The Finance Bill, 2011 (“Bill”) has introduced certain changes in the existing transfer pricing (“TP”) regime both in terms of substantive law and procedural aspects. Further, as part of a new anti-avoidance measure introduced in the Budget, the scope of TP legislation has been expanded to cover entities located in notified tax havens. A brief discussion of the proposed changes is provided here:
Change in computation of arm’s length range
Presently, the arm’s length range is based on a uniform tolerance limit of 5% around the transfer price. However, the Government has acknowledged that a blanket tolerance range of 5% across all business activities and transactions may not be the most flexible measure in present day scenario. Thus, the Bill has reformed this norm whereby the Government will now notify an allowable variation for different business activities and types of transactions. This amendment is effective from 1 April, 2012 i.e. assessment year 2012-13 relevant to financial year 2011-12.
Our Comments
The usage of arithmetic mean and +/-5% variation in India has been criticised by the Global TP fraternity for quite a while. There have been several representations at various forums for persuading the Government to adopt statistical measures like median and inter-quartile range as is prevalent in matured TP regimes globally and also advocated by the Organisation for Economic Cooperation and Development (“OECD”).
In this context, the move towards an activity specific flexible tolerance range may be considered to be a positive initiative by the Government. However, the efficacy of this approach in resolving TP disputes would only be evident once the range is actually specified along with underlying economic and statistical rationale. There would be a high expectation of a more pragmatic approach on part of the policy makers while framing such flexible variation limits. At the time, one could have expected introduction of global best practices like use of median and inter-quartile range in place of a variation based approach for computing arm’s length range.
Expanded powers of transfer pricing officer (“TPO”)
The Bill provides that the TPO may determine the arm’s length price for any international transaction identified by him even if the same has not been expressly referred to him by the Assessing Officer. Further, the TPO would now have powers to conduct a survey for enquiry and verification as provided under 133A of the Income-tax Act, 1961 (“the Act”). These amendments would be effective from 1 June, 2011 and being in the nature of procedural change should ideally apply to any assessment proceedings pending as on that date.
Our Comments
In recent times, there has been increasing number of TP assessments where the TPOs have made suo motu adjustments on the basis of their own discernment of transactions which have been agitated by taxpayers on technical grounds before appellate authorities. In one such recent case of Amadeus India Pvt. Ltd. [2ou-TII-22-ITAT-DEL-TP], the Tax Tribunal has taken a restrictive view and held that the powers of the TPO are confined only to transactions referred to him by the assessing officer and not beyond.
The Bill has made it clear that the Government intends to remove any procedural lacuna to limit the powers of the TPO to conduct a full fledged audit. Hence, under the amended provisions of law, the TPO will have wider powers to scrutinise the entire set of intra-group dealings of a taxpayer which comes under his scrutiny.
The TPOs can now also exercise powers of survey under section 133A of the Act which may be a potent tool in hands of the TPO to gather and use data otherwise not accessible to the taxpayer. One may also expect more aggressive action on the part of TPOs based on information collected in course of surveys. Such amendments indicate the growing focus on TP audits and enforcement on part the Government.
Additional time for TP compliance
In order to ensure that taxpayers having TP impact gets adequate time to prepare documentation using latest available data, the due date of filing of tax return and accountant’s report has been proposed to be extended by an additional 2 months to 3o November. This amendment would be effective from assessment year 2011-12, relevant to financial year 2010-11.
Our Comments
There has been a longstanding practice of the TPOs to disregard the benchmarking studies conducted by the taxpayer using multiple year data and to conduct a fresh comparability analysis during the course of the TP assessment using single year data of the relevant financial year. This has been a point of dispute and various representations have been made before the Government to change the strict data usage norms provided in the current legislation and make it more flexible. While proposing this amendment, the Government has recognised the fact that such single year data is virtually absent at the time of filing of return (i.e. 3o September) and hence extended the filing deadline by two months.
In this regard, the larger question remains whether such single year data, meeting sufficient quantity and quality norms for preparing representative comparable benchmarking sets, would be available even by 3o November, which if not so, would imply that the amendment might not have real practical value to taxpayers. A better and more practical alternative would have been to allow the use of multiple year data available within the present due date of filing of tax return. This would have been in line with global best practices. Use of multiple year data is required both for improving of the quality of comparable analysis, as professed by the OECD; and also for necessary compliance of the TP rules of India.
TP impact for transactions with notified tax havens
As a part of the range of anti-avoidance measures introduced in the Bill, an entity located in a notified tax haven will be now deemed to be an associated enterprise. Consequently, any transaction with such an entity would have to pass the arm’s length test and all other compliance requirements need to be followed. These amendments would be effective from 1 June, 2011.
Our comments:
It is noteworthy that stronger enforcement of TP issues has been noted by the Finance Minister as one of the strategy measures to deal with the problem of generation and circulation of black money.
Accordingly, the scope of TP provisions has been expanded to include transactions with entities based in notified tax havens. In view of these changes, taxpayers would need to assess any potential TP impact arising from transactions with entities in notified tax havens, even if they are not related parties.
These amendments have been made effective from 1 June, 2011; however, being a substantive change in law, ideally the new norms should be applicable from the assessment year commencing after such date, i.e. assessment year 2012-13, relevant to financial year 2011-12. A clarification in this regard would be welcome.
Conclusion
The Direct Taxes Code is proposed to be introduced from financial year 2012-13, so major amendments in tax laws was not expected in this year’s Budget. However, the changes proposed in the Bill in relation to TP indicates that the Government is taking serious steps to expand the ambit of Indian TP regime and to provide wider powers in hands of TPOs for stronger enforcement. Taxpayers should take steps to ensure that their group TP policies and intra-group transactions are well defended and documented to sail through the evolving TP regime in India.
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