India Tax Insights – eighth edition
Toward a more predictable Transfer Pricing environment
Vishal Rai, Partner, Tax & Regulatory Services, EY India
India has had significant number of Transfer Pricing (TP) controversies since the past decade given the subjective nature of the regulation and an aggressive implementation.
Since the Union Budget in August 2014, the Government has gone to great lengths to implement a series of reforms at both the policy and the implementation level to improve the ecosystem around TP regulation. These reforms have been aimed at providing more certainty, incorporating global best practices and showcasing India’s willingness to the world to be an open and “resolution”-oriented tax jurisdiction.
One of the key features of the new tax regime is the continued focus on the Advance Pricing Agreement (APA) program to make it more attractive to taxpayers. As a result, 103 APAs (including 4 bilateral APAs) have been closed in the three years of the program. APA rollback provisions1 have provided taxpayers with certainty for the four preceding years, greatly reducing the chances of protracted litigation.
However, there are two areas where further changes can be made. First, the rollback rules provide that in case of a merger/demerger, only the company that makes the APA application is entitled to claim rollback benefits (and not those that have merged into/demerged from the applicant). Given that the new entity after a merger continues to be responsible for taxes and assessments of the merging entity(s), the new entity should be allowed the opportunity to resolve its past open years by way of an APA rollback. Second, the Government can look to provide for a “fast track” APA — implying the closure of the APA in a time-bound manner (say a six-month period). With a fair amount of guidance2 related to Base Erosion and Profit Shifting (BEPS) released recently, investors are rightly concerned about how the Indian tax authorities would interpret it. As companies look to commit large investments in India, a fast track APA would help prospective investors make an informed investment decision with full TP certainty, compared to the current APA process, which typically takes a minimum of 18 months.
Another positive development has been the progress made on Mutual Agreement Procedure (MAP) discussions between India and the US. Since India and US Competent Authorities talked to each other for the first time in several years in January 2015, more than 100 MAPs have been resolved largely in the IT/IT-enabled services sector. The US IRS has also started accepting bilateral APA applications with India since February 2016, giving a big fillip to India’s APA program.
A significant roadblock that still remains in this area is India’s stand of not accepting a bilateral APA or MAP on TP matters unless the relevant tax treaty does not specifically provide for a correlative relief on TP adjustment. This prevents companies resident in countries such as Germany, France, Singapore and South Korea from accessing the bilateral APA forum and MAP in India. A relaxation in this stand or amendments in relevant treaties will provide additional avenues to taxpayers in resolving TP disputes where they have transactions with companies in these countries.
In a landmark move, the Government decided in 2015 not to contest the Bombay High Court’s verdict in the case of Vodafone and Shell, which upheld the non-applicability of TP provisions on the issue price of shares. It was very heartening to see the Government’s response on a high-value, high-profile and high-impact issue such as this. The last few cycles of TP audits have also not seen any significant and unique TP adjustments being undertaken, and one just hopes that the Government and the tax administration will continue with their non-adversarial approach.
The Government also heeded to a long-standing demand of taxpayers and advisors of introducing the concept of range and allowing the use of multiple-year data. Aligning itself with global practices, the tax administration issued rules permitting the use of percentile range and median instead of arithmetic mean to arrive at the margins of comparables. These rules also prescribe conditions for the use of multiple-year data to enhance comparability analysis rather than leave it to subjective interpretation. The Government also raised the threshold for the applicability of TP provisions on domestic related party transactions to INR20 crore (as against the existing threshold of INR5 crore) to relieve small businesses from onerous compliance requirements.
In another welcome move, the CBDT issued revised guidelines for referring cases for detailed TP assessment. According to the revised guidelines, a reference for detailed scrutiny would be made keeping risk-based parameters in mind (in line with international practices) and not basis ad-hoc thresholds such as turnover.
While the Government has clearly taken steady steps in the past two years toward making India a stable TP regime and an easier place to do business, it needs to look at some additional focus areas:
- The growing need to release more technical position papers, FAQs and standard positions on contentious issues such as financing transactions, taxation of intangibles, payment for royalty and intra-group services
- Further rationalization of the concept of percentile range by aligning it to the globally accepted interquartile range as against the 35th–65th percentile range, which is currently in place
- Relaxation in the requirements in domestic TP provisions to exclude tax-neutral dealings
All in all, there have been several promising developments in the last two years that may have a positive impact on the TP environment in India. Hopefully, these measures would be able to achieve the goal of minimal litigation and smooth controversy resolution.
- Rollback provisions for APA permit taxpayers and tax authorities to agree on the inter-company pricing for the period prior to which the APA was filed.
- OCED has released various reports as part of its initiative to address BEPS.