Transfer Pricing in India

Transfer Pricing in Intellectual Property and Intangibles

Transfer Pricing in Intellectual Property

Transfer pricing is an accounting practice that compares the transfer price of a controlled transaction with that of an uncontrolled transaction. Transfer price is the market price of goods supplied or services rendered. Controlled transactions are those transactions that take place between two associated or related enterprises whereas uncontrolled transactions are those which take place between unrelated enterprises. Transfer pricing leads to tax savings and prevents tax evasion.
Technological advancement and the digital revolution have made the intellectual property a key profit driver of an organization. Transfer pricing in intellectual property means the intellectual property is transferred between two related enterprises within one organization but in different jurisdiction. Such related transactions are required to be conducted at arm’s length price for taxation purposes. Arm’s length price is the concept of charging a transaction between related parties in the same manner as would have been charged if the transaction was between two unrelated parties. The OECD has attempted to define intangible assets as, “things not having any physical form and capable of being owned and controlled for business purposes.”

MNCs usually transfer their profits from a high tax jurisdiction to low tax jurisdiction having their associated enterprise. The shifting of profits shifts the tax base of the MNC to the low tax jurisdiction and the MNCs end up reducing their tax liability. The essence of such a transaction is that it evades the duty to pay taxes. When the transfer involves intellectual property, transfer pricing becomes even more complex. The difficulty arises in calculating the transfer price in intellectual property as there are many variables affecting the price.

Different Methods for Transfer Pricing in Intellectual Property

Multiple transfer pricing methods can be used by organizations to calculate the transfer pricing of intellectual property. The most appropriate method for an organization depends on the circumstances in which the transaction is undertaken, the availability of data, etc. The OECD has laid down guidelines that can be used to select the most appropriate method. The following are the methods that can be used to select the most appropriate method for calculating the transfer price:

  • The Comparable Uncontrolled Price (CUP) Method
    As per OECD, the CUP method is one of the most direct and reliable methods for transfer pricing in intellectual property. This method compares the cost of controlled transactions with the cost charged in comparable uncontrolled transactions between unrelated entities. This method involves using recent market data to determine the arm’s length price of the transfer of intellectual property. One of the important and difficult aspects of the CUP Method is the identification of suitably comparable intellectual property license agreements to analyze as quality comparable data is not available.
  • Development, Enhancement, Maintenance, Protection, and Exploitation (DEMPE) of intangibles
    Another method that the MNC can consider while assigning transfer pricing in intellectual property is DEMPE. DEMPE was introduced by OECD in the final Action 8-10 report of the Transfer Pricing Aspects of Intangibles released on 5th October 2015. Under the DEMPE method, the MNCs consider how returns are allocated after revenue generation by an intangible. The return from intellectual property is allocated according to the contribution made by the parties to the value of the intellectual property and not just the legal owner of the intellectual property.
  • Value of Intellectual Property for transfer pricing purpose
    Valuation of Intellectual Property is very important for business valuation, drafting lease deals, dealing with IPR breaches, and also transfer pricing. Knowledge about the value of Intellectual Property helps the organization in getting a fair value on it, in seeking funds, entering into a merger or acquisition, or a joint venture arrangement, etc. The factors affecting the value of intellectual property are the market condition and the age of the asset. Intellectual property has been in the market for a long time, it will be more valuable as compared to the new ones. On the flip side, if a brand has been facing hardships in the market, then its value may decrease. The methods of valuation of intellectual property are as follows:
    1. The cost method
      In the cost method, the valuation of intellectual property is done based on the asset’s value on the cost of creating or developing the same asset or a similar asset. These costs generally include costs for procuring materials, labor, cost of testing and trials, research and development, and the cost of protecting intellectual property. The asset’s value is ascertained from the time and money a buyer will save by not developing their intellectual property, from the exclusive right to use the asset without infringing it, and the success of the intellectual property.
    2. The market method
      The market method is similar to that of the CUP Method where similar assets in the market are analyzed using the available data as a valuation benchmark. For using this method, the organization must have access to the license agreements of third-party organizations which have similar terms of exclusivity, payment structure, territory, and market condition.
    3. The income method
      Under this method, the income that the intellectual property would generate in the future is considered. This method bases the asset’s value on the potential future income. While ascertaining the value of the intellectual property under this method, the organization has to consider factors such as competition, market conditions, and the strength of intellectual property protection. Sometimes it can be difficult to use this method as estimating the intellectual property’s economic life and income in the future is difficult.

Transfer pricing in Intellectual property in India

India is one of the signatories of the OECD model and has introduced the transfer pricing provisions into the Indian Income Tax Act[1]. Even though it is not expressly mentioned in the Act but these provisions are made in line with the OECD guidelines. With the implementation of the transfer pricing provisions, India has become one of the leading jurisdictions in transfer pricing-related matters and jurisprudence. The transfer pricing provisions were enacted to prevent the increase in fraudulent transfer pricing transactions which erode the tax base. The concept of arm’s length price was introduced to trace transactions between associated enterprises that are not reasonable. These provisions were also applicable to determine transfer pricing in intellectual property. To determine the transfer price of an intangible it must have a market price. Applying rules of transfer pricing in intellectual property is difficult as intangible assets are unpredictable and hard to compare in the market. The proviso to Section 92B of the Income Tax Act defines the term ‘intangible property’ by providing a list of 12 things that can be considered as ‘intangible property’. The OECD Model has segregated the term ‘intangible asset’ into two categories namely the ‘trade intangible’ and the ‘marketing intangible’. Trade intangibles cover the know-how related to the products and services made through research and development whereas the market intangibles cover the names of trademarks, logos, etc which are used for the commercialization of the product or service.

With the rise in the transfer pricing of intellectual property, the laws relating to it evolved. The courts in India by adjudication improved the jurisprudence related to the transfer pricing of intellectual property. In a landmark case of Sony Ericsson Mobile Communications vs. CIT, the Delhi High Court while dealing with the term ‘market intangible’ held that advertisement, marketing, and promotion (AMP) give rise to international transactions. Further, in the case of Bausch and Lomb, the Delhi High Court held that AMP is not a transaction, it is a function. Then in the case of M/s Sony India Limited and others, the Delhi High Court has held that the tax authorities do not have the discretion to disregard the original transaction and substitute it with another transaction. The exception to this can be used only in two exceptional circumstances that are:

  1. where the substance of the transactions varies from its form and;
  2. ii) when the contract made in relation to the transaction differs from a contract that would have been between two independent entities.


Transfer pricing is one of the most important aspect for tax authorities, especially in developed nations that are struggling to retain taxing rights over businesses that are exploiting labor and materials and lower taxes offered by different countries. In addition to this, the rules on transfer pricing in intellectual property are still at the stage of evolution. The present legal framework is not efficient to cater to the new and emerging issues concerning intellectual property. With the rapid advancement in technology, unique intangibles might appear which might need a new approach. At this stage, the combined efforts of the international organizations along with all countries are needed to design a uniform approach to the rules on transfer pricing in intellectual property and standardize certain principles that would help improve the subject. Further, the unified approach must be flexible enough to allow a change in law whenever needed.

Also Read:
Transfer pricing provision in India
Transfer Pricing and Its Implication
Overview of Transfer Pricing in India

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