Transfer Pricing in India

A Guide to Transfer Pricing Regulations in India

As multinational corporations become more involved in economic operations in the country, new and complex challenges have arisen as a result of transactions involving two or more affiliates belonging to the same multinational corporation. The profits produced by such businesses operating in India can be controlled by multinational corporations by influencing the prices charged and paid in intra-group transactions, resulting in erosion of tax revenue. In other words, the course of business between a resident and an affiliated non-resident or not ordinarily resident entity is set up in such a way that the resident makes either no profit or a profit that is less than the ordinary profit. Such a deal will deprive the Indian government of tax money that would otherwise be paid by the resident. Amidst this lets discuss transfer pricing regulations.

Transfer Pricing Regulations

A new set of special rules relating to tax evasion has been adopted under Chapter X of the Income Tax Act^[1] in order to provide a statutory framework that can lead to the computation of reasonable, appropriate, and equitable earnings and tax in India in the case of such multinational enterprises.

These provisions pertain to the computation of income from international transactions based on arm’s length price, the definition of associated enterprises, the definition of international transaction, the determination of arm’s length price, the keeping and retaining of data and information by persons engaging in international transactions, and the furnishing of an accountant’s report by such persons.

In India, transfer pricing regulations apply to both local and international transactions that exceed a certain threshold in terms of the transaction value. The Income Tax Rules 1962 were amended to include Sections 92A-F and applicable Rule(s) 10A-E, which established transfer pricing. It assures that the price of a transaction between ‘related’ parties is equivalent to the price of a transaction between unrelated parties. In terms of transfer pricing, the subsequent sections of the Income Tax Act of 1961 are related to international transactions.

Section 92

The provisions of Section 92 are as under:

• Any income derived from an international transaction must be calculated using the arm’s length price.
• The allowance for any expense or interest incurred as a result of an international transaction or a specified domestic transaction must also be calculated using the arm’s length price.
• When two or more affiliated enterprises enter into a mutual agreement or contract for the proportional allocation of, or any contribution to, any cost incurred in connection with a benefit, service, or facility provided to any of them, the cost apportioned to (contributed by) any of them is determined using the arm’s length price of such benefit, service, or facility.

Arm’s length price

According to section 92F(ii), an arm’s length price is a price that is applied or intended to be imposed in an uncontrolled transaction between parties other than associated enterprises (i.e., unrelated individuals, residents, or non-residents).

Meaning of international transaction in Transfer Pricing Regulations

A transaction between two or more associated entities, one or both of which are non-residents, in the nature of an acquisition, selling, or leasing of tangible or intangible property, or the rendering of services, or lending or borrowing money, or any other transaction having a direct effect on the profits, revenue, losses, or assets of such enterprises, is defined as an international transaction under Section 92B.

In addition, mutual consent or arrangement between two or more associated enterprises for the distribution or apportionment of, or any contribution to, any cost or expenditure expensed or to be expensed in relation with a benefit, service, or facility provided or to be supplied to any 1 or more of these enterprises shall also be considered a transaction under Section 92B.

Specified Domestic Transaction

In the case of an assessee, a specified domestic transaction is referred to any of the below-mentioned transactions, however, that is not being an international transaction:

• any transaction as mentioned in Section 80A
• any transfer of goods/services as mentioned in Section 80-IA (8)
• any kind of business that is transacted between the assessee and another person as mentioned in Section 80-IA (10)
• any transaction, as mentioned in any other section under Chapter VI A or under Section 10AA of the Income Tax Act, to which the rules of Section 80-IA (8) or (10) are applicable.
• any kind of business transacted between the persons as mentioned in Section 115BAB (4)
• any other transaction as may be prescribed

Moreover, a specified domestic transaction shall be where the aggregate of all these transactions entered into by the assessee in a previous year exceeds a total amount of Rs. 20 crores.

Associated enterprises [Section 92A of Transfer Pricing Regulations]

In respect to another enterprise, an associated enterprise is defined as an entity that participates, directly or indirectly, or via one or more intermediaries, in the management, control, or capital of the other entity. It would also include an entity in which one or more persons who take part in its management, control, or capital, directly or indirectly, or via one or more intermediaries, seem to be the same persons who take part in the management, control, or capital of the other enterprise, directly or indirectly, or via one or more intermediaries.

Calculation of arm’s length price in Transfer Pricing Regulations

The Indian Transfer Pricing Regulations primarily outline six transfer pricing procedures that multinational firms and tax authorities can employ to ascertain an appropriate arm’s length price for all overseas transactions and specified domestic transactions between related enterprises.

Section 92C states that the arm’s length price for an international transaction or a specified domestic transaction will be largely determined using the most appropriate method, taking into account the nature & scope of the transaction, category of transactions, category of associated persons, functions performed by such persons, and any other relevant factors as the Board may prescribe. These are as follows:

Transaction-Based Methods

• comparable uncontrolled price method
• resale price method
• cost-plus method

Profit Based Methods

• profit split method
• transactional net margin method
• such other procedure as may be prescribed by the Board.

For the purpose of ascertaining arm’s length price, the most appropriate approach shall be used in the way prescribed. When the most appropriate technique determines more than one price, the arm’s length price is computed in accordance with the rules.

The particular price at which an international transaction or a specified domestic transaction has actually been executed shall be deemed to be the arm’s length price if the difference between the arm’s length price so determined and the price at which the international transaction or specified domestic transaction has actually been executed is not more than such percentage not exceeding 3% of the latter as may be defined by the Central Government in the Official Gazette in this regard.

Reference to transfer pricing officer [Section 92CA]

If the Assessing Officer (i.e., AO) believes it is necessary or expedient to refer the computation of the arm’s length price in relation to an international transaction or specified domestic transaction entered into by the assessee under Section 92C to the Transfer Pricing Officer in any previous year, he may do so with the prior approval of the Commissioner.

When a reference is made, the Transfer Pricing Officer will issue a notice on the assessee requesting him to supply or cause to be supplied any evidence on which the assessee may depend in support of his assessment of the arm’s length price in relation to such international transaction or specified domestic transaction on a date specified in the notice.

Audit under Transfer Pricing Regulations [Section 92E]

Persons who are engaging in an international transaction or a specified domestic transaction must provide an accountant’s report. Any person who is entering into an international transaction or a defined domestic transaction in the preceding year must get a report from an accountant in a prescribed form, fully signed and verified by the accountant, before the given date. The audit applies to both international and domestic transactions that meet certain criteria. Form 3CEB must be completed and submitted for the said purpose.

Conclusion

According to the Indian Transfer Pricing Regulations, income deriving from overseas transactions or certain domestic transactions between related firms must be calculated using arm’s length pricing. It has been clarified that any provision for an expenditure or interest, as well as the allocation of any cost or expense originating from an international or specified domestic transaction, must be decided using the arm’s length pricing. The phrases ‘international transactions, ‘specified domestic transactions’, ‘related enterprises’, & ‘arm’s length price’ are all defined under the Act.

Read our article:Transfer Pricing and Its Implication