Transfer Pricing in India- Overview
With globalisation, the international taxation framework has become applicable in a majority of nations and the concept of transfer pricing is one of the most crucial concepts. Therefore, we believe that you should consider transfer pricing as an extension of business instead of mere compliance practice. The law on transfer pricing in India has been laid down under the Income Tax Act 1961. In India, transfer pricing is a continuous task where businesses should use a systematic approach for risk management along with meeting compliance requirements such as documentation, records etc.
What is Transfer Pricing in India?
Transfer pricing refers to the prices at which an enterprise transfers physical goods or provides services to its associated enterprises. The term transfer pricing includes the value attached to the transfer of goods, services and technology between related entities and value attached to the transfers between unrelated parties with a common ownership.
Importance of Transfer Pricing- Why do businesses need it?
Transfer pricing is a very important concept as these rules helps companies in maintaining their business structure in a flexible manner. Transfer pricing is one of the crucial concepts that play a critical role in lending support to the multinational business entities to expand their business globally and reduce the tax burden considerably. Business entities often take advantage of this and tend to manipulate prices entirely hence transfer pricing regulation is highly required.
So transfer pricing is a crucial concept for business owing to the fact that it is way of managing prices between different countries either deliberately or inadvertently. There are certain strict compliance measures in place which must be complied with by companies around the world, otherwise it can lead to penalty and serious implications. Transfer pricing is also a way of managing costs. It can be used as a non-aggressive legitimate tax planning tool which makes it indispensable part for many large businesses.
Arm’s Length Price
The concept of arms’ length price has been defined under Section 92F of the Income Tax Act. It refers to the price applied to transactions between persons other than associated enterprises in uncontrolled conditions. Section 92C lays down the method for determining the arms’ length price and also provides that the price will be computed through the most appropriate method.
Such price can be determined by using the most appropriate method out of the following methods:
- Comparable Uncontrolled Price Method
This method compares the price levied for property or services transferred in controlled transaction to the price charged in Comparable uncontrolled transaction in a comparable circumstances. This method is the most direct and reliable method to apply for the arms’ length principle. This method requires great deal of comparability of products and functions.
- Resale Price Method
This method is a traditional method for determining transfer pricing. Here, the resale price of a product, that has been bought from a related enterprise and then sold to an unaffiliated party, is examined. The resale price is the price of the transaction where the item is resold to an independent business. This method requires determining the margin of resale price. Resale price margin is the sum of money required by the party reselling the product to satisfy the associated selling and operational costs. The resale price margin also contains the amount required by a reseller to make a reasonable profit based on the services it extended.
- Cost plus method
It is a typical transaction analysis method that focuses on the controlled transaction between a supplier and associated buyer. This method is commonly used when semi-finished items are traded among connected parties or in case where related entities have long term purchase and supply agreements. Here the costs of the provider is added to mark-up for product or service in a manner that the supplier derives profit which is justified for the functions they execute and the prevalent market conditions.
This method is effective especially while determining transfer prices for low-risk operations such as tangible products and their manufacture. However, one of the drawbacks of this approach is the availability of comparable data and consistency in accounting. The use of this method involves determination of a mark-up on expenses applied for comparable transactions among independent businesses.
- Transactional Net Margin Method (TNMM)
This method analyses net profit of the taxpayer from a controlled transaction relating to a suitable basis. This method just like the other methods (Cost-Plus Method and Resale Price Method) looks at the profit of one of the connected parties involved in a transaction.
This method compares net profit margins derived by the tested party in controlled transactions to a similar net profit margins generated by the tested party in the uncontrolled transactions or by independent comparable firms. Unlike in the case of Cost-Plus Method and Resale Price Method, this approach is a more sort of an indirect method.
- Profit split method
This method is often used when parties to the controlled transaction make a contribution of considerable intangible property. Profit shall be split as in the case of a joint venture. By the establishment of the division of profits that independent entities would have expected by participating in the transaction and/or aggregate transactions, this method seeks to remove the effect on profits of special conditions made/imposed in a controlled transaction.
