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Transfer Pricing

Transfer Pricing






Introduction
The increasing participation of multinational groups in economic activities in the country has given rise to new and complex issues emerging from transactions entered into between two or more enterprises belonging to the same multinational group. The profits derived by such enterprises carrying on business in India can be controlled by the multinational group, by manipulating the prices charged and paid in such intra-group transactions, thereby, leading to erosion of tax revenues. In other words, the course of business between a resident person and an associated non-resident or not ordinarily resident person, is so arranged that the resident makes either no profit or less than the ordinary profit in that business. Such an arrangement would deprive that Indian revenue of the tax which would otherwise be payable by the resident. With a view to provide a statutory framework which can lead to computation of reasonable, fair and equitable profits and tax in India, in case of such multinational enterprise, new set of special provisions relating to avoidance of tax have been introduced under chapter X in the Income tax Act. These provisions relate to computation of income from international transactions having regard to arm's length price, meaning of associated enterprises, meaning of international transaction, determination of arm's length price, keeping and maintaining of information and documents by persons entering into international transactions, furnishing of a report from an accountant by persons entering into such transactions.

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Computation of income from international transaction having regard to arm's length price [Sec. 92]

The provisions are as under:

Any income arising from an international transaction shall be computed having regard to the arm's length price .

The allowance for any expense or interest arising from an international transaction shall also be determined having regard to the arm's length price.

Where in an international transaction ,

  two or more associated enterprises

  enter into a mutual agreement or arrangement for the apportionment of, or any contribution to, any cost incurred

  in connection with a benefit, service or facility provided to any such enterprises,

the cost apportioned to (contributed by), any such enterprise shall be determined having regard to the arm's length price of such benefit, service or facility.

The provisions (in any of aforesaid situation) shall not apply in a case where the computation of income or the determination of the allowance for any expense or interest or the determination of any cost or expense allocated or contributed has the effect of reducing the income chargeable to tax or increasing the loss, as the case may be, computed on the basis of entries made in the books of account in respect of the previous year in which the international transaction was entered into.

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Arm's length price [Sec. 92F(ii)]

Arm's length price means

- a price which is applied or proposed to be applied in a transaction

- between persons other than associated enterprises (i.e., unrelated person, resident or non-resident),

- in uncontrolled conditions.

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Enterprise [Sec. 92F(iii)]

Enterprise means a person (including a permanent establishment 1 of such person) who is, or has been, or is proposed to be, engaged:

  • in any activity, relating to the production, storage, supply, distribution, acquisition or control of:
    • articles or goods; or
    • know-how, patents, copyrights, trademarks, licences, franchises or any other business or commercial rights of similar nature; or
    • any data, documentation, drawing or specification relating to any patent, invention, model, design, secret formula or process, of which the other enterprise is the owner or in respect of which the other enterprise has exclusive rights; or
  • in the provision of services of any kind; or
  • in carrying out any work in pursuance of a contract; or
  • in investment, or providing loan; or
  • in the business of acquiring, holding, underwriting or dealing with shares, debentures or other securities of any other body corporate,

whether such activity or business is carried on, directly or through one or more of its units or divisions or subsidiaries; or

whether such unit or division or subsidiary is located at the same place where the enterprise is located or at a different place or places.

1. Permanent establishment includes a fixed place of business through which the business of the enterprise is wholly or partly carried on [Sec. 92F(iiia)]

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Meaning of international transaction [Sec. 92B]

  • International transaction means a transaction between two or more associated enterprises , either or both of whom are non-residents , in the nature of
    1. purchase, sale or lease of tangible or intangible property, or
    2. provision of services, or
    3. lending or borrowing money, or
    4. any other transaction having a bearing on the profits, income, losses or assets of such enterprises; &
    shall include a mutual agreement or arrangement between two or more associated enterprises
a. for the allocation or apportionment of, or

b. any contribution to, any cost or expense incurred or to be incurred in connection with a benefit, service or facility provided or to be provided to any one or more of such enterprises [Sec. 92B(1)]

