Overview of Transfer Pricing law

29 December 2021

Raghav Kumar Bajaj (Principal Associate) and Ujjval Gangwal (Senior Associate)
Attorney-Client Privileged Communication
Agenda
 Brief overview
 What is Transfer Pricing?
 Transfer Pricing landscape over the last two decades

 Key definitions in Transfer Pricing law

 Associated Enterprises
 International transactions
 Specified Domestic Transactions

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Agenda
 Brief overview
 What is Transfer Pricing?
 Transfer Pricing landscape over the last two decades

 Key definitions in Transfer Pricing law

 Associated Enterprises
 International transactions
 Specified Domestic Transactions

 Most appropriate method

 Factors in determination of ‘most appropriate method’
 Manner of application of different methods

 Transfer Pricing Study Report

 FAR Analysis
 Economic Analysis
 Transfer Pricing compliances

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Agenda
 Brief overview  New concepts in Transfer Pricing Law
 What is Transfer Pricing?  Secondary Adjustment
 Transfer Pricing landscape over the last two decades  Limitation on interest deduction (Thin Capitalization Rules)

 Key definitions in Transfer Pricing law  Alternate dispute resolution mechanisms

 Associated Enterprises
 Dispute Resolution Panel
 International transactions
 Safe Harbour Rules
 Specified Domestic Transactions
 Advance Pricing Agreements

 Most appropriate method

 Factors in determination of ‘most appropriate method’
 Manner of application of different methods

 Transfer Pricing Study Report

 FAR Analysis
 Economic Analysis
 Transfer Pricing compliances

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 Brief overview

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What is Transfer Pricing?

 “Transfer pricing” generally refers to prices of transactions between associated enterprises which may take place under conditions
differing from those taking place between independent enterprises. It refers to the value attached to transfers of goods, services and
technology between related entities. It also refers to the value attached to transfers between unrelated parties which are controlled by a
common entity
 Illustration- Suppose a company A purchases goods for INR 100 and sells it to its associated company B in another country for INR 200,
who in turn sells in the open market for INR 400. Had A sold it direct, it would have made a profit of INR 300. But by routing it through B, it
restricted it to INR 100, permitting B to appropriate the balance. The transaction between A and B is arranged and not governed by market
forces. The profit of INR 200 is, thereby, shifted to the country of B. The goods is transferred on a price (transfer price) which is
arbitrary or dictated (INR 200), but not on the market price (INR 400)

OECD TP Guidelines define ‘Transfer Pricing’ as prices at which

an enterprise transfers physical goods and intangible property
or provides services to an associated enterprise

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 Transfer Pricing Landscape over the last two decades

Master file +
DRP mechanism Safe harbor rules CbCR

2001 2009 2012 2013 2014 2016 2017

TP introduced Definition of international Multi year data and Secondary adjustment+

transaction expanded + range concept Interest limitation
Domestic TP
+ Advance pricing agreement

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 Transfer Pricing law

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Applicability of Transfer Pricing provisions

 Section 92(1): Any Income/ allowance for any expense or interest arising from an international transaction shall be computed having
regard to the arm’s length price

Associated Enterprise

International Transactions
 Goods
‘Transfer  Services
Price’  Intangibles
 Loans

Resident

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Applicability of Transfer Pricing provisions

 Section 92(1): Any Income/ allowance for any expense or interest arising from an international transaction shall be computed having
regard to the arm’s length price

Associated Enterprise Independent Entity

International Transactions
 Goods Arm’s
‘Transfer  Services
Price’ Length
 Intangibles Price
 Loans

Resident Resident

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Section 92A(1): Meaning of Associated Enterprises (Participation Test)

 Direct or indirect participation (through one or more intermediaries) in management control or capital

Common Control, All three are AEs

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Section 92A(1): Meaning of Associated Enterprises (Participation Test)

 Direct or indirect participation (through one or more intermediaries) in management control or capital

A
A

B B D

C C E

Common Control, All three are AEs D and E are also associated enterprises of C as they share a common
ultimate parent ‘A’

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Section 92A(2): Deemed Associated Enterprises (Objective Test)

Holding/Capital Management Activities Control

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Section 92A(2): Deemed Associated Enterprises (Objective Test)

