TRANSFER PRICING SERVICES
With the increasing participation of MNC’s in economic activities, there seems to be a rise in new and complex issues emerging from the transactions undertaken between two or more entities across the same multi-national group. As a result, the profits arising under the above transactions would result in manipulative pricing and erosion of tax revenues.
To provide a regulatory framework for the said transactions, the Finance Act, introduced new sections 92A to 92F for fair and equitable profits and tax in India. The main objective behind the introduction of the said sections was to check the fairness of the transactions between the related party.
These sections consider the Arm’s length price to be the fair or equitable price for transactions undertaken between two or more related/associated parties, across countries. Transfer pricing refers to the price of goods/services which is used in accounting for the transfer of goods/services from one company to another associated company. Thus, the profitability, return on investment and managerial performance evaluation of both the entities are affected.
IMPORTANCE OF TRANSFER PRICING
CORRECT PRICING OF GOODS/SERVICES – An effective transfer pricing mechanism provides support for incorrect pricing of goods/services. Since an organization undertakes frequent transactions with its associated enterprises, the correct pricing becomes a necessity.
PERFORMANCE EVALUATION – Proper and correct accounting of all the transactions, helps incorrect evaluation of an enterprise’s performance.
COMPLIANCE WITH THE STATUTORY LEGISLATIONS – Since the related party transactions have a direct bearing on the profitability of the organization, correct pricing of such transactions becomes necessary.
As per section 92A, an associated enterprise is one –
- Which participates in the management or control or capital of the other enterprise, either directly or indirectly, or through one or more intermediaries.
- In which one or more persons who participate in the management or control or capital, either directly or indirectly, or through one or more intermediaries, are the same persons participating in the management or control or capital of the other enterprise, either directly or indirectly, or through one or more intermediaries.
DEEMED ASSOCIATED ENTERPRISE
Two or more enterprises are termed as associated if -
- One of them holds at least 26% of the total voting power of the other enterprise, either directly or indirectly.
- Any person or member holds at least 26% of the total voting power in each of the said enterprises.
- Loan advanced by one enterprise constitutes at least 51% of the book value of the total assets of the other enterprise.
- Guarantee extended by one enterprise is at least 10% of the total borrowing of the other enterprise.
- More than 50% of the board of directors or one or more executive directors of one enterprise are appointed by the other enterprise.
- More than 50% of the board of directors or one or more executive directors, in both the enterprise, are appointed by the same person or member.
- Manufacturing or processing of the product/service of one enterprise wholly depends upon the use of intellectual property rights of another enterprise.
- At least 90% of the raw material used in the production process by one enterprise, is supplied by the other enterprise.
- The goods manufactured or processed by one enterprise, are sold to the other enterprise.
- One enterprise is controlled by a HUF and the other enterprise is controlled by one or more members of the said HUF.
- The enterprise is a firm, AOP, BOI, and the other enterprise hold at least 10% of interest in such enterprise.
As per section 92B, an international transaction is –
- Transaction between two or more associated enterprises, which are either resident or non-resident enterprises.
- Transaction relating to –
- Sale, purchase, lease of tangible property.
- Sale, purchase, lease of intangible property.
- Provisions related to services.
- Lending and borrowing of money.
- Any other transaction, out of which there arise some profit, income, losses, or assets.
DEEMED INTERNATIONAL TRANSACTION
As per section 92B (2), the deemed international transaction between two associates are –
- Transactions where there exists a prior agreement for the relevant transaction.
- Transactions where the terms and conditions are determined in substance.
- Either or both associates are non-residents.
SPECIFIED DOMESTIC TRANSACTIONS
Transfer pricing regulations have been extended to some specified domestic transactions under section 92BA of Finance Act, 2012. The said section became applicable from Assessment Year 2013-14 onwards.
All the provisions under the said section apply to all the domestic entities, irrespective of the nature of the transaction.
Specified transactions under section 92BA are -
- Any transaction is undertaken by the entity specifically referred to in section 80A.
- Any transaction relating to the transfer of goods or services referred to in sub-section (8) of section 80-IA.