  • A transaction entered into by an enterprise with a person other than an associated enterprise shall, be deemed to be a transaction entered into between two associated enterprises,
    1. if there exists a prior agreement in relation to the relevant transaction between such other person and the associated enterprise; or
    2. the terms of the relevant transaction are determined in substance between such other person and the associated enterprise [Sec. 92B(2)]

Taxpoint

  • Transaction includes an arrangement, understanding or action in concert,"
(A) whether or not such arrangement, understanding or action is formal or in writing; or

(B) whether or not such arrangement, understanding or action is intended to be enforceable by legal proceeding. [Sec. 92F(v)]

  • For a transaction to be an international transaction, it should satisfy the following two conditions cumulatively:
a.  It must be a transaction between two associated enterprises; and

b.  At least one of the two enterprises must be a non-resident.

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Meaning of associated enterprise [Sec. 92A]

Associated enterprise, in relation to another enterprise, means an enterprise:

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

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Deemed associated enterprise [Sec. 92A(2)]

For the above purpose, two enterprises shall be deemed to be associated enterprises if, at any time during the previous year fulfill any of the following conditions (if one of following conditions are not satisfied, then mere participation in management or control or capital of the other enterprise, etc. shall not make them associate):

On the basis of Capital

  • one enterprise holds (directly or indirectly) shares carrying not less than 26% of the voting power (i.e., equity shares in case of company) in the other enterprise; or
  • any person or enterprise holds (directly or indirectly) shares carrying not less than 26% of the voting power in each of such enterprises; or

On the basis of Control

  • the manufacture or processing of goods or articles or business carried out by one enterprise is wholly (not partially) dependent on the use of know-how, patents, copyrights, trade-marks, licences, franchises or any other business or commercial rights of similar nature, or any data, documentation, drawing or specification relating to any patent, invention, model, design, secret formula or process, of which the other enterprise is the owner or in respect of which the other enterprise has exclusive rights; or
  • 90% or more of the raw materials and consumables required for the manufacture or processing of goods or articles carried out by one enterprise, are supplied by the other enterprise or by persons specified by the other enterprise, and the prices and other conditions relating to the supply are influenced by such other enterprise; or
  • the goods or articles manufactured or processed by one enterprise, are sold to the other enterprise or to persons specified by the other enterprise, and the prices and other conditions relating thereto are influenced by such other enterprise; or
  • where one enterprise is controlled by an individual, the other enterprise is also controlled by such individual or his relative or jointly by such individual and relative of such individual; or
  • where one enterprise is controlled by a Hindu undivided family, the other enterprise is controlled by a member of such Hindu undivided family, or by a relative of a member of such Hindu undivided family, or jointly by such member and his relative; or
  • where one enterprise is a firm, association of persons or body of individuals, the other enterprise holds not less than 10% interest in such firm, association of persons or body of individuals; or
  • a loan advanced by one enterprise to the other enterprise constitutes not less than 51% of the book value of the total assets of the other enterprise; or
    Taxpoint : Revaluation of asset shall not be ignored.
  • one enterprise guarantees not less than 10% of the total borrowings of the other enterprise; or

On the basis of Management

  • more than of the board of directors or members of the governing board, or one (not of total number of executive director) or more executive directors or executive members of the governing board of one enterprise, are appointed by the other enterprise; or
Taxpoint : Mere power to appoint director is not sufficient, such power must be exercised.
  • more than of the directors or members of the governing board, or one or more of the executive directors or members of the governing board, of each of the two enterprises are appointed by the same person or persons; or
Others
  • there exists between the two enterprises, any relationship of mutual interest, as may be prescribed.