Holding/Capital Management Activities Control

1. >= 26% direct/indirect holding
by enterprise
2. >= 26% direct/indirect holding
by same person in each
enterprise
3. Loan >=51% of book value of
total assets
4. Guarantees >=10% of total
debt/borrowings
5. >=10% interest in firm/AOP/BOI

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Section 92A(2): Deemed Associated Enterprises (Objective Test)

Holding/Capital Management Activities Control

1. >= 26% direct/indirect holding 6. Appointment of > 50% of
by enterprise Directors/ one or more
2. >= 26% direct/indirect holding Executive Director by an
by same person in each Enterprise
enterprise 7. Appointment of > 50% of
3. Loan >=51% of book value of Directors/ one or more
total assets Executive Director by same
person in each enterprise
4. Guarantees >=10% of total
debt/borrowings
5. >=10% interest in firm/AOP/BOI

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Section 92A(2): Deemed Associated Enterprises (Objective Test)

Holding/Capital Management Activities Control

1. >= 26% direct/indirect holding 6. Appointment of > 50% of 8. 100% dependence on use of
by enterprise Directors/ one or more intangibles for manufacture/
2. >= 26% direct/indirect holding Executive Director by an processing/ business
by same person in each Enterprise 9. Direct/indirect supply of >=90%
enterprise 7. Appointment of > 50% of raw materials under influenced
3. Loan >=51% of book value of Directors/ one or more prices and conditions
total assets Executive Director by same 10. Sale under influenced prices and
person in each enterprise conditions
4. Guarantees >=10% of total
debt/borrowings
5. >=10% interest in firm/AOP/BOI

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Section 92A(2): Deemed Associated Enterprises (Objective Test)

Holding/Capital Management Activities Control

1. >= 26% direct/indirect holding 6. Appointment of > 50% of 8. 100% dependence on use of 11. One enterprise controlled by an
by enterprise Directors/ one or more intangibles for manufacture/ individual and the other by
2. >= 26% direct/indirect holding Executive Director by an processing/ business himself or his relative or jointly
by same person in each Enterprise 9. Direct/indirect supply of >=90% 12. One enterprise controlled by
enterprise 7. Appointment of > 50% of raw materials under influenced HUF and the other by
3. Loan >=51% of book value of Directors/ one or more prices and conditions  A member of HUF
total assets Executive Director by same 10. Sale under influenced prices and  His relative or
person in each enterprise conditions
4. Guarantees >=10% of total  Jointly by member and
debt/borrowings relative
5. >=10% interest in firm/AOP/BOI

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Section 92A(2): Deemed Associated Enterprises (Objective Test)

 Relevant extract of Form 3CEB

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Section 92B: International Transaction

 Transaction between two or more Associated Enterprises

 Either or both of whom are non-residents
 Definition of transaction as defined in section 92F(v)
o Transaction includes an arrangement, understanding or action in concert-
(A) Whether or not it is Formal or in writing; or
(B) Whether or not it is intended to be enforceable by legal proceeding

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Section 92B: Different categories of International Transactions

Tangible Property Intangible Property Capital Financing Provision of Services Business Restructuring

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Section 92B: Different categories of International Transactions

Tangible Property Intangible Property Capital Financing Provision of Services Business Restructuring

 Purchase, sale, transfer,

lease/use of
property/article/produc
t/thing

 Includes building, vehicle,

machinery and so on.

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Section 92B: Different categories of International Transactions

Tangible Property Intangible Property Capital Financing Provision of Services Business Restructuring

 Purchase, sale, transfer,  Purchase, sale, transfer,

lease/use of lease/use of intellectual
property/article/produc property rights
t/thing
 Includes Transfer of
 Includes building, vehicle, ownership/ use of
machinery and so on. rights/ other
commercial rights.

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Section 92B: Different categories of International Transactions

Tangible Property Intangible Property Capital Financing Provision of Services Business Restructuring

 Purchase, sale, transfer,  Purchase, sale, transfer,  Long/short term

lease/use of lease/use of intellectual borrowing/lending
property/article/produc property rights
t/thing  Guarantee
 Includes Transfer of
 Includes building, vehicle, ownership/ use of  Purchase/Sale of
machinery and so on. rights/ other marketable securities
commercial rights.
 Advance/receivable,
payments/any debt

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Section 92B: Different categories of International Transactions

Tangible Property Intangible Property Capital Financing Provision of Services Business Restructuring

