SKP Budget Primer 2016-17
| Budget 2016 | Issue 2
SKP Transfer Pricing Wish List

Transfer pricing has been at the core of tax litigation in India over the past few years. All of the cases that have made headlines in Indian taxation news relate to transfer pricing issues. The uncertainty on some transfer pricing issues such as marketing intangibles, selection of comparables, payment of royalties, and loss-making operations, have resulted in increased litigation and are creating hurdles for business and investments in India.
The new government showed its resolve to reduce litigation on transfer pricing and provide certainty by bringing in significant amendments in the last Budget, including the rollback mechanism for Advance Pricing Agreements (APAs) and allowing the use of range and multiple-year data. Additionally, the government has made several attempts on the administrative side to reduce the litigation and introduce a taxpayer-friendly regime. However, certain ambiguities continue to exist. In the upcoming budget, we hope to see appropriate steps being taken to address these ambiguities, some of which are listed below:

A. Detailed rules and guidance to taxpayers
  • Provide guidance and clarity on the applicability of the transfer pricing documentation i.e. country-by-country reporting from the OECD’s BEPS[1] Action 13 and its other aspects, including the threshold, period covered, and the filing and frequency of documentation. Certain protective measures would need to be built in the law with respect to automatic exchange of information with other countries to safeguard confidentiality. Also, the right threshold amount would be critical to save Small and Medium Enterprises (SMEs) from compliance costs and burden.
  • Provide guidance and clarity on transfer pricing implications relating to the issue of marketing intangibles or Advertisement, Marketing and Promotion (AMP) expenses, especially guidance on cases where such AMP expenses require a separate compensation. The government should also provide clarity in cases where such AMP expenses should be absorbed by an Indian company.
  • Provide clear guidance in terms of valuation methodologies to be adopted for arriving at the arm's length price for financial transactions such as loans and guarantees.
  • Provide clarity on the use of Base Rate or LIBOR rates with respect to outbound and inbound financial transactions.
  • Provide guidance for benchmarking transactions of royalty in cases where it can be benchmarked on an aggregated basis with other transactions (under the Transactional Net Margin Method) or where it requires separate benchmarking.
  • Currently, the tax authorities’ documentation requirements for management fee transactions are impractical and requires a more balanced approach. In this context, providing detailed guidance on the level and form of documentation required would provide certainty.
  • Provide proper guidance along with examples for computation of various economic adjustments such as working capital adjustment, risk adjustment, capacity adjustment, etc.
B. Legal amendments to rationalise the transfer pricing provisions
  • Currently, companies can be added or removed from the comparable set during a transfer pricing assessment due to the availability of current year data. This leads to an ambiguous situation for taxpayers while preparing a transfer pricing study report in the current year and during its assessment proceeding after two years. Additionally, the fresh analysis is not in line with the contemporaneous documentation requirement (which requires the documentation to be in place before filing the return of income), which if not adhered may result in penal consequences. Hence, the transfer pricing provisions which currently allow fresh analysis at the assessment stage should be amended.
  • Make an amendment stating that transfer pricing provisions do not apply to the issuance of shares and other similar transactions (where no income arises) and that no reporting or compliance is required in such cases. This would be in line with several court judgements and the government’s intention of reducing the compliance burden.
  • The threshold of INR 10 million for maintaining mandatory documentation for international transactions with associated enterprises should be increased suitably.
  • Converge and align the Customs and Transfer Pricing Regulations, specially the methodologies applied for determining the arm's length price/fair market value of import payments made to overseas group companies by their Indian counterparts.
  • Exclude the applicability of deemed international transactions in genuine cases where transactions are structured, for commercial reasons. Common business transactions with unrelated third parties such as global sourcing arrangements, global contract manufacturers, etc. should not be considered as deemed international transactions. Also, transactions between two resident entities should not be included in this definition since there is no tax avoidance or shifting of profits outside India.
Domestic Transfer Pricing
  • Transaction of directors' remuneration should be removed from the purview of domestic transfer pricing or at least non-shareholder directors' remuneration should not be subject to transfer pricing.
  • Domestic transfer pricing provisions should not be applicable to domestic entities in a tax-neutral scenario i.e. in cases where taxes have been paid at the maximum marginal rate by either of the related parties.
  • Extend the APA programme to specified domestic transactions, at least for high value transactions.
Safe harbour provisions - bringing in rationality
  • The current mark-ups/operating margins expected from the transactions covered under the safe harbour provisions are on the higher side. The government should consider a 2-3% true-down from the current margins, so that the taxpayers can reconsider adopting the safe harbour regime.
  • Extend the safe harbour regulations to include services such as investment advisory services, marketing support services, and captive R&D services other than R&D in IT.
  • Provide relaxation in the maintenance of documentation for taxpayers fully covered and opting for safe harbour as it leads to an unnecessary compliance burden and increases costs.
  • Amend the safe harbour rules for outbound loans which are currently based on the SBI prime lending rate and LIBOR rates.
C. Tax administrative aspects
  • Provide clarity on selecting cases for transfer pricing scrutiny and reference to the Transfer Pricing Officer (TPO) for domestic transfer pricing. TPOs should not be burdened with cases of domestic transfer pricing where there is no tax arbitrage.
  • Risk-based criteria for selecting cases for transfer pricing scrutiny should be defined and made available publicly, with a focus on high-risk transactions/cases.
  • Transfer pricing scrutiny should be carried out over 2-3 years instead of the current annual scrutiny.
  • Dedicated benches of the Income Tax Appellate Tribunal (ITAT) should be introduced/enhanced to adjudicate pending transfer pricing cases. Steps should be taken to address the huge back-log of transfer pricing cases.
  • Allow the due cognisance of international guidance wherever the Indian regulations are silent or do not provide the necessary guidance on particular transfer pricing issues.
  • Withdraw rights given to the Assessing Officer (AO) to appeal against the directions of the Dispute Resolution Panel (DRP) as it defeats the purpose of the introduction of the DRP. Similarly, the rights of revision provided to the Commissioner under section 263 should be curtailed in cases of directions issued by the DRP.
  • Steps should be taken to strengthen the administrative mechanism of APAs to deal with the overwhelming response from taxpayers and concluding APAs promptly.
  • Enable taxpayers to file bilateral APAs, in the absence of a clause for the provision of a corresponding adjustment in tax treaties.
[1] Base Erosion and Profit Shifting Project
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