based
upon information reasonably available at the time of the
determination. Thus, a taxpayer ordinarily should give consideration
to whether its transfer pricing is appropriate for tax purposes before
the pricing is established. For example, it would be reasonable for a
taxpayer to have made a determination regarding whether
comparable data from uncontrolled transactions are available. The
taxpayer also could be expected to examine, based on information
reasonably available, whether the conditions used to establish
transfer pricing in prior years have changed, if those conditions are
to be used to determine transfer pricing for the current year.”
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Pre transaction-Planning Stage TP Documentation
Helps in demonstrating:
 Taxpayer applied ‘prudent business management principle’ in establishing transfer
price
 Efforts undertaken to comply with arms length principle
 Information on which transfer price is based (such as External/Internal information
relied on etc.)
 Factors taken into account (such as proposed business model: captive or
entrepreneur or contracted service provider, forecast, budgeting, etc.)
 Most appropriate method considered for ALP determination.
 Achieving the requirement of “contemporaneous documentation”
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Post Transaction TP Documentation / review
•
Requirement of Law
•
Assist in identifying deviations in pre transaction facts and post transaction
facts and in gathering justifications for deviations, if any.
•
Updation of data (financial or otherwise) of tested party as well as
comparable uncontrolled transactions.
•
Provides opportunity for self adjustment in transfer price
– Avoid penal consequences
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Indian Rules on TP Documentation…
Information and documents to be kept and maintained under section 92D(Rule 10D
of Income Tax rules)
10D. (1) Every person who has entered into an international transaction / SDT shall keep
and maintain the following information and documents, namely:—
(a)
a description of the ownership structure of the assessee enterprise with details of
shares or other ownership interest held therein by other enterprises;
(b)
a profile of the multinational group of which the assessee enterprise is a part
along with the name, address, legal status and country of tax residence of each of
the enterprises comprised in the group with whom international transactions have
been entered into by the assessee, and ownership linkages among them;
(c)
a broad description of the business of the assessee and the industry in which the
assessee operates, and of the business of the associated enterprises with whom
the assessee has transacted;
(d)
the nature and terms (including prices) of international transactions entered into
with each associated enterprise, details of property transferred or services
provided and the quantum and the value of each such transaction or class of
such transaction;
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…Rule 10D of Income Tax Rules
(e)
a description of the functions performed, risks assumed and assets employed
or to be employed by the assessee and by the associated enterprises involved
in the international transaction;
(f)
a record of the economic and market analyses, forecasts, budgets or any
other financial estimates prepared by the assessee for the business as a
whole and for each division or product separately, which may have a bearing
on the international transactions entered into by the assessee;
(g)
a record of uncontrolled transactions taken into account for analysing their
comparability with the international transactions entered into, including a
record of the nature, terms and conditions relating to any uncontrolled
transaction with third parties which may be of relevance to the pricing of the
international transactions;
(h)
a record of the analysis performed to evaluate comparability of uncontrolled
transactions with the relevant international transaction;
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…Rule 10D of Income Tax Rules
(i)
a description of the methods considered for determining the arm’s length price
in relation to each international transaction or class of transaction, the method
selected as the most appropriate method along with explanations as to why
such method was so selected, and how such method was applied in each
case;
(j)
a record of the actual working carried out for determining the arm’s length
price, including details of the comparable data and financial information used
in applying the most appropriate method, and adjustments, if any, which were
made to account for differences between the international transaction and the
comparable uncontrolled transactions, or between the enterprises entering
into such transactions;
(k)
the assumptions, policies and price negotiations, if any, which have critically
affected the determination of the arm’s length price;
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…Rule 10D of Income Tax Rules
(l)
details of the adjustments, if any, made to transfer prices to align them with
arm’s length prices determined under these rules and consequent adjustment
made to the total income for tax purposes;
(m)
any other information, data or document, including information or data relating
to the associated enterprise, which may be relevant for determination of the
arm’s length price.
The above documentation shall be supported by the reports and documents
specified in Rule 10D(3)
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Rule 10D-Documentation Requirements
Entity related
-Profile of industry
-Profile of group
-Profile of India entity
-Profile of associated enterprises
Price related
-Transaction terms
-Functional Analysis
( function, assets and risks)
-Economic analysis
(method selection, comparable
benchmarking)
-Forecasts, budgets, estimates
Transaction related
-Agreements
-Invoices
-Pricing related correspondence
(letters, emails etc)
-Contemporaneous documentation requirement- Rule 10D
Documentation to be retained for 8 years
No specific documentation requirement if the value of international
transaction / SDT * is less than one crore rupees
* Section 92D refers to documentation as prescribed by Rule 10D, however there has not been
corresponding amendment in Rule 10D with respect to providing relief from documentation
requirement where value of SDT does not exceed 1 crore as is available in case of international
transactions. However going by legislative intent such relief should also be available in case of SDT as
well.
