The arena of International taxation has always been quite complex as much as it has been exciting (for tax practitioners in particular). What with residency rules, PE provisions, TP regimes, 195 issues and DTAAs, in fact, it will be more exciting as it gets more complex. (As the chargeable fee is invariably on dollar terms, i.e ‘40+’x!).

One sub area within that large arena is Transfer pricing, which, though as a concept has been in vogue in the world since the middle of the last millennium, came in to Indian Tax Laws just about a decade back, and almost a decade later than India’s tryst with the advent of Globalisation.

As such the framers of tax laws in this country have always been original thinkers and have attempted to tax anything that has even a complete disconnect with the concept of income. Some of their sparkling innovations were Sec.50C, Sec.40 (a) (ia), FBT (thankfully no more in existence now) and the (un)sympathetic consequence of Sec.50C in Sec.56 etc. How can they not lap up something that comes as an imported item? Transfer Pricing taxation came to fit the bill. Completely a scheme of taxation of perceived income, it has come as more than an adequate fodder for their quest for imagination. The Revenue need not at all be concerned about the OECD guidelines based on which the Act itself has prescribed different methods, need not take cognisance of the plausible comparables that the assessee presents but can go ahead with their own ridiculous presumptive comparables, just not bother about the painstaking documentation that the assessee might have paid a fortune to have prepared to defend his calculations and go ahead with their whims and fancies in making upward revisions just after giving a mandatory show cause notice etc.

In the ordinary scrutiny assessments u/s 143(3) or u/s 147, an assessee may have some facts in his possession to prove his claims which the AO will not be able to ignore. However, in TP assessments, it is always “assessee’s perception vs Revenue’s perception”. And it will always be extremely hard on the assessee to prove that his perception has more merit than the officer’s. So, litigations galore!

Till almost last year, the only route of possible redressal was the usual one for the assessees – CIT (appeals) and then to ITAT. In 2009, a new system of redressal in the form of Dispute Resolution panel was introduced. A collegium of three commissioners forms the panel, which would go through the records, examine the facts and submissions and would issue directions to the AO as regards manner of assessment and the AO would issue orders accordingly. The ITAT route would still be available to the assessee.

The DRP’s functioning so far, has not been great from an assessee’s perspective. Representatives and assesses generally feel that it is predominantly a pro-revenue body. Well, nothing different is expected from it as it is not an ‘outside body’ akin to ITAT or Settlement Commission but something that has been formed from within. The so-called in-built safety provision for an assessee that the Revenue cannot challenge the DRP recommendations offer little solace as there does not seem to be any need for it in the first place (as most of the disputes are decided in favour of Revenue).

The Income Tax Act has a provision for “Safe Harbour Rules” in respect of Transfer Pricing tax issues, inserted effective April, 2009 which indicate that the Board may make rules for notifying ‘circumstances to accept the Transfer Price declared by the assessee’. (Proposed DTC also has this provision).

It appears that something like a presumptive taxation provision akin to Sec. 44AD is being thought of. As of now, TP tax provisions are rather rigid. Without any threshold limits on quantum, Form 3CEB is to be filed by an assessee who has had even one international transaction with an Associated Enterprise. If the quantum goes beyond INR 10 million, mandatory requirement of having a detailed documentation is prescribed. If the transactions aggregate to INR 150 million, compulsory scrutiny is mandated. In this backdrop, ‘safe harbour rules’ would perhaps provide some respite to some smaller assessees coming under TP net but Revenue has never ever shown the slightest hurry in going forward in matters that might be beneficial to the assessee. (Isn’t it common knowledge that while the department can take years to issue genuine refunds with absolutely no sense of accountability while coming down heavily on assesses with threats of penalties, interests, attachments etc. even when blatantly illegal and illogical demands are made?). So, no notification may ever come on this and the safe harbour rules can be expected to be safely harboured only within the confines of the Act or the Code, for ever!

It is in this background, we may have to see about the much touted APA provision (Advance Pricing Agreements), a system that has been universally present in various evolved tax regimes in the world and the one that has now been contemplated in the Direct Taxes Code.

