Issue/Justification
(I) The Finance Act, 2017 introduced the concept of secondary adjustment on Transfer Pricing (TP) adjustments. A taxpayer is required to make a secondary adjustment, where the primary adjustment to transfer price has been made in the following situations:-
- Suo moto by the taxpayer in the return of income;
- By the AO during assessment proceedings, and has been accepted by the taxpayer;
- Adjustment determined by an Advance Pricing Agreement (APA) entered into by the taxpayer;
- Adjustment made as per the safe harbour rules under section 92CB; or
- Adjustment arising as a result of resolution of an assessment by way of the mutual agreement procedure (MAP) under an agreement entered into under section 90 or section 90A for avoidance of double taxation.
Further, the section 92CE(3)(v) defines ‘Secondary adjustment’ as an adjustment in the books of account of the assessee and its associated enterprise to reflect that the actual allocation of profits between the assessee and its associated enterprise are consistent with the transfer price determined as a result of primary adjustment, thereby removing the imbalance between cash account and actual profit of the assessee.
The additional amount receivable from the AE as a result of the primary adjustment should be repatriated by the taxpayer into India within a prescribed time limit. If the same is not received by the taxpayer within the time-limit, then the primary adjustment will be deemed as an advance extended to the overseas AE and a secondary adjustment in the form of notional interest on the outstanding amount should also be offered to tax as an income of the taxpayer.
The above requirements for repatriating the adjustment amount into India and imputing a notional interest are triggered if the TP or primary adjustment exceeds rupees one crore. The manner of computation of interest on the amount deemed as advance made by the taxpayer to the AE would be prescribed.
The situation of excess payment treated as loan given to AE on which notional interest in computed and added to the income of the assessee till the excess amount is repatriated by AE.
It would be difficult for AE to repatriate the money to India on account of secondary adjustment as the income-tax laws and any other relevant laws pertaining to such country may not allow to repatriate money. Further the AE would have paid tax on such amount in its home country. This would lead to double taxation. This would lead to double taxation.
Further, the same cannot be treated as advance in the books of account maintained in India as the books of account are prepared as per the provisions of Companies Act, 2013 read with Indian Accounting Standards.
(i) Sub-section (1) of the proposed section 92CE provides for secondary adjustments to be made in respect of primary adjustments in certain situations. The phrase “secondary adjustment” has been defined in Clause (v) of Sub-section (3) to mean an adjustment in the books of account of the assesse and its associated enterprise to reflect that the actual allocation of profits between the assessee and its associated enterprise are consistent with the transfer price as determined as a result of primary adjustment, thereby removing the imbalance between cash account and actual profit of the assessee. Sub-section (2) lays down the requirement for excess monies to be repatriated to India and for interest to be levied thereon, if not repatriated within the prescribed time. However, Sub-section (2) does not refer to ‘secondary adjustment’ as envisaged under Sub-section (1) and defined in Clause (v) of Sub-section (3). The absence of references to Subsection (1) and/or ‘secondary adjustment’ in Sub-section (2) results in an apparent disconnect between Sub-sections (1) and (2) which may have unintended consequences.
(II) In respect of Unilateral APAs that have been entered till date, there was no provision relating to secondary adjustments in the statute. As a result, APAs have been concluded wherein terms that are not consistent with the Section 92CE have been imposed on taxpayers. In view of a specific provision having been introduced, taxpayers should be entitled to follow the mandate of Section 92CE in respect of APAs signed till date.
(III) For better clarity and in order to avoid any confusion regarding the assessment year from which the secondary adjustment provisions would be applicable, it may be clarified that the section will be applicable from AY 2018-19, in relation to primary adjustments for fiscal years 2016-17 and thereafter.
(IV) Clause (ii) to sub-section (1) of the section 92CE provides that a taxpayer is required to make a secondary adjustment where primary adjustment to transfer price has been made by the AO during assessment proceedings, and has been accepted by the taxpayer. There is lack of clarity on what exactly the term ‘has been accepted by the taxpayer’ means.