- Any business transaction entered between the assessee and the person as referred to in sub-section (10) of section 80-IA.
- Any transaction provided under any other section of Chapter VI-A or section 10AA, to which provisions of sub-section (8) or sub-section (10) of section 80-IA are applicable.
- Any business transacted between the persons referred in section 115BAB (4).
- any other transaction as may be prescribed,
- Any transaction wherein the aggregate of any one or more of the above 6 transactions entered by the assessee in the previous year exceeds a sum of Rs. 20 crores.
As per section 40(A)(2)(a), an assessee who deducts the expenses in excess to the fair market value shall be disallowed to take credit of such excess amount. However, the same be allowed, if the expenditure being more than the fair market value relates to transactions made on arm’s length price.
Some examples of expenditure generally incurred in a transaction -
- Expenditure incurred on transportation of goods.
- Expenditure incurred on procurement of services.
- Interest payments made on credit availed.
- Salary and other fees for performing business activities.
- Purchase of tangible and intangible property.
- Reimbursement expenditure
- Expenses related to any guarantee and warranty.
The entity incurring the above expenditure is liable to comply with the regulations under the Specified Domestic Transaction, while the recipient of the said expenditure is not liable for any compliance.
Under section 40A (2), the following class of persons is termed as the related parties -
- In the case of individuals, their relatives.
- In the case of HUF, any member
- In case of company or firm or AOP, any director and their relative, any partner of the firm and their relative, or member of the association or family and their relative, respectively.
- Any person along with their relative having substantial interest (25% of the total voting power) in a business or profession.
TRANSFER PRICING METHODS
As per section 92C of the Income Tax Act, 6 general methods for computation of arm’s length price were defined namely -
- COMPARABLE UNCONTROLLED PRICE METHOD – It compares the price charged for a particular transaction between the associated enterprises, to the price charged for the said transaction in a comparable uncontrolled circumstance. Such an uncontrolled price is generally the price charged on the transactions undertaken between unrelated parties.
- RESALE PRICE METHOD – It determines the price at which the goods/services purchased from an associated enterprise is being sold to an unrelated enterprise, as reduced by the normal gross profit margin and the expenditure incurred on the purchase of such goods/services.
- COST PLUS METHOD – It determines the ALP by considering the direct and indirect cost incurred on the production of the goods/services provided to an associate, as increased by the percentage obtained by deducting the functional differences from the normal gross profit margin.
- PROFIT SPLIT METHOD – Under this, the combined net profit of both the associated enterprises are split in the proportion of their relative contribution in the transaction, and the profit obtained after split is apportioned to the enterprise.
- TRANSACTIONAL NET MARGIN METHOD – Under this, the direct and indirect costs of production of the goods/services are determined and are increased by the rate of net markup applied on transactions with an unrelated party.
- ANY OTHER METHOD AS PRESCRIBED BY THE BOARD – The enterprise can choose any other method, which would consider the matters or type of prices determined in the above 5 methods.
It is to be noted that in case the price at which the international transaction has taken place is up to 1% in case of wholesale trading and 3% in other cases, more or less than the arm’s length price as determined under any of the above methods, then the price at which the international transaction took place shall deemed to be the arm’s length price.
SELECTION OF APPROPRIATE METHOD
As per Rule 10C of the Income Tax Act, the following factors be considered to determine the appropriate method for computing the arm’s length price –
- The nature and class of the transaction.
- The class of enterprises entering the transaction and the functions performed by them.
- The assets employed and risks assumed by the enterprises.
- Availability and reliability of the information required for application of the method.
- Degree of comparability between the international transaction and the uncontrolled transaction.
- Nature and extent of the assumptions required for application of the method.
ARM’S LENGTH PRICE UNDER SPECIAL CASE
Such a special case arises when the price under ALP results in the determination of more than one price for a specific transaction.
In such a scenario, the following method be performed –
1. All the prices be arranged in ascending order and a data set be formed.
2. In case the dataset consists of 6 or more entries, ALP range between the 35th percentile and the 65th percentile of the dataset.