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TRANSFER PRICING DOCUMENTATION
Documentation Best Practices
Master File
Transaction
File
TP
Study
General
Agreement
& Invoices
Characterisation
& Analysis
Policy
Related
FAR
Related
Benchmarking
Pricing
Related
Justification
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TP
Certification
Assumptions
Notes
TP
Assessment
Representation
Related
Litigation
Support
Undertaking &
Representations
49
TRANSFER PRICING DOCUMENTATION
Documentation Best Practices – Master File
THE GROUP
Details/
Information
Sources/
Documentation
Historical background
Business Profile or Brochure
Shareholding pattern
Statutory Records/ Registers
Organisation structure
Business model
Information / Reports filed with
external agencies
Taxpayer Website
Key Business segments
Product Brochures
Key Products and their
applications
Industry classification
Historical Annual Reports
Customer profile
Management Discussion/
Representation
Registrations & Applications
Physical / Functional set-up
Details/
Information
Ownership &
Management
structure
Sources/
Documentation
Ownership & Management
Chart
Lines of Business
Group Website
Key products dealt in
Product brochures
Functional structure
of Group members
Management Discussion/
Representation
Customer profile
Global Transfer Pricing
documentation
Key Financial
numbers
Consolidated financial
statements
Books of Accounts
THE TAXPAYER
Employee profile
Research & Development activity
Key financial numbers
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(contd)…
THE AE
Details/
Information
Global Scenario
Indian Scenario
Sources/
Documentation
Authentic Internal / External
Sources
Publications from Industry
Associations
Industry constituents
Key Value Drivers & Weights
thereof
Internal / External
dependence
Analysts Reports
Reports of Research Agencies
Government Body / Ministry
Report
Market Size/ Market Share
Offer Document / Annual Report
of Peers
Details/
Information
Sources/
Documentation
Identification of Associated
Enterprise(s)
Group Holding Structure
Relationship with the
Taxpayer
Management Discussion
/Representation
Business activity
Website of Associated
Enterprise(s)
Annual Report of
Physical / Functional set-up Associated Enterprise(s)
Key financial numbers
Regulatory Framework
Local/ International Publications
SWOT Analysis
Published Reports
THE INDUSTRY
Industry Magazines
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Details/
Information
Sources/
Documentation
Complete list of Specified
Domestic transactions
Quantity, Quality & Price
Related Information
Terms of Transactions
Agreements /
Arrangements
Invoices / Debit Notes /
Credit Notes
Supporting Documents
Pricing Methodology
Relevant Entity / Group
Policies
Management Discussion /
Representation
Books of Accounts
Characterisation of
Transactions
Margin Workings
Disclosures in Financial
Statements
COMPARABILITY
Details/
Information
Sources/
Documentation
Functions Performed
Agreements / Arrangements
Assets Deployed
Risks Assumed
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Management Discussion
/Representation
(contd)…
SPECIFIED DOMESTIC
TRANSACTIONS
Details/
Information
Sources/
Documentation
Identification of Comparable
Uncontrolled Transaction
(Internal /External)
Quantity, Quality & Price
related info
Internal / External Sources
Terms of Transactions
Industry / Company Reports
Margin Workings
Specific Benchmarking
Selection of Comparable
Entities
Basis and Process of
selection
FAR profile of Comparable
Entities
Annual Reports of
Comparable Entites
Expert Analysis
Agreements / Arrangements
Competition Information
Management Discussion /
Representation
FAR ANALYSIS
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CASE STUDY 1
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Case Study 1
Facts
• HCO, an Indian company, is a manufacturer of FMCG products. It has four Indian
subsidiaries; namely IndCo1, IndCo2, IndCo3 and IndCo4 in different segment of FMCG
products. Neither HCO nor its subsidiaries (except IndCo4) enjoy any profit linked deduction
under Chapter VIA or sec 10AA. HCO also has 21% shareholding in UK Co (a company
incorporated in UK) and 79% shareholding of UK Co is held by others.
• HCO has taken two loans i.e. one from Bank1 at an interest rate of 14% and other from an
unrelated party at an interest rate of 13%.
• HCO has advanced following loans to its subsidiaries:
• IndCo1 at an interest rate of 16%.
• IndCo2 at an interest rate of 10% as the company is suffering huge losses.
• Interest-free loan to IndCo3 as it is a startup company and loan given are primarily to
provide seed funding to develop a sound strategy and transform its ideas and
innovations into demand and gain market share.
• Interest-free loan to IndCo4 and it is utilized for its SEZ Unit u/s 10AA so that it is
working efficiently.
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(contd)…
Case Study 1
•
HCO given an interest free loan to UK Co
•
IndCo1 has taken a loan from Bank2 at an interest rate of 14% for which HCO has given a guarantee to
Bank2. HCO does not charge any guarantee fee to IndCo1.
•
IndCo1 has also taken another loan from Bank 3 at an interest rate of 14%. For this loan, HCO has
given a letter of comfort to Bank3, as sole shareholder of IndCo1that it will exert its influence to
ensure that IndCo1 would meet its liabilities to Bank 3 in the agreed manner. Moreover; HCO has
confirmed that no changes are planned in the ownership structures of the subsidiaries for the terms
of loans.
•
HCO has provided a performance guarantee to IndCo3 to make IndCo3 eligible to bid on a project. If
the bid is successful, HCO will then add substance to IndCo3 in the form of providing further working
capital finance, making it sufficiently robust to operate the project on its own and in turn making the
performance guarantee “a mere formality,” . A guarantee in this context confers an economic benefit
and allows IndCo3 to bid and perchance to win and thus is compensable. Whereas if the bid is not
successful, the guarantee will be “of little practical value or benefit to the subsidiary and should be
regarded as a non-compensable shareholder activity because the subsidiary derives no benefit from
the guarantee.
