Transcript Document

CPE
Seminar
on
Domestic Transfer Pricing
ICAI- Trichur
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Domestic transactions - Transfer Pricing
 Inspired by – Apex court ruling – Glaxo Smithkline (2010) 195 Taxman 35 (SC):
•
we are of the view that certain provisions of the Act, like section 40A(2) and section 80IA(10), need to be amended empowering the Assessing Officer to make adjustments to the
income declared by the assessee having regard to the fair market value of the transactions
between the related parties. The Assessing Officer may thereafter apply any of the
generally accepted methods of determination of arm’s length price, including the methods
provided under Transfer Pricing Regulations. However, in a number of matters, we find
that, many a times, the Assessing Officer is constrained by non-maintenance of relevant
documents by the taxpayers as, currently, there is no specific requirement for maintenance
of documents or getting specific transfer pricing audit done by the taxpayers in respect of
domestic transactions between the related parties. The suggestions which need
consideration are whether the law should be amended to make it compulsory for the
taxpayer to maintain books of account and other documents on the lines prescribed under
rule 10D of the Income-tax Rules in respect of such domestic transactions and whether the
taxpayer should obtain an audit report from his Chartered Accountant so that the taxpayer
maintains proper documents and requisite books of account reflecting the transactions
between related entities as at arm’s length price based on generally accepted methods
specified under the Transfer Pricing Regulations”
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Domestic transactions - Transfer Pricing
May lead to economic double taxation
Inline with some tax jurisdictions like
Australia,
Thailand , Denmark etc.,
Increase in compliance burden
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Domestic transactions -Transfer Pricing
 New sub.sec (2A) to sec.92
“(2A) Any allowance for an expenditure or interest or allocation of
any cost or expense or any income in relation to the specified
domestic transaction shall be computed having regard to the
arm’s length price.” w.e.f 1st Apr ‘13
 Specified domestic transaction means
“92BA. 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:—
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Domestic transactions-Transfer Pricing
 Specified domestic transaction means :
(i)
(ii)
(iii)
(iv)
any expenditure in respect of which payment has been made
or is to be made to a person referred to in clause (b) of subsection (2) of section 40A;
any transaction referred to in section 80A;
any transfer of goods or services referred to in sub-section (8)
of section 80-IA;
any business transacted between the assessee and other
person as referred to in sub-section (10) of section 80-IA;
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Domestic transactions-Transfer Pricing
 Specified domestic transaction means :
(v)
(vi)
any transaction, referred to in any other section under Chapter
VI-A or section 10AA, to which provisions of sub-section (8) or
sub-section (10) of section 80-IA are applicable; or
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.”
w.e.f. 1st Apr 2013
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Domestic transactions -Transfer Pricing
 S.10AA
 S.40A(2)(b) – FMV vs. ALP
 S.80A - Scope of deductions & FMV for inter business
transfers
 S.80IA (8) – Eligible business Vs. Other business
 S. 80IA (10) - Eligible assessee Vs. Other person
 S.80IAB(3), 80IB(13),80IC (7), 80ID (5), 80IE (6)
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Domestic transactions-Transfer Pricing
 S.92C – computation of ALP – methodologies- also
apply to Spec. dom. transactions
 S.92CA (1)(2)&(3)- reference , service of notice & order
to be made by TPO
 S.92D – documentation – maintenance & production
 S.92E – report from an accountant – may be a new form
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Domestic transactions -Transfer Pricing
