“The only thing that is constant is change.”
Change is what has bought us to the juncture and change is what it will take to usher in a new future as we contemplate way to address the challenges. Many changes have focused on bringing in greater clarity while others have expanded the scope of its operations. Indian Transfer Pricing ambit has been changed with introduction of Safe Harbour Rules (SHR), Advance Pricing Agreements (APA) & Dispute Resolution Panel (DRP).
“In order to reduce the number of transfer pricing audits and prolonged disputes, a new section 92CB has been inserted to provide that the determination of arm’s length price under section 92C or section 92CA shall be subject to Safe Harbour rules.”
The Finance (No. 2) Act 2009 introduced the provisions in the Income Tax Law that empowered the Central Board of Direct Taxes (CBDT) to issue transfer pricing Safe Harbour Rules. The CBDT on 14th August 2013 released draft safe harbor rules for public comments. After consideration comments of various stakeholders on 18th September 2013, the CBDT issued the final Safe Harbour Rules.
Section 92CB of the Act defines the term Safe Harbour as “circumstances under which the income-tax authorities shall accept the transfer pricing declared by the assessee.” The Rule provides minimum operating profit margin in relation to operating expenses a taxpayer is expected to earn for certain categories of international transactions , that will acceptable to the income tax authorities as arm’s length price (ALP) . The rule also provides acceptable norms for certain categories of financial transactions such as intra-group loans made or guarantees provided to non-resident affiliates of an Indian tax payers. The safe harbor rules, optional for a taxpayer, contains the conditions and circumstances under which norms / margins would be accepted by the tax authorities and the related compliance obligations.
The safe harbour rule are not arm’s length prices, but in the nature of presumptive taxation, which generally enthuse taxpayers to opt for the same, as a compromise for not having to be involved in protracted litigation. Safe harbor typically include a premium payable by taxpayers for avoiding disputes and protracted litigations. Safe harbours may broadly take two forms (a) outright exclusion by setting thresholds; or (b) simplification of provisions by designating range, within which prices/profits should fall.
Applicable Safe Harbour Transfer Price
New rules 10TA to 10TG contains the procedure for adopting safe harbour, the transfer price to be adopted, the compliance procedures upon adoption of safe harbors and circumstances in which a safe harbor adopted may be held to be invalid. Eligible International Transactions and applicable safe harbour transfer price subject to the ceilings/circumstances stated as under: –
|Eligible international transaction||Threshold limit prescribed||Safe harbor margin|
|Provision of software development services &information technology enabled services with insignificant risks||Up to Rs 500 Crore||20 % or more on total operating costs|
|Above Rs 500 Crore||22 % or more on total operating costs|
|Provision of knowledge processes outsourcing services with insignificant risks||25 % or more on total operating costs|
|Advancing of intra-group loan to a nonresident wholly owned subsidiary||Interest rate equal to or greater than the base rate of SBI as on 30th June of relevant previous year|
|Up to Rs 50 Crore||Plus 150 basis points|
|Above Rs 50 Crore||Plus 150 basis points|
|Providing explicit corporate guarantee to wholly owned subsidiary (WOS)||The commission or fee declared in relation to the international transaction is|
|Up to Rs 100 Crore||at the rate of 2% or more per annum on the amount guaranteed|
|Above Rs 100 Crore, provided the WOS has been rated to be of adequate to highest safety by a rating agency registered with SEBI||at the rate of 1.75% or more per annum on the amount guaranteed|
|Provision of specified contract R&D services wholly or partly relating to software development with insignificant risks||30% or more on total operating costs|
|Provision of contract R&D services wholly or partly relating to generic pharmaceutical drugs with insignificant risks||29% or more on total operating costs|
|Manufacture and export of core auto components||12% or more on total operating costs|
|Manufacture and export of noncore auto components where 90% or more of total turnover during the relevant previous year is in the nature of original equipment manufacturer (OEM) sales||8.5% or more on total operating costs|
Validity for five years
The transfer price contained in the safe harbor rules shall be applicable for five years beginning from financial year (FY) 2012-13. The taxpayer has flexibility in electing the years to be governed by the safe harbor rules within the five year period. Where a taxpayer’s transfer price is accepted by the Tax Authority under the safe harbor rules, the taxpayer shall not be entitled to invoke the mutual agreement procedure (MAP) under an applicable tax treaty.
Filling of form 3CEFA
Any taxpayer who has entered into an eligible international transaction and who wishes to exercise the option to be governed by the safe harbour rules is required to file a specified form (Form 3CEFA). Form 3CEFA requires the taxpayer to declare the following:
- Transaction entered with an AE is an eligible international transaction;
- Quantum of the international transaction;
- Whether the AEs country or territory is a no tax or low tax country or territory; and
- Operating profit margin/transfer price.
Timelines for Tax Authorities
The rules also provide timelines within which the tax authorities need to take action on the option exercised by the taxpayer. These are:
|Reference by AO to TPO to determine eligibility of assessee or international transaction or both for purposes of the safe harbor||Two months from the end of the month in which Form 3CEFA is received by AO|
|TPO to pass an order after determining validity or otherwise of the option exercised by the assessee||Two months from the end of the month in which reference from AO is received|
|Commissioner to pass an order with respect to the validity or otherwise of the option exercised by the assessee||Two months from the end of the month in which the objections filed by the assessee are received|
Benefits of Safe Harbour
Safe harbours carry certain benefits which are described below:
- Compliance Simplicity: Safe harbours tend to substitute simplified requirements in place of existing regulations, thereby reducing compliance burden and associated costs for eligible taxpayers, who would otherwise be obligated to dedicate resources and time to collect, analyze and maintain extensive data to support their inter-company transactions.
- Certainty & Reduce Litigation: Electing safe harbours may grant a greater sense of assurance to taxpayers regarding acceptability of their transfer price by the tax authorities without onerous audits. This conserves administrative and monetary resources for both the taxpayer and the tax administration.
- Administrative Simplicity: Since tax administrations would be required to carry out only a minimal examination in respect of taxpayers opting for safe harbours, they can channelize their efforts to examine more complex and high-risk transactions and taxpayers.
While safe harbours generally are beneficial, their availability is not without concerns, some of which are:
- High Margins/Price: Some of the rates are very high and reflect neither industry benchmarks nor the current economic environment.
- Risk of double taxation: When adopted unilaterally, safe harbours pose risk of double taxation since reporting of higher than arm’s length level of income in one jurisdiction (to comply with safe harbour levels) need not be necessarily accepted by the tax administration in the other jurisdiction.
- Impose Burden: Safe harbour rules continue to impose the burden of maintaining transfer pricing documentation on taxpayers opting for it. Excluding taxpayers transacting with low tax or no tax countries from the ambit of safe harbour rules creates a further exception.
- Risk of Subjectivity & Litigation: The industry at large feels that segregating IT services into software services and contract R&D services is complicated since many of the activities may be overlapping and would require a more technical analysis than envisaged in the rules.
Transfer Pricing is often identified as one of the most serious tax issues facing corporate in India. In the face of growing uncertainty and litigation, the Government’s announcement of safe harbour rules has been welcomed by all quarters. However, doubts remain on whether these rules will entirely help achieve the stated objectives of reduced Transfer Pricing disputes and usher in more certainty unless resolved appropriately. Therefore, the safe harbour regime to successfully work in India would needed effective implementation measures by the tax authorities.
(Author is a CA Final Student and can be reached at [email protected])