1. Domestic Transfer Pricing
CPE Seminar on
Domestic Transfer Pricing
ICAI- Trichur
22nd June 2013
CA P.V.S.S Prasad

2. Domestic transactions - Transfer Pricing
Inspired by – Apex court ruling – Glaxo Smithkline (2010) 195 Taxman 35 (SC):
we are of the view that certain provisions of the Act, like section 40A(2) and section 80-IA(10), need to be amended empowering the Assessing Officer to make adjustments to the income declared by the assessee having regard to the fair market value of the transactions between the related parties. The Assessing Officer may thereafter apply any of the generally accepted methods of determination of arm’s length price, including the methods provided under Transfer Pricing Regulations. However, in a number of matters, we find that, many a times, the Assessing Officer is constrained by non-maintenance of relevant documents by the taxpayers as, currently, there is no specific requirement for maintenance of documents or getting specific transfer pricing audit done by the taxpayers in respect of domestic transactions between the related parties. The suggestions which need consideration are whether the law should be amended to make it compulsory for the taxpayer to maintain books of account and other documents on the lines prescribed under rule 10D of the Income-tax Rules in respect of such domestic transactions and whether the taxpayer should obtain an audit report from his Chartered Accountant so that the taxpayer maintains proper documents and requisite books of account reflecting the transactions between related entities as at arm’s length price based on generally accepted methods specified under the Transfer Pricing Regulations”

3. Domestic transactions - Transfer Pricing
May lead to economic double taxation
Inline with some tax jurisdictions like Australia,
Thailand , Denmark etc.,
Increase in compliance burden

4. Domestic transactions -Transfer Pricing
New sub.sec (2A) to sec.92
“(2A) Any allowance for an expenditure or interest or allocation of
any cost or expense or any income in relation to the specified
domestic transaction shall be computed having regard to the
arm’s length price.” w.e.f 1st Apr ‘13
Specified domestic transaction means
“92BA. For the purposes of this section and sections 92, 92C, 92D
and 92E, “specified domestic transaction” in case of an assessee
means any of the following transactions, not being an
international transaction, namely:—

5. Domestic transactions-Transfer Pricing
Specified domestic transaction means :
(i) any expenditure in respect of which payment has been made or is to be made to a person referred to in clause (b) of sub- section (2) of section 40A;
(ii) any transaction referred to in section 80A;
(iii) any transfer of goods or services referred to in sub-section (8) of section 80-IA;
(iv) any business transacted between the assessee and other person as referred to in sub-section (10) of section 80-IA;

6. Domestic transactions-Transfer Pricing
Specified domestic transaction means :
(v) any transaction, referred to in any other section under Chapter VI-A or section 10AA, to which provisions of sub-section (8) or sub-section (10) of section 80-IA are applicable; or
(vi) any other transaction as may be prescribed,
and where the aggregate of such transactions entered into by the
assessee in the previous year exceeds a sum of five crore rupees.” -
w.e.f. 1st Apr 2013

7. Domestic transactions -Transfer Pricing
S.10AA
S.40A(2)(b) – FMV vs. ALP
S.80A - Scope of deductions & FMV for inter business
transfers
S.80IA (8) – Eligible business Vs. Other business
S. 80IA (10) - Eligible assessee Vs. Other person
S.80IAB(3), 80IB(13),80IC (7), 80ID (5), 80IE (6)

8. Domestic transactions-Transfer Pricing
S.92C – computation of ALP – methodologies- also
apply to Spec. dom. transactions
S.92CA (1)(2)&(3)- reference , service of notice & order
to be made by TPO
S.92D – documentation – maintenance & production
S.92E – report from an accountant – may be a new form

9. Domestic transactions -Transfer Pricing
Corresponding Amendments :
S. 40A(2) – Proviso inserted to provide for ALP in cl(a) :
“ Provided that no disallowance, on account of any expenditure
being excessive or unreasonable having regard to the fair market
value, shall be made in respect of a specified domestic transaction
referred to in S.92BA, if such transaction is at arm’s length price as
defined in cl.(ii) of S.92F”
- FMV different from ALP?
In cl.(b) (iv) , after the words “ or any relative of such director,
partner or member” , the words “or any other company carrying on
business or profession in which the first mentioned company has
substantial interest” shall be inserted.