•
In each company, the specified domestic transactions exceed threshold limit of Rs 50 million for all
four subsidiaries.
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(contd)…
Case Study 1
Question
Analyze the applicability of the Domestic TP provisions in the hands on HCO, IndCo1,
IndCo2, IndCo3 and IndCo4 as well as UK Co in respect of their financial dealings.
H Co contends that no guarantee fees is chargeable due to the fact that IndCo1 was
inadequately capitalized and it was its benefit to give guarantee on the basis of which
bank loan were obtained by IndCo1 at the same rate of interest without any benefits to
HCO.
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(contd)…
Case Study 1
India
HCO
Loan from
Bank1 @ 14%
Loan against bank
guarantee from
Bank 2 @ 16%
Loan from
Bank 3@16%
Against Letter
of Comfort of
H CO
5th July 2013
Loan @
17%
Loan @
10%
Interest
free loan
IndCo1
IndCo2
IndCo3
UK
Loan from
Unrelated Party
@13%
Interest
free loan
IndCo4
SEZ Unit u/s10AA
Interest
free loan
UK Co
21% by H Co
Performance
Guarantee of
H CO
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(contd)…
Case Study 1
For IndCo1
1. Loan taken from HCO
a. Loan taken by IndCo1 from HCO at interest rate of 17% for which Interest payment by IndCo1
u/s 40A(2)(b) constitutes SDT(u/s 92BA) and hence IndCo1 will be liable to comply with
Domestic TP provisions.
b. Interest payment to related party needs to be benchmarked by selecting the most appropriate
method u/s 92C r.w Rule 10B and Rule 10C for computation of arm’s length price.
c.
IndCo1 has also taken two other loans. First, loan taken from Bank2 at an interest rate of
16%. Second, loan taken from Bank3 at an interest rate of 16%. Therefore, CUP Method is the
most appropriate method. Thus, ALP interest rate works out to be 16% (arithmetic mean of
16% and 16%).
d. Having regard to the facts, the Assessing Officer possibly will try to make TP adjustment by
disallowing excess interest of 1% (17%-16%) ,not being arms length but the fact needs to be
demonstrated that other loans are with guarantees and without that there could be an extra
charge by the bank (normally I.T. dept. takes 3% as guarantee fees in other cases and hence
if appropriate adjustment is made to the rate of interest with such guarantee commission the
lending rate of bank would go up by almost 3% and hence interest paid is at arms
length.)However it is not established then IndCo1 would be exposed to penalty u/s 271(1)(c)
r.w.t. Explanation 7 as deemed to be concealment of income or furnishing inaccurate
particulars in respect of addition to income by way of TP adjustment.
e. IndCo1 may be exposed to penalty u/s 271G if it has defaulted on maintenance of TP
documentation and/or u/s 271BA if it has defaulted on furnishing of TP audit report.
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(contd)…
Case Study 1
For IndCo1 (contd)…
2. Guarantee given by HCO for loan taken from Bank2
Since no guarantee fees is paid by IndCo1, provisions of sec 40A(2)(b) r.w.s. 92BA are not
applicable. Therefore, this transaction is not SDT u/s 92BA.
3. Letter of Comfort given by HCO for loan taken from Bank3
Since no consideration is paid by IndCo1, provisions of sec 40A(2)(b) r.w.s. 92BA are not
applicable. Therefore, this transaction is not SDT u/s 92BA.
For HCO (w.r.t IndCo1 Transaction)
i. 17% Interest is received by HCO on loan given to IndCo1 is not covered u/s 40A(2)(b)
and hence it does not constitute SDT(u/s 92BA) for HCO.
ii. HCO has given guarantee to Bank2 on loan taken by IndCo1 and HCO has not charged
any guarantee fee for the same. Only expenditure on payment made or to be made to
related party is covered u/s 40A(2)(b) and thus even if there was any receipt or nonreceipt of guarantee fee income, it would not have been covered u/s 40A(2)(b). Thus, it
is not SDT (u/s 92BA) for HCO.
iii. HCO has also given letter of comfort to Bank3 on loan taken by IndCo1 and no
monetary benefit is received for this transaction. Therefore, it does not constitute SDT
(u/s 92BA) for HCO.
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(contd)…
Case Study 1
For IndCo2
a) Loan taken by IndCo2 from HCO at interest rate of 10% for which Interest payment by IndCo1
u/s 40A(2)(b) constitutes SDT(u/s 92BA) and hence IndCo1 will be liable to comply with
Domestic TP provisions.
b) Interest payment to related party needs to be benchmarked by selecting the most appropriate
method u/s 92C r.w. Rule 10B and Rule 10C for computation of arm’s length price.
c) Having regard to the facts, CUP Method is the most appropriate method wherein External CUP
can be applied for benchmarking the transaction by adopting PLR of any nationalized banks in
India or by adopting rate of interest paid by HCO on loans taken from bank i.e. 14% and
IndCo1’s borrowings @16%. Thus, ALP interest rate works out to be above 10%.
d) In this case, interest rate of 10% is lesser than ALP interest rate. Therefore, transaction entered
into by IndCo2 of interest payment to related party is at arm’s length. Therefore, no TP
adjustments is warranted in this case.