Corresponding Amendments :
 S. 40A(2) – Proviso inserted to provide for ALP in cl(a) :
“ Provided that no disallowance, on account of any expenditure
being excessive or unreasonable having regard to the fair market
value, shall be made in respect of a specified domestic transaction
referred to in S.92BA, if such transaction is at arm’s length price as
defined in cl.(ii) of S.92F”
- FMV different from ALP?
 In cl.(b) (iv) , after the words “ or any relative of such director,
partner or member” , the words “or any other company carrying on
business or profession in which the first mentioned company has
substantial interest” shall be inserted.
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Domestic transactions -Transfer Pricing
Corresponding Amendments :
 S. 80A – Cl (iii) to Explanation inserted :
“in relation to any goods or services sold, supplied or acquired
means the arm’s length price as defined in cl.(ii) of S.92F of such
goods or services, if it is a specified domestic transaction referred to
in S.92BA”
is ALP synonymous with Market value ?
 S. 80-IA – Explanation substituted in Ss(8) :
i.
ii.
Market Value , in relation to any goods or services means –
the price that such goods or services would ordinarily fetch in the
open market: or
the arm’s length price as defined in cl(ii) of S.92F, where the
transfer of such goods or services is a specified domestic
transaction referred to in S.92BA
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Domestic transactions -Transfer Pricing
Corresponding Amendments :
 In S.80 IA(10) - Proviso inserted :
“Provided that in case the aforesaid arrangement
involves a specified transaction referred to in S.92BA,
the amount of profits from such transaction shall be
determined having regard to arm’s length price as
defined in clause (ii) of S. 92F”
not clear whether ALP and FMV are the same .
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Sec 40A (2)(b) – Related Party
Sr.No
(i)
Payer / assessee
Individual
Relationship can exists
any time during the
year
Payee
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)
X Ltd. (subsidiary co)
Y Ltd. (subsidiary co)
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Type of transactions covered (illustrations for payments made by a
Company) …
Director
Assessee
(Taxpayer)
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)
Substantial interest >20%
Case 1 - Director or any relative of the
Director of the taxpayer – Section
40A(2)(b)(ii)
Relative
Mr. A
Mr. D
Mr. C
Mr. A
Mr. D
Relative
Mr. C
Relative
Covered transactions
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)
Assessee
(Taxpayer)
Assessee
(Taxpayer)
A Ltd
C Ltd
Substantial interest >20%
Substantial
interest >20%
Substantial interest >20%
Relative
Director
Mr. D
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)
B Ltd
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)
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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Tax burden, if transaction not at ALP
X Ltd.
(non-tax
holiday)
X Ltd.
(tax holiday)
Sale at ` 120
v/s ALP i.e. `
100
Sale at ` 120
v/s ALP i.e. `
100
Y Ltd.
(non-tax
holiday)
Disallowance of ` 20 to Y Ltd
[40A(2)(b)]
Double Adjustment
Y Ltd.
(non-tax
holiday)
Tax holiday on ` 20 not allowed to X
Ltd – [80IA(10)] (more than ordinary
profits)
Disallowance of ` 20 to Y Ltd [40A(2)(b)]
Sale at ` 80 v/s
ALP i.e. ` 100
X Ltd.
(tax holiday)
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
 No guidance on the meaning of close connection
 To align ordinary profits with arm’s length price. For example:
ALP of 5 comparable companies OP/TC
Mark-up of the tax holiday entity
OP/TC
Arithmetic mean = 15%
30%
 OP/ TC of 30% considered to be at arm’s length by the TPO
 Under 801A(10) the AO states that the profits are more than ordinary
 Solution: Defend price or evaluate alternate methods (other then profit based)
 Impact of non-charging of services/ costs to tax holiday undertaking
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Tax holiday undertaking