10. Domestic transactions -Transfer Pricing
Corresponding Amendments :
S. 80A – Cl (iii) to Explanation inserted :
“in relation to any goods or services sold, supplied or acquired
means the arm’s length price as defined in cl.(ii) of S.92F of such
goods or services, if it is a specified domestic transaction referred to
in S.92BA”
is ALP synonymous with Market value ?
S. 80-IA – Explanation substituted in Ss(8) :
Market Value , in relation to any goods or services means –
the price that such goods or services would ordinarily fetch in the open market: or
the arm’s length price as defined in cl(ii) of S.92F, where the transfer of such goods or services is a specified domestic transaction referred to in S.92BA

11. Domestic transactions -Transfer Pricing
Corresponding Amendments :
In S.80 IA(10) - Proviso inserted :
“Provided that in case the aforesaid arrangement involves a specified transaction referred to in S.92BA, the amount of profits from such transaction shall be determined having regard to arm’s length price as defined in clause (ii) of S. 92F”
not clear whether ALP and FMV are the same .

12. Relationship can exists any time during the year
Sec 40A (2)(b) – Related Party
Relationship can exists any time during the year
Sr.No
Payer / assessee
Payee
(i)
Individual
Any relative
[defined in sec. 2(41) to mean husband, wife, brother, sister, lineal ascendant or descendant]
* Definition of Relative u/s 56(2) not relevant
(ii)
Company
any director or relative of such director
Firm (includes LLP)
any partner or relative of such partner
AOP
any member or relative of such member
HUF
(iii)
Any Assessee
any individual having substantial interest in the assessee’s business or relative of such individual
(iv)
Any assessee
a Company, Firm, AOP, HUF having substantial
interest in the assessees business or
any director, partner, member
relative of such director, partner or member
or (newly inserted)
any other company carrying on business or profession in which the first mentioned company has substantial interest.
X Ltd. (subsidiary co)
A Ltd. (holding co)
Y Ltd. (subsidiary co)

13. Type of transactions covered (illustrations for payments made by a Company) …
Case 1 - Director or any relative of the Director of the taxpayer – Section 40A(2)(b)(ii)
Case 2 - To an individual who has substantial interest in the business or profession of the taxpayer or relative of such individual – Section 40A(2)(b)(iii)
Assessee (Taxpayer)
Assessee (Taxpayer)
Director
Director
Substantial interest >20%
Relative
Mr. A
Mr. D
Mr. C
Mr. A
Mr. D
Mr. C
Relative
Relative
Covered transactions
Holding Structure

14. Type of transactions covered (illustrations for payments made by a Company) …
Case 3 – To a Company having substantial interest in the business of the taxpayer or any director of such company or relative of the director – Section 40A(2)(b)(iv)
Case 4 – Any other company carrying on business in which the first mentioned company has substantial interest – Section 40A(2)(b)(iv)
Mr. D
Assessee (Taxpayer)
C Ltd
Director
Substantial interest >20%
Assessee (Taxpayer)
A Ltd
Relative
Substantial interest >20%
Substantial interest >20%
Mr. C
Substantial interest >20%
A Ltd
B Ltd
Covered transactions
Holding Structure

15. Type of transactions covered (illustrations for payments made by a Company) …
Case 5 – To a Company of which a director has a substantial interest in the business of the taxpayer or any director of such company or relative of the director – Section 40A(2)(b)(v)
B Ltd
Director
Director
Substantial interest >20%
Assessee (Taxpayer)
Mr. A
Mr. C
Relative
Mr. D
Covered transactions
Holding Structure

16. Type of transactions covered (illustrations for payments made by a Company)…
Case 6 – To a Company in which the taxpayer has substantial interest in the business of the company – Section 40A(2)(b)(vi)(B)
Case 7 – Any director or relative of the director of taxpayer having substantial interest in that person– Section 40A(2)(b)(vi)(B)
Assessee (Taxpayer)
Substantial interest >20%
A Ltd
Mr C
Director
Substantial interest >20%
Assessee (Taxpayer)
Relative
B Ltd
Substantial interest >20%
D Ltd
Mr B
Covered transactions
Holding Structure