For HCO (w.r.t IndCo2 Transaction)
10% Interest is received by HCO on loan given to IndCo2 is not covered u/s 40A(2)(b)
and hence it does not constitute SDT (u/s 92BA) for HCO.
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(contd)…
Case Study 1
For IndCo3
1. Interest free Loan taken from HCO
a. Since no interest is paid by IndCo3, provisions of sec 40A(2)(b) r.w.s. 92BA are not applicable.
Therefore, this transaction is not SDT u/s 92BA.
b. But, interest free loan taken from related party is required to be reported in TP Audit Report i.e
Form 3CEB. IndCo3 may be exposed to penalty u/s 271G if it has defaulted on maintenance
of TP documentation and/or u/s 271BA if it has defaulted on furnishing of TP audit report.
2. Performance guarantee given by HCO for loan taken from Bank3
Since no consideration is paid by IndCo1, provisions of sec 40A(2)(b) r.w.s. 92BA are not
applicable. Therefore, this transaction is not SDT u/s 92BA
For HCO (w.r.t IndCo3 Transaction)
1. HCO has given an interest free loan to IndCo3. It has not charged any interest to IndCo3
as IndCo3 is a startup company. Only expenditure on payment made or to be made to
related party is covered u/s 40A(2)(b) and thus even if there was any receipt or non-receipt
of interest, it would not have been covered u/s 40A(2)(b). Thus, it is not SDT (u/s 92BA) for
HCO.
2. HCO has provided a performance guarantee to IndCo3 to make IndCo3 eligible to bid on
a project. HCO has not charged any guarantee fee for the same. Only expenditure on
payment made or to be made to related party is covered u/s 40A(2)(b) and thus even if
there was any receipt or non-receipt of guarantee fee income, it would not have been
covered u/s 40A(2)(b). Thus, it is not SDT (u/s 92BA) for HCO.
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(contd)…
Case Study 1
For IndCo4
1. Interest free loan taken by IndCo4 (having an eligible unit ie SEZ unit u/s 10AA) from HCO (non eligible unit)
and utilized the said loan for its sec 10AA unit.
2. We have to analyze whether the said transaction is falling within the any of the provisions of section 92BA i
e whether it is SDT ?
3. As per section 92BA(v) any transaction , referred to in section 10AA to which provisions of section 80IA(10)
are applicable is SDT. As per section 80IA(10) where an eligible unit enters into SDT with any other person,
then for the purpose of availing benefit under section 80-IA, the transaction recorded in the books of
accounts of eligible unit should correspond to the ALP of such goods or services worked out as per section
92C.
4. However, Sec 80IA(10) is attracted only to those transactions in which, when it appears to the AO that,
owing to the close connection between the assessee carrying on the eligible business (to which section
80IA applies) and any other person, or for any other reason, the course of business between them is so
arranged that the business transacted between them produces to the assessee more than the ordinary
profits which might be expected to arise in such eligible business.
5. Thus, it is clear that the onus of proving that provisions of s. 80-IA(10) are attracted and that the
business affairs are so arranged that it produces more than ordinary profits is on the AO and AO may
deny deduction u/s10AA on the ground that interest free loan given by HCO to IndCo4 was to enable
IndCo4 to earn more than ordinary profits by invoking provisions of sec 10AA(9) r.w.s. 80-IA(10) r.w.s.
92BA(v).
(contd)…..
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(contd)…
Case Study 1
For IndCo4
1. Therefore, in the given case if the IndCo 4 believes that business transacted with HCO is
bonafide and it cannot be considered as tax evading arrangement then such transaction may not
be regarded as SDT in terms of s. 92BA(V).Ind Co4 can also take an argument that MAT
provisions are applicable to 10AA units also hence there is no incentive to shift profit to 10AA unit
by not charging any interest for the loan utilised for 10AA unit. Hence, provisions of section
80IA(10) r.w.s 92BA(V) are not applicable to such transaction.
2. IndCo4 may be exposed to penalty u/s 271G if it has defaulted on maintenance of TP
documentation and/or u/s 271BA if it has defaulted on furnishing of TP audit report .
For HCO (w.r.t IndCo4 Transaction)
HCO has given an interest free loan to IndCo4. IndCo4 has utilized interest free loan for its SEZ
Unit u/s 10AA. Only expenditure on payment made or to be made to related party is covered u/s
40A(2)(b) and thus even if there was any receipt or non-receipt of interest, it would not have been
covered u/s 40A(2)(b). Thus, it is not SDT (u/s 92BA) for HCO.
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(contd)…
Case Study 1
For UK Co.
No tax effect in the hands of UK Co as UK Co is not to be assessed to tax in India. Hence it is
neither covered by SDT no by international transaction u/s 92B.
For HCO (w.r.t UK Co Transaction)
HCO has given an interest free loan to UK Co in which HCO has only 21% shareholding.
Therefore, UK Co is not an associated enterprises u/s 92A(2)(b).But UK Co would become a
related party (of HCO) u/s 40A(2)(b)(iv) for a loan given to Non-Resident Related Party. Only
expenditure on payment made or to be made to related party is covered u/s 40A(2)(b) and thus
even if there was any receipt or non-receipt of interest, it would not have been covered u/s
40A(2)(b). Thus, it is not SDT (u/s 92BA) for HCO.