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Computation of arm's length price [Sec. 92C]

  • The arm's length price in relation to an international transaction shall be determined by any of the following methods, being the most appropriate method, having regard to the nature of transaction or class of transaction or class of associated persons or functions performed by such persons or such other relevant factors as the Board may prescribe, namely:
( a ) comparable uncontrolled price method;

( b ) resale price method;

( c ) cost plus method;

( d ) profit split method;

( e ) transactional net margin method;

( f ) such other method as may be prescribed by the Board.

See Rule 10B

  • The most appropriate method shall be applied, for determination of arm's length price, in the manner as may be prescribed.
More than one arm's length price: Where more than one price is determined by the most appropriate method, the arm's length price shall be taken to be the arithmetical mean of such prices.

Marginal Relaxation: If the variation between the arm's length price so determined does not exceed 5% of price at which the international transaction has actually been undertaken, the price at which the international transaction has actually been undertaken shall be deemed to be the arm's length price.

  • As per sec. 92C(3), where during the course of any proceeding for the assessment of income, the Assessing Officer is, on the basis of material or information or document in his possession, of the opinion that:
( a ) the price charged or paid in an international transaction has not been determined in accordance with above provision; or

( b ) any information and document relating to an international transaction have not been kept and maintained by  the assessee in accordance with the provisions contained in sec. 92D(1) and the rules made in this behalf; or

( c ) the information or data used in computation of the arm's length price is not reliable or correct; or

( d ) the assessee has failed to furnish, within the specified time, any information or document which he was required to furnish by a notice issued u/s 92D(3),

the Assessing Officer may proceed to determine the arm's length price (in accordance with above provisions) in relation to the said international transaction, on the basis of such material or information or document available with him.

However, an opportunity shall be given by the Assessing Officer by serving a notice calling upon the assessee to show cause, on a date and time to be specified in the notice, why the arm's length price should not be so determined on the basis of material or information or document in the possession of the Assessing Officer.

  • Where an arm's length price is determined by the Assessing Officer, the Assessing Officer may compute the total income of the assessee having regard to the arm's length price so determined u/s 92C(4). However:
    1. No deduction u/s 10A or 10AA or 10B or under Chapter VIA shall be allowed in respect of the amount of income by which the total income of the assessee is enhanced after computation of income by the assessing officer.
    2. Where the total income of an associated enterprise is computed by assessing officer on determination of the arm's length price paid to another associated enterprise from which tax has been deducted or was deductible, the income of the other associated enterprise shall not be recomputed by reason of such determination of arm's length price in the case of the first mentioned enterprise.

Power of Board to make safe harbour rules [Sec. 92CB]

The determination of arm's length price u/s 92C or 92CA shall be subject to safe harbour rules made by the Board.

Safe harbour means circumstances in which the income-tax authorities shall accept the transfer price declared by the assessee.

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Reference to Transfer Pricing Officer [Sec. 92CA]