International TP
Vs.
Tax holiday profits
Sec 10A(7) / 10B (7)

 Case laws - Visual Graphics Computing Services (India) Pvt.
Ltd vs ACIT 2012) 52 SOT 172 (URO),
Weston Knowledge Systems & Solutions (India) Pvt. Ltd. vs
ITO (2012) 52 SOT 120 (Hyd)(URO)
 AO has no authority to reduce tax holiday claim once
approved by TPO
 Whether same approach is possible when domestic TP is targeted
in computing ordinary profits.

Domestic TP supports the approach of AO in restricting ordinary profits?
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Cost allocation

Whether corporate group expenses to be
allocated?

Courts held that it need not be allocated
• Case laws - Wipro Information Technology vs DCIT
(2004) 88 TTJ(Bang) 778 ;
Zandu Pharmaceuticals Works Ltd, vs CIT (2013) 213
Taxman 207
Ponds India Ltd (ITA NO. 2047/Mad/88)
• Whether every cost allocation should have a mark up?
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Transfer Pricing Process
TP Assessment
Identification of
Intra Group
Transactions
Return Filing
FAR Analysis
Documentation
Identification of
Comparable
Transactions
Establishing
Comparability,
Adjustment for
Material Differences
Adjustments
Selection of
Most
Appropriate
Method
Determination of
ALP
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Arm’s length price
 S. 92 F (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,
in
uncontrolled conditions”
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Traditional transaction methods
 Comparable Uncontrolled Price Method (CUP)
 Resale price method (RPM)
 Cost plus method (CPM)
Transactional profit methods
 Profits split method (PSM)
 Transactional net margin method (TNMM)
Other method
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“Other Method” for determination of ALP
 New Rule 10AB inserted vide Notification
No.18/2012 dated 23-05-2012
 Refers to “price which has been charged or
paid, or would have been charged or paid, for
the same or similar uncontrolled transaction,
with or between non-associated enterprises,
under similar circumstances, considering all
the relevant facts”
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“Other Method” for determination of ALP
 New Rule 10AB inserted vide Notification
No.18/2012 dated 23-05-2012
 Refers to “price which has been charged or
paid, or would have been charged or paid, for
the same or similar uncontrolled transaction,
with or between non-associated enterprises,
under similar circumstances, considering all
the relevant facts”
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Objectives – Specified Domestic
Transactions (SDT)

When profit getting shifted from profit making
unit to a loss making unit ;

Profit shift from taxable unit to tax free unit ;

SDT is not meant to cover revenue neutral
transactions- lest it would result in economic
double taxation
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Domestic transactions -Transfer Pricing
 S.92CA
(2A) , (2B) & (2C) apply only to
international transactions and not to SDT
 Non-reference
and non-reporting of SDTs
are not covered by new Ss (2A) & (2B)
 APA
mechanism proposed u/s 92CC &
CD is not available for SDTs
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Domestic transactions -Transfer Pricing
 If
SDTs do not cross threshold INR 5
Crores, TP Documentation & Reporting
not applicable ; however, original
requirement to comply with market value
concept of u/s 40A(2)(b) / 10AA/ 80A/ 80IA
(8) & (10) still continues.
◊
then how is it a safe harbor?
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Domestic transactions -Transfer Pricing
Typical SDTs:
 Rent payments

Intra- group transactions
 Financial transactions
 Managerial remuneration etc
 Corporate guarantee
 Equity contributions
 Reimbursement of expenses
 Commission paid and discount allowed
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Domestic transactions -Transfer Pricing

Expenditure incurred by a resident
against non-resident – though not covered
as AE , as ownership and control being
less than 26% voting, but may be covered
as SDT if voting power is ≥20%
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Domestic transactions -Transfer Pricing

AE Vs Related Party creates dichotomy
6-P dated 6th July 1968 provides –
no disallowance- where there is no
attempt to evade taxes
 Circular

SDT covers only assessee spending u/s
40A(2)(b) and will not cover entity
receiving payments
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Domestic transactions -Transfer Pricing
 OECD

TP guidelines apply to SDTs?
Benefit of range available to SDTs
 TP
adjustments for SDTs result in double
taxation – in revenue neutral cases –
hence corresponding adjustments
warranted
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Documentation
 Rule 10D is amended to cover SDTs – sub rule (2)
applies only to international transactions
 Need based documentation good enough even for
SDTs
 Should be contemporaneous and be in place by
specified date
 Initial burden lies with the assessee
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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
271(1)(c)
271BA
100% to 300% of
tax on
adjustment amount
INR 100,000
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Issues
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
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Issues
 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?
• Benchmarking?
• Remuneration paid to the Directors • 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?
• Benchmarking?
• Joint Development agreements
• Benchmarking?
• Project management fees
• Whether these allocation would be SDT – Sec
• Allocation of expenses between the 80-IA(10)?
same taxpayer having an eligible
unit and non-eligible unit
• Directly v/s Indirectly
• Definition of Related Party
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New Rules & Forms
Form 3 CEB enlarged – Part C inserted
with respect to details of specified
domestic transactions.
Rule 10A – Expands AE definition when
Sec.92A(1) & (2) doesn’t do so.
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Action Awaited
Clarifications in line with old circular 6-P
(supra)
 Revenue neutral transactions – avoidance of
double taxation – critical
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Thank You
[email protected]
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