The thought of introducing APA in Indian TP Tax Laws has been there in the minds of the law makers since around 2006/2007, predominantly because of tacit OECD compulsions. The Government took serious feedback from the tax practitioners on several aspects such as the need and the feasibility for APA mechanism in India, the level of expertise needed of tax officials, database requirements, experience of APA programmes elsewhere in the world etc.

APA is expected to provide some level of certainty and predictability of tax treatment of international transactions with the possible collateral benefit of lesser compliance costs. A 1998 OECD discussion draft on The Taxation of Global Trading of Financial Instruments mentioned that APAs provide a useful ‘safety valve’ in the absence of clear consensus on the concrete application of general principles. Therefore, entering into an APA is perceived as a means of obtaining simplicity as contrasted to the complexity of an uncertain application of substantive provisions.

Let us see the salient features of the advance pricing agreement as contemplated in DTC first:

  • The advance pricing agreement is to have an advance arrangement of determination of controlled transactions based on certain appropriate criteria having regard to future critical assumptions for determining the transfer pricing over a fixed period of time.
  •  The DTC proposes to provide a mechanism of APA and empowers the Board to formulate a scheme.
  • Taxpayer could approach the Board for determining the arm’s length price fixation for international transactions to be entered into.
  • The Board could determine the arm’s length price under the advance pricing agreement having regard to transfer pricing regulations and the Board is also empowered to make necessary adjustments having regard to the international transactions.
  • The determined advance price agreement is binding between the taxpayer and the regulator in respect of the advance price agreement entered into.
  • The advance price agreement would be valid for the specified period agreed to subject to maximum of five consecutive financial years, subject to the condition that there are no changes in the law on the basis of which the advance pricing agreement is entered into.

Ostensibly an assessee friendly measure, this APA would perhaps resemble the Authority for Advance Ruling concept (where tax issues pertaining to non residents are sought to be pre-decided) but as of now it is not known how this APA in a real life situation going to function.

Euphoric reactions have been articulated about this APA and the so-called possible advantages are being widely publicised. It is said that –

  • APA would ensure upfront acceptance of the assessee’s version of arm’s length transaction;
  • Would help the assessee to plan their TP strategies, including methodology to be used with more certainty;
  •  An APA would also substantially reduce the possibility of future double taxation; and
  • Investment decisions in overseas operations can be taken with better clarity as it would be possible to project future tax liabilities.

Knowing Indian taxmen’s mindset, how such hilarious assumptions are made is anyone’s guess. This is a land of retrospective amendments. This is a land where the theory “Management by convenience” operates with full gusto. This is a land where ethics and tax laws have no connection whatsoever.

Pessimistic as it may sound, the APA regime may not bring the benefits they are anticipated to for several reasons:

  • In India, tax department always has a penchant to be reactive and never pro-active;
  • Even if there will not be a case to deny, the Revenue would at least delay so much that the word ‘advance’ would have no meaning by the time an APA is agreed upon.
  • Most of the business entities keep undergoing changes in their structures/ methods/ products etc. and the technological changes would also force them to keep evolving. Under any slight pretext, even a pre-determined APA would be rendered useless by the Revenue, making the initial investments go waste.

Then, why bring an APA regime? As mentioned earlier, possibly because of OECD’s tacit pressures and perhaps to seize the opportunity to proclaim to the world that we are coming to international standards. There could be another reason, which is actually a combination of two important factors viz., lack of officials having necessary expertise in Revenue department to do TP assessments and the ‘negotiating’ possibility that APA regime offers. And the multinational accounting firms who have the major slice in the TP practice would always prefer a ‘negotiating environment’ than a litigating environment, because they know they fare better in the former. (Even a 3-month old infant would know what ‘negotiation’ could mean especially with taxmen!).

APA, at best, is a procedural innovation in international taxation, the practical use of it may at best accrue to the multinational accounting firms only. Perhaps that was the idea and the agenda.

PS Prabhakar

(Chennai based Chartered Accountant)

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Many articles have appeared in magazines, newspapers, websites etc – with some of them being verbatim copies of others, though bearing different credits.

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