  • Where any person, being the assessee, has entered into an international transaction in any previous year, and the Assessing Officer considers it necessary or expedient so to do, he may, with the previous approval of the Commissioner, refer the computation of the arm's length price in relation to the said international transaction u/s 92C to the Transfer Pricing Officer.
  • Where a reference is made, the Transfer Pricing Officer shall serve a notice on the assessee requiring him to produce or cause to be produced on a date to be specified therein, any evidence on which the assessee may rely in support of the computation made by him of the arm's length price in relation to such international transaction.
  • On the date specified in the notice or as soon thereafter as may be, after hearing such evidence as the assessee may produce, including any information or documents referred to in sec. 92D and after considering such evidence as the Transfer Pricing Officer may require on any specified points and after taking into account all relevant materials which he has gathered, the Transfer Pricing Officer shall, by order in writing, determine the arm's length price in relation to the international transaction [in accordance with sec. 92C(3)] and send a copy of his order to the Assessing Officer and to the assessee.
  • Where a reference was made, an order may be made at any time before 60 days prior to the date on which the period of limitation referred to in sec.153 /153B for making the order of assessment or reassessment or recomputation or fresh assessment, as the case may be, expires
  • On receipt of the order, the Assessing Officer shall proceed to compute the total income of the assessee u/s 92C(4) in conformity with the arm's length price as so determined by the Transfer Pricing Officer
  • With a view to rectifying any mistake apparent from the record, the Transfer Pricing Officer may amend any order passed by him and the provisions of section 154 shall, so far as may be, apply accordingly.
  • Where any amendment is made by the Transfer Pricing Officer, he shall send a copy of his order to the Assessing Officer who shall thereafter proceed to amend the order of assessment in conformity with such order of the Transfer Pricing Officer.
  • The Transfer Pricing Officer may, for the purposes of determining the arm's length price under this section, exercise all or any of the powers specified in sec. 131(1) or 133(6).
  • Transfer Pricing Officer means a Joint Commissioner or Deputy Commissioner or Assistant Commissioner authorised by the Board to perform all or any of the functions of an Assessing Officer specified in sections 92C and 92D in respect of any person or class of persons.
Maintenance, keeping of information and document by persons entering into an international transaction [Sec. 92D]
  • Every person who has entered into an international transaction shall keep and maintain such information and document in respect thereof, as may be prescribed. (Click here for prescribed documents)
  • The Assessing Officer or the Commissioner (Appeals) may, in the course of any proceeding under this Act, require any person who has entered into an international transaction to furnish any information or document in respect thereof, within a period of 30 days from the date of receipt of a notice issued in this regard.
  • However, the Assessing Officer or the Commissioner (Appeals) may, on an application made by such person, extend the period of 30 days by a further period not exceeding 30 days.
Report from an accountant to be furnished by persons entering into international transaction [Sec. 92E]

Every person who has entered into an international transaction during a previous year shall obtain a report from an accountant and furnish such report on or before the specified date [i.e., due date u/s 139(1)] in the form 3CEB duly signed and verified in the prescribed manner by such accountant and setting forth such particulars as may be prescribed.

Penalty

Penalty for concealment of Income u/s 271(1)(c)

Where in the case of an assessee who has entered into an international transaction, any amount is added or disallowed in computing the total income u/s 92C(4), then, the amount so added or disallowed shall be deemed to represent the income in respect of which particulars have been concealed or inaccurate particulars have been furnished, unless the assessee proves to the satisfaction of the Assessing Officer or the Commissioner (Appeals) or the Commissioner that the price charged or paid in such transaction was computed in accordance with the provisions contained in sec. 92C and in the manner prescribed under that section, in good faith and with due diligence. [Explanation 7 to sec. 271(1)(c)]

If such amount is treated as concealment of income, then assessee is liable to pay by way of penalty in addition to tax, if any, payable by him, a sum which shall not be less than, but which shall not exceed 3 times the amount of tax sought to be evaded by reason of the concealment of particulars of his income or the furnishing of inaccurate particulars of such income.

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Failure to keep and maintain information and document in respect of international transaction [Sec. 271AA]

If any person fails to keep and maintain any such information and document as required by sec. 92D, the Assessing Officer or Commissioner (Appeals) may direct that such person shall pay, by way of penalty, a sum equal to 2% of the value of each international transaction entered into by such person.

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Penalty for failure to furnish report under section 92E [Sec. 271BA]

If any person fails to furnish a report from an accountant as required by sec. 92E, the Assessing Officer may direct that such person shall pay, by way of penalty, a sum of Rs.100000.

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Penalty for failure to furnish information or document under section 92D [Sec. 271G]

If any person who has entered into an international transaction fails to furnish any such information or document as required by sec. 92D(3), the Assessing Officer or the Commissioner (Appeals) may direct that such person shall pay, by way of penalty, a sum equal to 2% of the value of the international transaction for each such failure.

However, where assessee shows reasonable cause, then no penalty u/s 271AA or 271BA or 271G shall be levied [Sec. 273B]

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