Transfer Pricing- Key Challenges Faced by Industry CA. Pramod Jain

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Transfer Pricing-Key Challenges Faced by
Industry CA. Pramod Jain
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Key Challenges faced by industry

• Long time gaps between TP setting and TP
  assessments
• No moratorium/ cooling period after a successful
  defence of transfer pricing assessment
• Approach in TP assessments
• Denial of tax holiday u/s 10A on TP adjustments
• Ambiguity and lack of certainty

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Long time gaps

• Every transfer pricing cycle has to go through
  four phases-setting, monitoring, documentation
  and assessment
• Example
• TP setting for transactions between 1st April
  2004 to 31st March, 2005 would have been
  completed in general by 30th April, 2004.
• Transfer pricing agreements and other records
  have been completed during the course of
  financial year
• Transfer pricing study and report would have been
  initiated in June-July 2005 and filed in Oct.
  2005
• Transfer pricing and assessment can be completed
  by 31st December, 2008
• A gap of almost 4 years 9 months since the whole
  TP cycle was started in April, 2004 or 3 year 2
  months since the filing of tax return

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No moratorium/ cooling period

• TP assessments are exhaustive and time consuming
  for both-tax payer and tax department
• There should be at least 3 year moratorium/
  cooling period after a comprehensive and no
  adjustment TP assessment
• This will enable department to do few but
  thorough and quality assessments rather than
  current approach of assessing all above a
  threshold limit
• This will also enable tax payer to focus on
  learning from the assessment and preparing for
  the next assessment

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Assessment approach

• The approach to assessment should generally start
  with trust rather than lack of it
• The tax department has the challenge of
  completing too many assessments of different
  industries within a short period of time
• TP assessments get indirectly linked to
  collection targets also somewhere and put
  pressure on independence in the process
• The data of the comparables which was not
  available to the tax payer at the time of
  preparing TP documentation is not excluded
• Many times, the characterisation of the business
  or transactions itself is re-positioned
• Reasonable adjustments due to differences in
  business models, cost structures, maturity of the
  business, competitive landscape, product
  differences with the comparables etc. should be
  allowed

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Different business
situations

• Risk stripped business models
• Cost plus remuneration No entrepreneurship risk
  (risk of making loss) and guaranteed profits in
  cost plus models. Hence, low profits justifiable
  for captive businesses.
• Low risk marketing/ distributors Indian
  subsidiaries which act as distributors and sell
  branded goods of their foreign parents have
  almost no or very little price risk, credit risk,
  market risk, inventory risk. Low risk, low
  profits
• Parent funded low risk R D The entire risk of
  sponsoring R D activities in India and its
  outcome-failure/ success including patent/ IPR
  belongs to parent. A typical cost plus model
  should be acceptable.

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Denial of tax holiday

• Any TP adjustment done during assessment does not
  qualify for tax holiday u/s 10A to STP units
• Assessing officers have to understand pricing
  process in MNCs in a different perspective-why
  would Indian entity be paid less when India has a
  tax holiday until FY 09?
• Price determination is done in the light of TP
  rules in the parent country need for price
  consistency for similar services done in other
  countries
• Pricing is an art and not science. Denial of tax
  holiday in both situations- excess profits due to
  overpricing and profits arising from adjustments
  due to under-pricing. Pricing can never be one
  scientifically derived number

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Industry expectations-Tax Certainty

• Advance Pricing Agreements (APA)
• Very similar to advance ruling process
• Tax payer files an application explaining his
  business and giving a description of functions,
  assets and risks
• The application evaluated by a tax committee
  consisting of members from economics, accounting
  and technical background
• APA valid for 2-3 years unless there is a change
  in business facts and circumstances
• Win-win situation for both-tax department and tax
  payer as it provides certainty and also, avoids
  protracted litigation

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Other Industry expectations

• Expedited assessments/ appeals TP assessments
  must be completed within 2 years of filings and
  appeals should be disposed off within 6 months
• Replace arithmetic mean of comparables by
  inter-quartile range The arithmetic mean gets
  skewed by extreme comparables and method should
  be replaced by inter-quartile range
• Relaxed view to stay demands The department
  should stay 100 of the demand in all the cases
  where TP adjustments is too high (say-more than
  50 of mark up or profit reported by tax payer)

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THANK YOU