17. Tax burden, if transaction not at ALP
X Ltd.
(non-tax holiday)
Disallowance of ` 20 to Y Ltd
[40A(2)(b)]
Y Ltd.
Sale at ` 120 v/s ALP i.e. ` 100
X Ltd.
(tax holiday)
Y Ltd.
(non-tax holiday)
Sale at ` 120 v/s ALP i.e. ` 100
Double Adjustment
Tax holiday on ` 20 not allowed to X Ltd – [80IA(10)] (more than ordinary profits)
Disallowance of ` 20 to Y Ltd -
[40A(2)(b)]
X Ltd.
(tax holiday)
Y Ltd.
(non-tax holiday)
Sale at ` 80 v/s ALP i.e. ` 100
Inefficient pricing structure – reduced tax holiday benefit since sale price is lower than ALP

18. Section 80IA (8) & 80IA (10) – Deduction in respect of profits and gains from industrial undertaking or enterprise engaged in infrastructure development, etc.
80IA (8)
80IA (10)
Inter-unit transaction of goods or services
Business transacted with any person generates more than ordinary profits
Owing to either close connection or any other reason
Applicable where transfer is not at market value
Applicable to tax holiday units earning more than ordinary profit
Onus on tax payer
Primary onus on taxpayer
Onus on tax authorities as well
No guidance on the meaning of close connection
To align ordinary profits with arm’s length price. For example:
OP/ TC of 30% considered to be at arm’s length by the TPO
Under 801A(10) the AO states that the profits are more than ordinary
Solution: Defend price or evaluate alternate methods (other then profit based)
Impact of non-charging of services/ costs to tax holiday undertaking
ALP of 5 comparable companies OP/TC
Mark-up of the tax holiday entity OP/TC
Arithmetic mean = 15%
30%

19. Tax holiday undertaking
International TP Vs. Tax holiday profits
Sec 10A(7) / 10B (7)
Case laws - Visual Graphics Computing Services (India) Pvt. Ltd vs ACIT 2012) 52 SOT 172 (URO), Weston Knowledge Systems & Solutions (India) Pvt. Ltd. vs ITO (2012) 52 SOT 120 (Hyd)(URO)
AO has no authority to reduce tax holiday claim once approved by TPO
Whether same approach is possible when domestic TP is targeted in computing ordinary profits.
Domestic TP supports the approach of AO in restricting ordinary profits?

20. Cost allocation Whether corporate group expenses to be allocated?
Courts held that it need not be allocated
Case laws - Wipro Information Technology vs DCIT (2004) 88 TTJ(Bang) 778 ; Zandu Pharmaceuticals Works Ltd, vs CIT (2013) 213 Taxman Ponds India Ltd (ITA NO. 2047/Mad/88)
Whether every cost allocation should have a mark up?

21. Transfer Pricing Process
TP Assessment
Identification of
Intra Group
Transactions
Return Filing
FAR Analysis
Documentation
Identification of
Comparable
Transactions
Adjustments
Establishing
Comparability,
Adjustment for
Material Differences
Selection of
Most
Appropriate
Method
Determination of
A L P 21

22. Arm’s length price S. 92 F (ii)
“arm’s length price” means a price which is applied or proposed to be applied in a transaction between persons other than associated enterprises, in uncontrolled conditions” 22

23. Traditional transaction methods Transactional profit methods
Comparable Uncontrolled Price Method (CUP)
Resale price method (RPM)
Cost plus method (CPM)
Transactional profit methods
Profits split method (PSM)
Transactional net margin method (TNMM)
Other method 23

24. “Other Method” for determination of ALP
New Rule 10AB inserted vide Notification
No.18/2012 dated
Refers to “price which has been charged or
paid, or would have been charged or paid, for
the same or similar uncontrolled transaction,
with or between non-associated enterprises,
under similar circumstances, considering all
the relevant facts” 24

25. “Other Method” for determination of ALP
New Rule 10AB inserted vide Notification
No.18/2012 dated
Refers to “price which has been charged or
paid, or would have been charged or paid, for
the same or similar uncontrolled transaction,
with or between non-associated enterprises,
under similar circumstances, considering all
the relevant facts” 25

26. Objectives – Specified Domestic Transactions (SDT)
When profit getting shifted from profit making unit to a loss making unit ;
Profit shift from taxable unit to tax free unit ;
SDT is not meant to cover revenue neutral
transactions- lest it would result in economic
double taxation

27. Domestic transactions -Transfer Pricing
S.92CA (2A) , (2B) & (2C) apply only to international transactions and not to SDT
Non-reference and non-reporting of SDTs are not covered by new Ss (2A) & (2B)
APA mechanism proposed u/s 92CC & CD is not available for SDTs

28. Domestic transactions -Transfer Pricing
If SDTs do not cross threshold INR 5 Crores, TP Documentation & Reporting not applicable ; however, original requirement to comply with market value concept of u/s 40A(2)(b) / 10AA/ 80A/ 80IA (8) & (10) still continues.
◊ then how is it a safe harbor?