 Purchase, sale, transfer,  Purchase, sale, transfer,  Long/short term  Market Research/
lease/use of lease/use of intellectual borrowing/lending Development
property/article/produc property rights
t/thing  Guarantee  Technical Service
 Includes Transfer of
 Includes building, vehicle, ownership/ use of  Purchase/Sale of  Scientific Research
machinery and so on. rights/ other marketable securities
commercial rights.  Legal/Accounting
 Advance/receivable, Service, etc.
payments/any debt

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Section 92B: Different categories of International Transactions

Tangible Property Intangible Property Capital Financing Provision of Services Business Restructuring

 Purchase, sale, transfer,  Purchase, sale, transfer,  Long/short term  Market Research/  Transaction of business
lease/use of lease/use of intellectual borrowing/lending Development restructuring/
property/article/produc property rights reorganization with AE
t/thing  Guarantee  Technical Service irrespective of the fact
 Includes Transfer of that it has bearing on
 Includes building, vehicle, ownership/ use of  Purchase/Sale of  Scientific Research profit/ income/ losses
machinery and so on. rights/ other marketable securities or assets- at the time of
commercial rights.  Legal/Accounting transaction/ at any
 Advance/receivable, Service, etc. future date
payments/any debt

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Section 92B(2): Deemed International Transaction

 Any transaction with a third party (ie unrelated party) shall be deemed to be an international transaction between two associated enterprises and subject
to Indian transfer pricing regulations if:
o There exists a prior agreement between A’s AE and third party in relation to services rendered by A to the third party; or
o Terms of transaction are determined in substance by A’s AE and third party
Whether the enterprise or the associated enterprise or both of them are non-residents irrespective of whether such third party is a non resident or not

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Section 92B(2): Deemed International Transaction

 Any transaction with a third party (ie unrelated party) shall be deemed to be an international transaction between two associated enterprises and subject
to Indian transfer pricing regulations if:
o There exists a prior agreement between A’s AE and third party in relation to services rendered by A to the third party; or
o Terms of transaction are determined in substance by A’s AE and third party
Whether the enterprise or the associated enterprise or both of them are non-residents irrespective of whether such third party is a non resident or not

Existence of prior-agreement/ determination of terms of the transaction by AE and third party

A’s AE Third party

services
A
A’s transaction with the third party will be deemed to be an international transaction subject to Indian transfer pricing
provisions

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Section 92B(2): Deemed International Transaction

 Relevant extract of Form 3CEB

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Section 92BA: Scope of Domestic Transfer Pricing
92BA. “Specified Domestic Transaction” means any of the following transactions, not being an international transaction:
(i) [***] introduced by Finance Act 2012 w.e.f. from 01 April 2013 and omitted by Finance Act 2017 w.e.f. 01 April 2017
(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;
(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
(va) any business transacted between the persons referred to in sub-section (6) of section 115BAB;
(vi) Any other transaction may be prescribed,
And where the aggregate of such transactions entered into by the assessee in the previous year exceeds a sum of twenty crore
rupees.

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 Section 92C: Most appropriate method (MAM)

 Objective of Transfer Pricing Law is to ensure transaction with AEs is at ALP

 Transfer pricing provisions seek to calculate ALP of transaction with AEs
 Computation of ALP can have a lot of subjectivity
 Settled legal position that ALP determination without following any of the prescribed methods while making any transfer pricing adjustment is not tenable
 Concept of MAM

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Section 92C: Most appropriate method (MAM)

Comparable
Uncontrolled
Price Method

Resale Price
Other Method
Method

Most appropriate
method

Transactional
Cost Plus
Net Margin
Method
Method

Profit Split
Method

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Factors to be considered in selecting MAM

Class of AE and FAR

Nature and class
analysis

Availability,
Degree of
coverage and
comparability
reliability of data

Extent to which
reliable and accurate Nature, extent and
adjustments can be reliability of
made to account for assumption required
differences

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 Comparable Uncontrolled Price Method (CUP)
Internal CUP External CUP

A Ltd A Ltd Independent Co.

Sale of goods Sale of goods

Sale of goods Sale of goods

Subsidiary Co. Independent Co.

Subsidiary Co. Independent Co.