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CASE STUDY 2
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Case Study 2
Facts
•
A Co, an Indian company, is engaged in business of polyester films. It has substantial
interest in B Co and has a wholly owned subsidiary D Inc in USA. Both A Co and B Co are
units covered u/s 10AA.
•
A Co has its own R&D Centre which develops the technology for product research, design
and development and enhances efficiency in production of polyester films.
•
A Co manufactures raw materials namely, dimethyl terephthalate, terephthalic acid and
ethylene glycol and sells it to B Co.
•
A Co licenses technical know-how and formulas to B Co for processing of raw materials
into finished goods i.e. polyester films.
•
B Co processes the raw materials into finished goods i.e. Polyester films and sells the
finished goods to A Co at Rs. 100 per sq ft. B Co has also made a miniscule sale to third
parties at Rs 120 per sq ft.
•
Royalty is charged for (use of tech know how by B Co) by A Co to B Co at the rate of 3%
on sale of total polyester films to A Co as well as third parties.
•
A Co also purchase polyester films but of substantially different qualities from third parties
at Rs. 80 per sq ft.
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(contd)…
Case Study 2
•
C Co, an agent, provides marketing and sales promotion services to A Co for which it charges
commission at 7% of sales made by A Co. A Co cuts polyester films into large master rolls and slit
to precision widths before delivery to customer and packages as per customer requirement.
•
A Co sells polyester films to Indian customers at Rs. 125 per sq. ft.
•
D Inc is the face of A Co in US and overseas markets. A Co sells polyester films to the associated
enterprise D Inc (USA) at cost plus 10% mark-up.
•
A Co follows Just‐in‐Time approach to manage inventory which in turn helps in balanced
production and maintenance of required stock level of raw materials and finished goods.
•
Research on various geographical areas where market can be developed is done by C Co. Market
development includes focus on existing customers and also on potential customers. Selling and
distribution activities as well as after-sales activities are undertaken by C Co.
•
A Co and B Co perform administration functions independently for their respective organizations
based on policies framed.
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(contd)…
Case Study 2
•
All three companies (A Co, B Co and D Inc) deploy its tangible assets in the form of fixed assets and
working capital for manufacturing and sale operations. The tangible assets include office facilities,
warehouses, material handling equipments, computer hardware, quality control equipments, etc.
•
B Co does not have significant exposure to market risk since it is primarily involved in the
processing of raw materials to finished goods polyester films. A Co has a significant exposure to
market risks in order to meet consumer needs.
•
A Co bears a significant exposure to technology risk as the changes of finished goods i.e. quality of
polyester films becoming obsolete is high and thus, it is a challenge for the company to keep up
with the developments in technology in order to face market competition. Whereas B Co faces
almost no technology risk as it uses technology of A Co and processing job has lesser chances of
technology becoming obsolete.
•
All major credit risks related to sales are borne by A Co whereas B Co faces less / no risk since its
major sales are to A Co and a miniscule amount of sales to third parties. A Co is exposed to foreign
currency fluctuation risk due to export of polyester films to its associated enterprises abroad.
•
Operating Margin on Total Cost for:
•
•
A Co – 8% whereas Comparables – 13%
B Co – 6% whereas Comparables – 9.5%
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(contd)…
Case Study 2
Question
1. Analyze of the applicability of Domestic TP provisions in the hands of B Co in
respect of following transactions:• Purchase of Raw Materials by B Co
• Purchase of Polyester films by A Co
• Royalty paid by B Co
2. Analyze the applicability of transfer pricing provisions in respect of
international transaction for sale of polyester films by A Co to its associated
enterprise D Inc USA.
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(contd)…
Case Study 2
Third Parties
Purchase of Polyester Film of
substantially different quality
Royalty Paid for
Tech Know-how
Sale of Polyester
Films
A Co
Commission
Paid @7%
B Co
(Substantial Interest
held by A Co)
Sale of Manufactured
Raw Materials
Sale of
Polyester
Films
Third
Parties
Sale of Polyester
Films
Customers
C Co
India
USA
Sale of
Polyester Films
D Inc
(WOS of A Co)
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(contd)…
Case Study 2
Analysis
Applicability of Domestic TP - B Co
Transaction 1:- Purchase of Raw Materials by B Co from A Co
Category
Level of Intensity
Functions Performed
1. Market development
2. Product development
3. Manufacturing
4. Quality control
5. Post sales activities
6. General management functions
7. Corporate strategy determination
8. Finance, accounting, treasury & legal
9. Human resource management
Assets Employed
1. Tangibles
2. Intangibles
Risks Assumed
1. Market risk
2. Product liability risk
3. Technology risk
4. Research & Development risk
5. Credit risk
6. Inventory risk
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B Co
A Co
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(contd)…
Case Study 2
Transaction 1:- Purchase of Raw Materials by B Co from A Co
Criteria
Analysis
Result / comments
Company Profile
•
•
Manufactures and markets polyester films
Earns Operating profit margin (entity level) of 6%
FAR Analysis
•
•
B Co is a manufacturer and seller of polyester films B Co is simpler and comparable
For benchmarking, the operating profit margins of data is available and hence,
comparable companies have been compared with selected as the tested party
the operating profit margin of B Co at entity level
as well as with reference to operating margins
earned on the sale transactions with associated
enterprises.