29. Domestic transactions -Transfer Pricing
Typical SDTs:
Rent payments
Intra- group transactions
Financial transactions
Managerial remuneration etc
Corporate guarantee
Equity contributions
Reimbursement of expenses
Commission paid and discount allowed

30. Domestic transactions -Transfer Pricing
Expenditure incurred by a resident against non-resident – though not covered as AE , as ownership and control being less than 26% voting, but may be covered as SDT if voting power is ≥20%

31. Domestic transactions -Transfer Pricing
AE Vs Related Party creates dichotomy
Circular 6-P dated 6th July 1968 provides – no disallowance- where there is no attempt to evade taxes
SDT covers only assessee spending u/s
40A(2)(b) and will not cover entity receiving payments

32. Domestic transactions -Transfer Pricing
OECD TP guidelines apply to SDTs?
Benefit of range available to SDTs
TP adjustments for SDTs result in double
taxation – in revenue neutral cases – hence corresponding adjustments warranted

33. Documentation
Rule 10D is amended to cover SDTs – sub rule (2) applies only to international transactions
Need based documentation good enough even for SDTs
Should be contemporaneous and be in place by specified date
Initial burden lies with the assessee 33

34. Section 271 –Penalty Implications
Sr.
No.
Type of penalty
Section
Penalty quantified 1
a) Failure to maintain
prescribed information/
documents
271AA
2% of transaction value
(b) Failure to report any such
transaction or
(c) Furnish incorrect
information 2
Failure to furnish information/
documents during assessment
u/s 92D
271G 3
Adjustment to taxpayer’s
income during assessment
271(1)(c)
100% to 300% of tax on
adjustment amount 4
Failure to furnish accountant’s
report u/s 92E
271BA
INR 100,000

35. Issues
Whether payment for capital expenditure Or expenditure capitalized is also covered ?
Whether the provisions will apply in case the payer’s income is chargeable to tax under the head ‘Income from other sources’, because section 58(2) says –The provisions of section 40A shall, so far as may be, apply in computing the income chargeable under the head “Income from other sources” as they apply in computing the income chargeable under the head “Profits and gains of business or profession” ?
Whether new provision applies to -
Public Charitable Trust paying remuneration to related persons.
Co-operative Societies
Social Clubs
having a business undertaking

36. Issues
Transfer pricing provisions are not applicable in case where income is not chargeable to tax at all.
Correlative adjustments - if excessive or unreasonable expenses are disallowed in the hands of tax payer at time of the assessment then corresponding adjustment to the income of the recipient will not be allowed in the hands of recipient of income. Hence, it would lead to double taxation in India.

37. Type of payments/ transactions
Challenges
Type of payments/ transactions
Challenges
Salary and Bonuses paid to the partners
Remuneration paid to the Directors
Transfer of land
Joint Development agreements
Project management fees
Allocation of expenses between the same taxpayer having an eligible unit and non-eligible unit
Definition of Related Party
Benchmarking?
Whether the limit as mentioned in section 40 (b) would be the ALP?
Whether the limit as mentioned in Schedule XIII would be the ALP?
Whether the rates mentioned in the ready reckoner be considered as ALP?
Whether these allocation would be SDT – Sec 80-IA(10)?
Directly v/s Indirectly

38. New Rules & Forms
Form 3 CEB enlarged – Part C inserted with respect to details of specified domestic transactions.
Rule 10A – Expands AE definition when Sec.92A(1) & (2) doesn’t do so.

39. Action Awaited Clarifications in line with old circular 6-P (supra)
Revenue neutral transactions – avoidance of double taxation – critical

40. Thank You pvsatya.prasad@gmail.com