- 35th percentile = total of the number of entries * 35%
- 65th percentile = total of the number of entries * 65%
- In case the number determined above is infractions, the next higher whole number be taken, and the value will be the price placed on the said entry number.
- In case the number determined above is a whole number, then the mean of the price at such entry number and the price at the next entry number be taken.
3. In case the actual price of the transaction is within the above-mentioned range, then such price shall be the ALP. Otherwise, the ALP would be the price placed on the number determined as the median of the dataset.
4. In case the dataset consists of less than 6 entries, the ALP shall be the mean of all the prices in the dataset.
ADVANCE PRICING AGREEMENT
- As per section 92CC (1) of the Income Tax Act, 1961, CBDT, with the approval of the Central Government may enter into an agreement, wherein an ALP be determined for specified international transactions.
- It is generally an agreement between an enterprise and the taxing authority for determining a transfer pricing methodology for a set of transactions over a specified period.
- Such an agreement uses any method for computation of the ALP and the same shall be valid for a period of maximum 5 consecutive previous years. Advance Pricing Agreement is binding on the person entering into the agreement as well as on the Principal Commissioner or Commissioner who are entered into such transaction.
TRANSFER PRICING DOCUMENTATION
As per section 92D, every person entering into an international transaction is required to maintain certain documents and information during the previous year.
These documents can be broadly classified into 3 categories namely –
- ENTERPRISE – WISE DOCUMENTS – It includes the description of the enterprise, their relationship with the other enterprise, the nature of the transaction, etc.
- TRANSACTION – SPECIFIC DOCUMENTS – It includes documents containing a description of the transaction, functions to be performed, assets employed, and risk assumed.
- COMPUTATION RELATED DOCUMENTS – It includes the details related to the methods considered and the assumption and policies made for determining the ALP.
PENALTY FOR CONTRAVENTION
- CONCEALMENT OF INCOME – The amount penalty shall be the sum of tax sought to be evaded by the concealment of income and such penalty can be extended up to thrice the amount of tax evaded.
- FAILURE TO FURNISH DOCUMENTS AND INFORMATION – Amount of penalty be equal to 2% of the total value of each transaction.
- FAILURE TO MAINTAIN PROPER INFORMATION AND DOCUMENTS - Amount of penalty be equal to 2% of the total value of each transaction.
- FAILURE IN FURNISHING THE REPORT – Amount of penalty be Rs. 1 lakh.
- FAILURE TO SIGN STATEMENTS, FURNISH INFORMATION, OR ANSWER QUESTIONS – The amount of penalty be Rs 10000 for each default.
What India Expert Offers
- India Expert is a well-known name in the transfer pricing consulting industry in India, specializing in price setting, compliance, and APA negotiation. Price setting for global transactions takes into account all countries' transfer pricing laws as well as industry-specific valuation criteria.
- With over eight years of experience serving a significant number of Indian and multinational companies in areas related to International Taxation, Double Tax Advice, Corporate Advisory, and Legal Structuring, we are one of India's leading transfer pricing consultants. India Expert offer an experienced transfer pricing consultant, our services include:
- Transfer Pricing Documentation – Transfer pricing legislation requires that international transactions among related parties be computed at the arm's length price, i.e. Preparing a transfer pricing study, Providing comparative analysis and the price of comparable international transactions between unrelated enterprises. India Expert Transfer Pricing Document satisfies all of the statutory requirements.
- Review of existing documentation/Policy – As a transfer pricing consultant, we conduct an in-depth evaluation of an organization's existing TP documentation or policy in order to access or strengthen it.
- Tax audit procedures require representation before Transfer Pricing Authorities.
- Transfer Pricing Planning – We assist in developing and implementing viable transfer pricing policies that are consistent with existing transfer pricing policies, as well as acquiring new Transfer Pricing structures.
- Proving a protest against the Transfer Pricing-Audit and deep Scan global transfer pricing controversies and developing a risk management strategy.
- International tax and international transaction advice to avoid double tax treaties.
- Providing legal briefs/advice on tax evasion when engaging in international transactions
- Handle matters in appellate stages / DRPs
- Providing in-house training, contract drafting, and billing methodologies