Requires strict comparability in

products, contractual terms, economic
Internal CUP preferable over external CUP due to terms, etc
high degree of comparability

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Cost Plus Method (CPM)

 Methods used in cases involving provision of services, joint facility arrangements, transfer of semi finished goods, long term buying and
selling arrangements etc
 Compares and identifies mark up earned on direct and indirect costs incurred with that of unrelated comparables
 Gross margins are compared
A Inc, USA

INR 200

Value addition activity

(INR 50)

INR 100

Third Part (RM supplier) A Ltd

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Resale Price Method (RPM)

 Method used in case of purchase of goods or services from related parties for resale to unrelated parties without substantial value
addition
 The price is reduced by the normal gross margins earned by unrelated party for same or similar products or services; and
 Need for similarity of functions performed and risks undertaken
 Gross margins are compared

AE (Manufacturer) in US

INR 80

Unrelated Third
A Ltd (Distributor)
Parties
INR
100
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Profit Split Method (PSM)

 Splitting the combined net profit of associated enterprises arising from international transaction between respective entities based on
their relative contribution to net profits
 Typical Transactions where PSM is applied:
o Interrelated, integrated transactions
PSM is contribution analysis, rather
o Transfer of unique intangibles than comparability analysis

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Transactional Net Margin Method (TNMM)
 Most preferred and practical method vis-à-vis the taxpayers
 Examines operating profit from transactions as a percentage of appropriate base (can use different bases ie cost, turnover, capital
employed etc) in respect of similar parties
 Broad level of similarity of resources employed, functions performed, and risks borne
 Operating margin of Indian company from AE to be compared with either (1) Non- AE segment; or (2) Similar enterprises in uncontrolled
transaction
Particulars AE segment Non- AE segment Total
Sales 110 100 210
Purchases 85 80 165
Other Administrative 12 10 22
Expenses
Operating Profit 13 10 23
OP/Sales (%) 11.81% 10% 10.95%

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Other Method

 With the introduction of Rule 10AB(2), it is possible to use “any method” which takes into account:
o the price which has been charged or paid, or
o would have been charged or paid for the same or similar uncontrolled transactions, either or between non- associated enterprises,
under similar circumstances, considering all the relevant facts.

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Other Method

 With the introduction of Rule 10AB(2), it is possible to use “any method” which takes into account:
o the price which has been charged or paid, or
o would have been charged or paid for the same or similar uncontrolled transactions, either or between non- associated enterprises,
under similar circumstances, considering all the relevant facts.

 Data which may be used for comparability purposes could be:

o Third party quotations
o Valuation reports
o Tender/bid documents
o Documents relating to negotiations
o Standard rate cards
o Commercial and economic business models, etc

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Accountant’s Report- Form No. 3CEB

17 to 20
Mutual
10 11 to 12 13 14 to 16
agreement/arrang 21 to 25 Domestic
Associated Tangible/Intangible Intra-group Financial
ement or business Transfer Pricing
Enterprise Property services transactions
restructuring or
others

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Accountant’s Report- Form No. 3CEB

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Accountant’s Report- Form No. 3CEB

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Accountant’s Report- Form No. 3CEB

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Accountant’s Report- Form No. 3CEB

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Accountant’s Report- Form No. 3CEB

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Accountant’s Report- Form No. 3CEB

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Accountant’s Report- Form No. 3CEB

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Accountant’s Report- Form No. 3CEB

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Accountant’s Report- Form No. 3CEB

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Accountant’s Report- Form No. 3CEB

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Accountant’s Report- Form No. 3CEB

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Accountant’s Report- Form No. 3CEB

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Accountant’s Report- Form No. 3CEB

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Section 92CE: Secondary Adjustment

 Secondary adjustment provisions u/s 92CE are attracted under following scenarios:
o suo-moto adjustment made by taxpayer in tax return;
o Adjustment made by TPO accepted by taxpayer;
o determined in an APA;
o made as per safe harbour rules;
o MAP settlement
 Section 92CE(2) requires repatriation of ‘excess money’ within prescribed time limit in certain circumstances.
 In case of failure to repatriate the same, such ‘excess money’ is treated as an advance made by a taxpayer to its AE and interest on such advances will be
charged on excess money
 Secondary adjustment u/s 92CE will need to be made in all cases of a primary adjustment except where:
o Primary adjustment is < INR 1 crore; or
o Primary adjustment is for AY 2016-17 and earlier years
 Alternative to such repatriation of money to India: Pay additional tax at an effective rate of approx. 21% on such excess money

