Budget 2015 has introduced several measures, inter alia, towards ease of doing business, manufacturing, infrastructure, poverty alleviation, financial inclusion, and predictability & stability of tax. The foreign investors in particular got a super deal with most of their concerns addressed by the Finance Minister - except one - on transfer pricing.
Transfer pricing has now entered the Board rooms and all strategic business decisions are taken after considering transfer pricing implications. Transfer pricing has also been at the core of tax litigation in India in the past few years. Most of the cases that have made headlines in Indian taxation news have involved transfer pricing issues. The new government showed its resolve to reduce litigation on transfer pricing and provide certainty on the same by bringing in significant amendments in the last Budget. Everyone was taken by surprise - pleasantly though - with these amendments announced by Finance Minister (FM) in July 2014 Budget and were looking forward to the "Acchey Din" but somehow the Acchey Din seems to evade transfer pricing.
Following is a brief discussion on some of the important issues which the FM has given a miss, irrespective of the dynamics of current transfer pricing environment in India.
- 1. Advance Pricing Agreement (APA) Roll Back Provisions
The FM had in what was an interim budget announced strengthening of transfer pricing dispute resolution mechanism by introduction of roll back mechanism in APA. Corresponding enabling provisions were also introduced in the Act subject to detailed rules and procedure to be notified by the Government. The intent of Government was to make the toll back provisions effective from 1st October 2014. However, the applicable provisions and rules in this regard are still not notified. There were several instances of similar nature in the previous Government but with the governing style of the current Prime Minister, one had strongly hoped that similar situation does no repeat.
Even though the taxpayers would get certainty for future through an APA, ongoing transfer pricing assessments for the past years are taking a heavy toll in many of the cases. The taxpayers seek to settle the open assessments for past years also by opting roll back mechanism. Further, taxpayers are also keen to understand the approach of APA authorities, for cases where litigation issues are in appeal for past years. All such questions remained unanswered because the Finance bill did not put light on these aspects and left the multinationals with open hands. The APA applicant fraternity will be looking forward to detailed guidelines with respect to the roll back provisions by way of rules or notifications from the Central Board of Direct Taxes (CBDT). Time is crucial since the timeline for filing APA applications to make it applicable for FY 2015-16 onwards is approaching very fast - 31 March 2015.
- 2. Use of Multiple Year Data & Inter-Quartile Range
The Budget 2014 has indicated allowance of using multiple year data instead of single year data and inter-quartile range instead of arithmetic mean while calculating the arm's length price (ALP).
The rules and guidelines for the same are still awaited. The use of multiple year vs single year data is continuously being litigated and has become a matter of significant concern for the taxpayers. In the absence of specific regulations, the tax and appellate authorities do not seem to accept the use of multiple years' data. There are several judicial precedents now from various tax tribunals which have consistently rejected tax payer's contention of using multiple year data for margin analysis of comparable companies.
Further, existing regulations prescribe the usage of arithmetic mean, with a (+)/ (-) 5% / 3% / 1% range for determination of ALP. The Arithmetic mean concept may vitiate comparability analysis in the cases of extreme results (being outliers) which distorts the comparable set. As against the same, "inter-quartile range" provides a more accurate result for computation of ALP, as extreme results or outliers are left out as part of the first and fourth quartiles. The Budget 2015 does not throw any light on the above and taxpayers now expect that it would be given effect by amending the Income Tax Rules or issuance of notification by CBDT in the days to come.
The above two measures were leap ahead and made Indian regulations almost aligned to the OECD Guidelines and matured regulations of developed countries. Introduction of concept of range and multi-year analysis will reduce the transfer pricing disputes significantly. However, even after 8 months of its announcement, absence of enabling rules hampers Government's efforts of providing tax adversarial regime and certainty. Notifying rules for the above regulations are most crucial since the Budget 2014 made this effective from FY 14-15 and detailed rules before 31st March 2015 will help corporates close the books considering the above benefits.
- 3. Safe Harbour (SH)
The finance Act, 2009 has introduced safe harbour rules in Indian transfer pricing scenario. However, this initiative was not well received by the taxpayers demonstrated by the very limited number of companies opting for the SH program. Various concerns over existing SH have not been adequately addressed. Relaxation for existing services under SH provisions and extension to cover other services such as investment advisory services, marketing support services, captive R&D services, etc was an issue expected to be dealt with under the Budget 2015. Further, the existing levels of expected margins for the specified activities are considered very high by the Industry. It was an excellent opportunity with the Government to boost the SH program by lowering the expected margins so that more number of taxpayers would opt for this dispute avoidance mechanism.
- 4. Share Issue Transactions
On 10th October, 2014 Bombay High court gave the verdict in favour of tax payer (Vodafone India Services Private Limited). Bombay HC concluded that Issue of Share by tax payer to its non resident AE does not give rise to any "income" from reported international transaction and thus, Indian Transfer Pricing provisions are not applicable in such case.
The Cabinet decided not to appeal the HC decision before the Supreme Court and CBDT has asked its tax officials to lay off the similar cases which are in litigations for the similar matter.
With the above background, there were expectations that statutory backing would be provided to the above Cabinet decision and CBDT action with an amendment in the law exempting such transactions from the rigours of transfer pricing. Despite the above Cabinet decision, as the law currently stands share issue transaction (capital financing) is regarded as an international transaction and one would have to rely on the ratio of Bombay HC in Vodafone case. But it remain an open ended point - would the HC ruling help the tax payer in non-reporting the transaction in Form 3CEB or would the tax payer still run the risks of penalties for non-reporting.
- 5. Specified Domestic Transaction - mixed feeling
In an ideal scenario, Transfer pricing provisions should not be applicable to domestic entities in a tax-neutral scenario i.e. in cases where taxes have been paid at maximum marginal rate by either of the related parties. Nevertheless, increasing the threshold limit for specified domestic transaction from 5 crores to 20 Crores is a welcome step. However, in the era where business transition and transaction volumes change at a startling speed without a complimentary increase in profit margins, setting a threshold limit of Rs. 20 crores is still very low and still needs to be increased substantially.
BEPS Project - Developments to watch for
The memorandum to the Finance Bill, 2015, under section C, on Deferment of provisions relating to General Anti Avoidance Rule (GAAR) is giving a reference to Base Erosion and Profit Shifting (BEPS) project currently undertaken by the OECD, by quoting that India is an active participant in this project.
From this, one may infer that going forward, even transfer pricing recommendations emanating out of the specific Action areas identified by the OECD such as multi tier maintenance of transfer pricing documentation, recommendations relating to intangibles, low value adding services, etc will have a clear impact on the transfer pricing regulations in India sooner or later.
While the Finance Bill 2015 has been presented in the Parliament, still there are avenues available with the Finance Minister to include clarifications / provisions with respect to the important aspects of transfer pricing, especially the ones discussed above, during the enactment of Finance Act 2015. To the least, an urgent guidance on these matters by way of notifications will certainly act as a good relief for the taxpayers.