Selection of
Methodology
•
•
CUP: Unavailability of internal/external CUP data CPM or TNMM could be
RPM: Taxpayer is a manufacturer and not a reseller selected as most appropriate
of products
method
PSM: Routine manufacturer hence not applicable
CPM: May be applied if reliable cost data is
available
TNMM: Relatively less stringent comparability
standards and external comparable’s data available
on public database
•
•
•
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Arm’s length nature of revenue
to be tested
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(contd)…
Case Study 2
Transaction 2 :- Purchase of Polyester films by A Co from B Co
Level of Intensity
Category
Functions Performed
1. Product development
2. Manufacturing
3. Quality control
4. Post sales activities
5. General management functions
6. Corporate strategy determination
7. Finance, accounting, treasury & legal
8. Human resource management
Assets Employed
1. Tangibles
2. Intangibles
Risks Assumed
1. Market risk
2. Product liability risk
3. Technology risk
4. Research & Development risk
5. Credit risk
6. Inventory risk
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A Co
B Co
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(contd)…
Case Study 2
Transaction 2 :- Purchase of Polyester films by A Co from B Co
Criteria
Company Profile
(A Co.)
Analysis
•
•
Result / comments
Trader of polyester films (besides being Arm’s length nature of revenue
manufacturer of raw material)
to be tested
Earns Operating profit margin (entity level) of 8%
•
•
A Co is a trader of polyester films
A Co. is simpler and comparable
For benchmarking, the operating profit margins of data is available and hence,
comparable companies have been compared with selected as the tested party
the operating profit margin of the A Co at entity
level
Selection
of •
Methodology
•
CUP: Unavailability of internal/external CUP data RPM or TNMM could be
RPM: A Co is cutting rolls into different sizes to selected
as
the
most
make the product marketable and is not making appropriate method
substantial value addition to it and therefore, A
Co is a pure reseller of products
CPM: Unavailability of comparable data at gross
level
PSM: Routine manufacturer/trader hence not
applicable
TNMM: Relatively less stringent comparability
standards and external comparable’s data
available on public database
FAR Analysis
•
•
•
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(contd)…
Case Study 2
Transaction for royalty paid by B Co to A Co
Since data on uncontrolled comparable transactions (i.e. rates of royalty) is not
available in public domain, benchmarking of payment of royalty by B Co to A Co. could
be done by applying External TNMM
International transaction for sale of polyester films by A Co to its associated
enterprise D Inc USA.
Being an international transaction, all the transfer pricing provisions relating to
international transaction would be applicable and the transaction would be
benchmarked u/s 92C r.w. Rule 10B and Rule 10 C.
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CASE STUDY 3
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Case Study 3
Facts
1. US Co is having a permanent establishment (PE) in India, Mr. A, a director of US Co, is
deputed to Indian PE in financial year 2013 – 14 i.e from 1st December 2013.
2.
Salary is paid to Mr. A by US Co and PE in India for respective periods worked in both
(US Co and Indian PE).
3.
Mr. A is a non-resident in India for the financial year 2013-14.
4.
Indian PE (taxed on net basis) has claimed deduction for salary paid to Mr. A in its
return of income for FY 2013-14.
Question
1. Whether domestic transfer pricing provisions are applicable to Indian PE for salary
paid to Mr. A?
2. Assume Indian PE is a subsidiary company of US Co and Mr. A is a non-resident and is
also a Director of subsidiary company getting salary from subsidiary company.
Whether payments made to director is a specified domestic transaction?
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(contd)…
Case Study 3
Where US Co has PE in India
Salary paid by US Co
(1/4/2013 to 30/11/2013)
US CO
Mr. A
Director of US CO
USA
India
Salary paid by Indian PE
(1/12/2013 to 31/03/2014)
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Indian PE
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(contd)…
Case Study 3
Where Ind Co is Subsidiary of US Co
US CO
Salary paid
USA
Mr. A
Director of Ind Co & US CO
India
Ind Co
Salary paid
(WOS)
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Case Study 3
• Salary paid to Mr. A is not an International Transaction in terms of s. 92B r.w.s. 92A since data
on shareholding of Mr A is not given. Therefore, Mr.A is not an AE of US Co as defined u/s
92A. But if Mr. A held at least 26% of shares in US Co, it would constitute as an international
transaction and any salary paid to Mr. A would be regarded as an international transaction.
• However, if he does not hold any shares still Mr. A is a director of US Co and hence covered as
a related party u/s 40A(2)(b)(ii).
• Since payment is made to related party covered by s. 40A(2)(b), the transaction constitutes
SDT in terms of s. 92BA(i)
• Being SDT, salary payment to Mr. A will be liable to Domestic TP and PE will be required to
benchmark it to ALP, maintain documentation and furnish TP audit report.
• Salary paid to Mr. A is required to reported in TP Audit Report i.e Form 3CEB by Indian PE.
Thus, Indian PE may also be exposed to penalty u/s 271G if it has defaulted on maintenance of
TP documentation and/or u/s 271BA if it has defaulted on furnishing of TP audit report.
• Million dollar question is how do you demonstrate it to be at Arms Length.
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CASE STUDY 4
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Case
Stu1
– Sale
Case
Study
4 of Fixed Assets, Sale of goods and (contd)…
Marketing Support Services
Transaction Mechanism:
• H-Co is an overseas company engaged
in manufacturing engineering products
and has a shareholding of 40% in Ind-Co.