(V) Since adjustments are made subsequently when returns are taken up for scrutiny, any requirement to make secondary adjustment would depend upon whether the Associated Enterprise is willing to accept the secondary adjustments to be made in its books abroad. Non-acceptance of the same will lead to inter-company issues during consolidation. It could also require restatement of financial statements of an Indian entity if adjustments are material. This in turn might lead to filing of revised returns. Implication on shareholders value and lenders agreement (where there are borrowings) would need to be evaluated besides implications under the Companies Act, 2013. Further, FEMA requires money to be remitted within 6 months from the end of the accounting year. Also, if the Associated Enterprise (AE) located abroad does not pass entries in the books, inter-company adjustments/eliminations could be a challenge if the AE is a holding company.
(VI) The proviso to the section 92CE(1) states that nothing contained in this section shall apply, if;-
(i) the amount of primary adjustment made in any previous year does not exceed one crore rupees; and
(ii) the primary adjustment is made in respect of an assessment year commencing on or before the 1st day of April, 2016.
From a bare reading of the section, it appears that both conditions i.e. primary adjustment made before 1.4.2016 and it being less than 1 crore need to be complied, because the word “AND” is written between two conditions. It ought to be “OR”. Else, in future years, there will be no threshold limit for secondary adjustment.
(VII) Applicability of section 92CE has to be restricted only to cases satisfying the base erosion test. The provisions, as presently worded, may give rise to an interpretation that even where the primary adjustment is made in the hands of non-resident, secondary adjustment follows. As a consequence, it may be interpreted as allowing repatriation of funds outside India, which may not be permitted even in terms of FEMA/ RBI regulations.
(VIII) Section 92CE provides for secondary adjustment in case where excess money (difference between transaction price and arm’s length price), which remains outside India, due to the primary adjustment under TP is not repatriated to India.
Taxable funds may remain outside India only in case where a foreign party is involved. In other words, there may be possible base erosion only in case where one of the parties to the transaction is foreign AE. A transaction between two domestic entities, will not lead to profits allocable to India, remaining outside India.
(IX) Section 92CE deems the difference between the transaction price and arm’s length price as an advance (which is to be recorded in the books) and provides for imputation of interest on such advances.
However, there is no specific provision to reverse the advances appearing in the books even in case where the AE relationship ceases to exist or in case where the excess money is repatriated.
Suggestion
(I) Sub-sections (1), (2) and (3) need to be revisited to streamline and appropriately link up the three sub-sections to provide adequate clarity as to the specific requirements from the taxpayers on this front.
(II) A specific clarification should be issued under the APA Rules as well as in Section 92CE that the consequences for a delay in bringing money into India pursuant to a unilateral APA would be only under Section 92CE(2) and the APA would not be disqualified merely on this account.
(III) The Government may issue a clarification that section 92CE will be applicable from A.Y.2018-19, in relation to primary adjustments for fiscal years 2016-17 and thereafter.
(IV) Government should clarify the term ‘has been accepted by the taxpayer’ in order to provide
certainty on the applicability of these provisions in such situations. For e.g. if the taxpayer is in appeal against the assessment order to Tribunal, in such cases, will secondary adjustment provisions be applicable only after the Tribunal proceedings are completed or the same will be applicable after Court proceedings are completed i.e. if the taxpayer further appeals to High Court/ Supreme Court.
(V) The said issues may be considered and appropriate remedial measures may be incorporated to avoid genuine hardship.
(VI) It is suggested that the proviso may be restated as under:
(i) the amount of primary adjustment made in any previous year does not exceed one crore rupees; and OR
(ii) the primary adjustment is made in respect of an assessment year commencing on or before the 1st day of April, 2016.
(VII) In order to remove this anomaly it is recommended that section 92CE(2) be amended to clarify that the section applies only in case where the primary adjustment is made in the hands of the Indian AE.
(VIII) In order to avoid any unwarranted litigation, it may be clarified that section 92CE applies only to international transaction and not domestic transactions as covered under section
92BA.
(IX) It may be specifically provided that the advances appearing in the books of the parties be reversed in following cases where AE relationship ceases to exist or excess money is repatriated.