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Section 92CE: Secondary Adjustment
Illustration:
a) ALP of transaction as per taxpayer- INR 100
b) ALP of transaction as determined by TPO-200
c) ‘Excess money’ or transfer pricing adjustment- INR 100

If not repatriated within prescribed time limit, treated as advance and interest income will be imputed on INR
100 as per prescribed rules (ie one-year marginal cost of fund lending rate of State Bank of India plus 325
Option 1 basis points in cases where international transaction is denominated in Indian rupee or six-month LIBOR plus
300 basis points in cases where international transaction is denominated in foreign currency)

Pay additional tax at an effective rate of approx. 21% on the amount on INR 100 (this is in addition to any tax
Option 2 liability arising on such adjustment at the applicable corporate tax rate) to avoid the interest income
adjustment/repatriation of INR 100 to India

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 Section 94B: Limitation on interest deduction (Thin Capitalization Rules)

Restriction on interest expenditure applicable only when below conditions are cumulatively applicable:
Threshold:
Excess of INR 10 million in relevant financial year

Payee:
Nature of interest:
a) Non-resident AE (other than PE of non-resident
AE engaged in banking) Deductible expenditure against income taxable under
b) Third party lender to whom non-resident AE has the head PGBP
provided guarantee or matching funds

Threshold
Payer: Disallowance:
a) Any Indian company except banking or insurance Payee Nature of interest a) Total interest paid/payable in excess of 30% of
company EBITDA; or
b) PE of foreign company except banking or 3 b) Interest paid/payable to AE;
insurance company which ever is less
2 4

Payer
Disallowance
1 5

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Transfer Pricing compliance requirement in India
Form 3CEB TP Study report Master File CbC report

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 Transfer Pricing compliance requirement in India
Form 3CEB TP Study report Master File CbC report
Threshold  Single rupee of cross-border
related party transaction
 Applicable for certain domestic
transactions

Due Date  31st October following the FY

Contents  Certification of Indian CA

 Related Party Disclosure
 Transaction-wise disclosure
 Amount; TP Methodology

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 Transfer Pricing compliance requirement in India
Form 3CEB TP Study report Master File CbC report
Threshold  Single rupee of cross-border  Mandatory if transaction more than INR 1
related party transaction crore
 Applicable for certain domestic  Recommended to prepare even if lesser
transactions transaction

Due Date  31st October following the FY  31st October following the FY
 To be submitted only upon request during
assessment

Contents  Certification of Indian CA  Description of ownership structure

 Related Party Disclosure  Business of Indian entity and related
 Transaction-wise disclosure party
 Amount; TP Methodology  Industry overview
 Functional and economic analysis
 TP Methodology; profitability analysis

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 Transfer Pricing compliance requirement in India
Form 3CEB TP Study report Master File CbC report
Threshold  Single rupee of cross-border  Mandatory if transaction more than INR 1  Group consolidated turnover more than INR 500
related party transaction crore crores; and
 Applicable for certain domestic  Recommended to prepare even if lesser  (i) Total international transaction of more than INR
transactions transaction 50 crores; or (ii) Intangible transaction of more
than INR 10 crore

Due Date  31st October following the FY  31st October following the FY  30th November following the FY
 To be submitted only upon request during  Designation form to be filed 30 days before
assessment

Contents  Certification of Indian CA  Description of ownership structure  List of all group entity
 Related Party Disclosure  Business of Indian entity and related  FAR profile; profit driver
 Transaction-wise disclosure party  Supply chain
 Amount; TP Methodology  Industry overview  Description of important business restructuring
 Functional and economic analysis transactions, acquisitions and divestments
 TP Methodology; profitability analysis  Intra-group financing
 Intangible info and policy
 Tax ruling; consolidated FS

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 Transfer Pricing compliance requirement in India
Form 3CEB TP Study report Master File CbC report
Threshold  Single rupee of cross-border  Mandatory if transaction more than INR 1  Group consolidated turnover more than INR 500  Group consolidated turnover of INR
related party transaction crore crores; and 6,400 crores
 Applicable for certain domestic  Recommended to prepare even if lesser  (i) Total international transaction of more than INR
transactions transaction 50 crores; or (ii) Intangible transaction of more
than INR 10 crore