M-Co
• Ind-Co is engaged in manufacturing and
H-Co
supply of machinery components locally.
• Ind-Co in turn has 50% shareholding in
Outside India
A-Co which is engaged in manufacturing
industrial goods.
India
• A-Co purchases fixed assets from Ind-Co
Marketing
support
services of
INR 4.5 cr
amounting to INR 4.5 cr.
40 %
Purchase
of raw
material
INR 4.5 cr
Ind-Co
50%
22%
5th July 2013
• M-Co is a company located outside India
A-Co
in which A-Co holds 22 percent stake. MCo provides marketing support services
to A-Co. and the total payment made by
A-Co. during the year is INR 4.5 cr.
Sale of
goods of
INR 10 cr
• A-Co has also purchased raw material
Purchase
of FA of
INR 4.5
cr
from H-Co amounting to INR 4.5 cr.
• A-Co sells raw material of INR 10 cr to
T.P.Ostwal & Associates
Ind-Co which is used in its manufacturing
activity.
82
Case
Stu1
– Sale
Case
Study
4 of Fixed Assets, Sale of goods and (contd)…
Marketing Support Services
Key Considerations:
M-Co
H-Co
•
Identify the related parties and the
transactions under the purview of
SDT?
•
Is the transaction pertaining to
purchase of fixed assets by A-Co
covered by SDT?
•
Will SDT apply to A-Co considering
the quantum of transactions?
•
How will the identified transactions be
benchmarked?
Outside India
India
Marketing
support
services of
INR 4.5 cr
40 %
Purchase
of raw
material
INR 4.5 cr
Ind-Co
50%
22%
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A-Co
Sale of
goods of
INR 10 cr
Purchase
of FA of
INR 4.5
cr
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CASE STUDY 5
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Case Study 5
Case Study 2 – Cross Charge for Royalty
Transaction Mechanism:
• I-Co is an Indian company which
owns a
brand and has a subsidiary SubCo1
FCo2
FCo1
• It also has a share holding of 5% in
SubCo2
• FCo1 holds 51% in I-Co and FCo2 holds
0% Royalty
21 %
51 %
INR 6 Cr
INR 4 Cr
0% Royalty
Outside India
India
I-Co
INR 7 Cr
INR 3 Cr
3%
Royalty
SubCo1
5th July 2013
• All the entities have a substantial marketing
spend including I-Co
Key Considerations:
• Assuming the brand has no value, what will
be the implication of the royalty transaction
under the SDT as well as international
transfer pricing? Will the marketing spend
be subject to disallowance under sec 37?
2%
Royalty
51 %
21%
5%
SubCo2
T.P.Ostwal & Associates
• Assuming the brand has value in India and
is not much popular abroad, what will be
the implication of the royalty transaction
under the SDT as well as international
transfer pricing? Will the marketing spend
be subject to disallowance under sec 37?
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CASE STUDY 6
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Case Study 6
Transaction Mechanism:
•
Gem-Co is a company engaged in
manufacturing, branding and distribution of
gem stones.
•
Gem-Co performs on a centralised basis and
provides various functions such as finance,
business development, HR, branding, etc.
•
Gem-Co has two units, Unit -1 and Unit - 2.
Unit -1 is a tax holiday unit and Unit - 2 is a tax
paying unit.
Gem-Co
Corporate overheads allocated
Unit - 1
(tax holiday)
Unit - 2
Key Considerations:
5th July 2013
•
Whether Gem-Co needs to allocate corporate
overhead costs to both Units considering
these are necessary for day to day
operations?
•
How will overheads be allocated?
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CASE STUDY 7
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Case Study 7
Transaction Mechanism:
• Tech-Co is a holding company
which owns 100%
stake in S-Co and T-Co which are incorporated in
India.
Tech-Co
• S-CO. is a Technical Consultancy Service company
which caters mainly to the IT / Telecom sectors and
have many AEs outside India.
• T-CO. is also a Technical Consultancy Service
Company which caters to the domestic market.
S-Co (tax
holiday unit)
Provision of
IT services
Export of IT
services
T-Co (taxable
entity)
• S-Co avails tax holiday benefit and T-Co is tax
paying entity.
• S-CO. provides services to its AEs as well T-CO.
and makes a margin on cost of 25%
India
Outside India
Key Considerations:
• Whether provision of services to both T-Co and AEs
at a margin on cost of 25% can be justified?
AE1
AE2
AE3
• What are the implications for domestic as well as
international transactions in the following cases:
– Margin on cost of comparables companies
engaged in exports is 20%
– Margins on cost of comparable companies
catering to the domestic market is 15%
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CASE STUDY 8
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Case Study 8
Transaction Mechanism:
Tech-Co
Unit - 1
Cost + 25%
(tax holiday
unit)
Export of IT
services
Provision of
IT services
Cost + 25%
Unit - 2
(taxable
unit)A
AE2
5th July 2013
AE3
Tech-Co is a Technical Consultancy Services
company which caters mainly to the IT /
Telecom sectors and operates through two
units
•
Unit - 1 is claiming tax holiday benefit and is
engaged in provision of IT services.
•
Unit - 2 is a tax paying unit and avails IT
services from Unit-1 to develop certain
software platforms for use in the telecom
industry.