- Other method
In order to compute arm’s length price, CBDT has prescribed 6th method apart from these methods mentioned above. The sixth method is called the other method. This method shall be any method which takes into account the price charged or paid or would have been charged/paid for the same uncontrolled transaction with/between non-associated enterprises, under similar circumstances, considering all the relevant facts.
Transfer Pricing Documentation
Compliance with transfer pricing documentation is necessary in order to ensure that taxpayers provide appropriate consideration to requirements of transfer pricing in establishing prices and conditions for transactions between associated enterprises and in reporting income obtained from such transactions in their tax returns. The tax authorities give due significance to the documentation prepared and kept by the taxpayer before concluding the arm’s length nature of the transaction.
Taxpayers must maintain information and 3 tier documentation as part of the transfer pricing documentation which will certify that the pricing policy complies with the arms’ length principle.
As per BEPS action plan 13 has proposed for the concept of 3 tier documentation which entails-
- Master File;
- Local File;
- Country by Country Reporting.
Tax authorities across the globe have enhanced the level of scrutiny hence having a properly documented transfer pricing arrangement is crucial. At the time of audit, if it is found that a company has inadequate documentation then severe penalties can be imposed. As part of the BEPS action plan, OECD has introduced recommendations and raised the requirements pertaining to transfer pricing documentation.
We at Enterslice assist clients with assessment of present transfer pricing documentation and provide revision in case it is required. We also assist them in the preparation of internal procedures and guidelines which ensures compliance with documentation requirements. An in-depth industrial, functional and benchmarking analysis is important for the documentation purposes hence we at Enterslice perform this function as part of our documentation services. Local file and master file is prepared as per local country laws and OECD guidelines.
Transfer Pricing Compliance
With the constant evolution of the global tax landscape, tax authorities have imposed new disclosure requirements and compliance norms. MNCs need to adhere to the compliance requirements and the revenue department monitors this compliance by MNCs regularly.
Compliance requirements under Form 3CEB need to be satisfied hence Enterslice provides TP certification and extends advisory services on the master file and country by country reporting requirements.
Transfer Pricing Advisory
Tax authorities these days are extra cautious to instances of base erosion and profit shifting and require that intra-group transactions to be set at an arms’ length basis. Hence it becomes imperative to understand the requirements of client’s situation and work on their transfer pricing concerns.
Further, MNCs in different tax jurisdictions find it difficult to deal in transfer pricing issues. It necessitates the need for strategic TP planning exercise in order to meet the requirements of respective tax jurisdictions.
We at Enterslice offer advisory services on transfer pricing issues, perform due diligence exercise pertaining to Transfer pricing and also advise on alternative business models and implementation support. Enterslice designs and plans related party transactions and agreements and review deemed international transactions as part of its TP advisory services.
Value Chain Management
With the evolving tax environment, businesses around the world must work effectively than before. Businesses need to modify their structure in a way that ensures tax management. This includes alignment of results with economic substance, optimisation of tax rates and alignment of tax with the business structure. Business need to identify key value drivers and establish an optimal model and structure which is efficient, commercially and from tax perspective as well.
Enterslice can help in formulating global and regional transfer pricing policies and value chain strategies, and help multinational clients in implementing those strategies, manage their transfer pricing risks more effectively and/or to minimize their overall tax rate as much as possible.
For proper value chain management, the goals and existing tax structure of the business needs to be assessed. Based on the analysis further scope of improvement is suggested. Enterslice adopts this process to assist our clients in value chain and supply chain transformations.
Transfer Pricing Audit and Dispute Support
A transfer pricing audit refers to the inspection or evaluation carried out by the tax department to ensure that a business entity complies with the transfer pricing laws applicable. During the process, auditors can assess the ledgers, accounts and books to check compliance.
Under the transfer pricing audit, organizations functions and their potential risks are assessed. An appropriate method of transfer pricing is chosen afterwards. The audit is applicable to international as well as specified domestic transactions.
Enterslice professionals shall ensure that its clients can defend transfer prices before the tax authorities and with local audit teams. We provide assistance on Advance Pricing Agreement on a multi-jurisdictional scale. APA or advance pricing agreement is an agreement made between the taxpayer and tax authorities to adopt the most appropriate transfer pricing methodology to determine the arm’s length price for the covered international transaction.