•
Thus, Unit - 1 provides the requisite IT
services on a cost plus basis to Unit – 2, as
well as its AEs based overseas on a cost plus
25% basis.
India
Outside India
AE1
•
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(contd)…
Case Study 8
Key Considerations:
Tech-Co
Unit - 1
Cost + 25%
(tax holiday
unit)
Export of IT
services
Provision of
IT services
Cost + 25%
AE2
5th July 2013
AE3
Whether provision of services to both Unit-2
and the AEs at cost plus 25% can be
justified?
•
What will be the implications in case there is
no charge by Unit-1 to Unit-2 and whether the
same can also apply to international
transactions?
•
What are the implications for domestic as well
as international transactions if the following is
considered to be the ALP:
Unit - 2
(taxable
unit)A
India
Outside India
AE1
•
–
ALP for international transaction comes to
cost plus 20 percent?
–
ALP for domestic transaction comes to cost
plus 15 percent?
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CASE STUDY 9
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Case Study 9
Transaction Mechanism:
• Tel-Co is a company engaged
Tel-Co
in providing telecom
support services.
• Tel-Co has two units where Unit - 1 provides IT
services in relation to the Telecom Industry to Unit -2.
• Unit - 1 claims tax holiday unit whereas Unit - 2 is a
tax paying unit.
Unit-2
Unit-1(tax
holiday unit)
Export of
IT
services
Provision of
IT services
Cost + 25%
• Unit – 1 also provides IT services on a cost plus
(taxable unit)
basis to third party customers as well as Unit-2
India
Outside India
3rd
party
customers
Key Considerations:
• Does Unit-1 need to provide services to Unit-2 at cost
plus 40 percent? What would be the implications if
Unit-1 provides services to Unit-2 at cost plus 25%?
• What is the benchmarking methodology for the
transaction between Unit-1 and Unit-2? What would
be the appropriate tested party?
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CASE STUDY 10
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Case Study 10
Transaction Mechanism:
• Tel-Co is a company engaged in providing telecom
Tel-Co
support services.
• Tel-Co has two subsidiaries where I-Co provides IT
services in relation to the Telecom Industry to L-Co.
• I-Co and L-Co both enjoy tax holidays
• I-Co provides IT services on a cost plus 10% basis to
L-Co
I-Co
L-Co
(Tax Holiday
unit)
(Tax Holiday
unit)
Provision of
IT services
Key Considerations:
• What would be the implications for the transaction
between I-Co and L-Co considering the ALP comes
to 15%?
• What would be the implications for the transaction
between I-Co and L-Co considering the ALP comes
to 8%?
• What will be the benchmarking methodology for the
transaction?
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CASE STUDY 11
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Case Study 11
Transaction mechanism:
Sale of
finished goods
Z-Co
(80 IC Unit)
• Z-Co is into manufacturing of Soaps and is an
industrial undertaking claiming tax benefit u/s 80 IC.
• Z-Co is holding 20% shares in R-Co which is a
R-Co
distributor company and a tax paying entity.
• Z-Co undertakes sale of finished goods to R-Co and
Sale of finished
goods
its AE overseas.
India
Outside India
AE
• R-Co in turn distributes the acquired finished goods in
the domestic market where as the AE brands the
acquired goods and distributes the same under its
own brand name in the overseas market.
• Z-Co’s profit margin for sale to AE is 15 per cent and
for sale to R-Co is 20 percent. The industry margin for
an entity engaged in a similar business is 12 percent.
Key Considerations:
• What would be the implications for the transaction
between Z-Co and R-Co?
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CASE STUDY 12
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Case Study 12
For the period of 01.04.2012 to 30.09.2012
R&D services
100%
A LTD.
- Indian Co.
- Software development
- SEZ 10AA benefit
- OP/OC 40% (TNMM)
B LTD.
Payment based on
Cost + 20% to B Ltd
- Foreign Co.
Change in shareholding from 01.10.2012 to 31.03.2013
(Close Connection established)
25%
A LTD.
B LTD.
Payment based on
Cost + 20% to B Ltd
- Indian Co.
- Software development
- SEZ 10AA benefit
- OP/OC 40%
- ALP 17%
5th July 2013
- Foreign Co.
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(contd)…
Case Study 12
Facts :
• A Ltd. Is an Indian company engaged in software development and eligible for section 10AA
benefit.
• B Ltd. Is a wholly-owned subsidiary of A Ltd. Situated in china and provides R & D services
to A Ltd.
• B Ltd. Charges cost plus 20% mark-up for providing R & D services to A Ltd.
• With effect from 01.10.2012, shareholding of A Ltd. was reduced to 25%.
• A Ltd. Has earned OP/OC of 40% from 01.04.2012 to 30.09.2012 as well as from
01.10.2012 to 31.03.2013. Arm’s length OP/OC is 17%.
Issues:
• During F.Y. 2012-13, whether A Ltd. will be subject to International TP or Domestic TP or
both ?
• In Domestic TP, whether transactions will be covered u/s 40A(2) or 80-IA(10) or both?
• Whether any upward adjustment can be made for A Ltd. by the AO under Domestic TP
Provisions even though there is a mere change in the shareholding without any change in
the pricing mechanism of transaction s with the related party?
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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:+919004660107
Web: http://www.tpostwal.in
Email: fca@vsnl.com
THANK YOU
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