Due Date  31st October following the FY  31st October following the FY  30th November following the FY  CbC report- 12 months from end of
 To be submitted only upon request during  Designation form to be filed 30 days before reporting accounting year
assessment  CbC intimation- 60 days before due
date of CbC report

Contents  Certification of Indian CA  Description of ownership structure  List of all group entity  Details of all group entity
 Related Party Disclosure  Business of Indian entity and related  FAR profile; profit driver  Jurisdiction-wise tax, income,
 Transaction-wise disclosure party  Supply chain assets, employees, etc
 Amount; TP Methodology  Industry overview  Description of important business restructuring  Jurisdiction-wise activity
 Functional and economic analysis transactions, acquisitions and divestments information
 TP Methodology; profitability analysis  Intra-group financing
 Intangible info and policy
 Tax ruling; consolidated FS

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Transfer Pricing Study Report

Transfer Pricing Study Report and its broad

contents

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 Transfer Pricing Study Report

Entity Related Transaction Related

Supporting Documents

 Industry Overview
 Corporate Background
 Profile of related parties

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 Transfer Pricing Study Report

Entity Related Transaction Related

Supporting Documents

 Industry Overview  Agreements

 Invoices
 Corporate Background
 Pricing related
 Profile of related parties  Correspondence (letters, emails,
etc.)

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 Transfer Pricing Study Report

 Pricing Policy
 Functional Analysis (‘FAR’)
 Economic analysis (method
selection, comparable,
benchmarking)

Entity Related Transaction Related

Price Related Supporting Documents

 Industry Overview  Agreements

 Invoices
 Corporate Background
 Pricing related
 Profile of related parties  Correspondence (letters, emails,
etc.)

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 Transfer Pricing Study Report

 Pricing Policy
 Functional Analysis (‘FAR’)
 Official publications, reports by
 Economic analysis (method Government, institutions of repute,
selection, comparable, Stock exchanges
benchmarking)  Financial statements

Entity Related Transaction Related

Price Related Supporting Documents

 Industry Overview  Agreements

 Invoices
 Corporate Background
 Pricing related
 Profile of related parties  Correspondence (letters, emails,
etc.)

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 FAR Analysis

Functions performed

 Raw material procurement

 Manufacturing of products
 Inventory management of raw materials and
finished goods
 Product research, design and development
 production planning and scheduling
 quality control
 packaging and labelling of products,
Warehousing
 sales and marketing
 technical services
 shipping of products to customers
 administrative services
 after sales support

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 FAR Analysis

Functions performed Assets employed

 Raw material procurement  Whether assets are owned or leased

 Manufacturing of products  Whether activity is capital or labour intensive
 Inventory management of raw materials and  Presence or absence of intangibles
finished goods  Are the assets unique in nature (like an
 Product research, design and development Intellectual Property)
 production planning and scheduling
 quality control
 packaging and labelling of products,
Warehousing
 sales and marketing
 technical services
 shipping of products to customers
 administrative services
 after sales support

Privileged & Confidential 67 © Khaitan & Co 2021

 FAR Analysis

Functions performed Assets employed Analysis of risk assumed

 Raw material procurement  Whether assets are owned or leased  Financial risk
 Manufacturing of products  Whether activity is capital or labour intensive  Product risk
 Inventory management of raw materials and  Presence or absence of intangibles  Market risk
finished goods  Are the assets unique in nature (like an  Credit risk
 Product research, design and development Intellectual Property)  Foreign exchange risk
 production planning and scheduling  Capacity utilization risk
 quality control
 packaging and labelling of products,
Warehousing
 sales and marketing
 technical services
 shipping of products to customers
 administrative services
 after sales support

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Economic Analysis

Detailed functional
analysis, Selection of MAM
characterization and
selection of tested party

Privileged & Confidential 69 © Khaitan & Co 2021

Economic Analysis

Detailed functional Benchmarking search on

analysis, licensed database to
Selection of MAM Quantitative analysis
characterization and identify proper
selection of tested party comparables

Quantitative analysis:
 Insufficient data
 Networth
 Turnover
 Related party transaction
 Different accounting policies, and
period, etc
Privileged & Confidential 70 © Khaitan & Co 2021
Economic Analysis

Detailed functional Benchmarking search on

analysis, characterization licensed database to
Selection of MAM Quantitative analysis
and selection of tested identify proper
party comparables

Analysis from the annual

report/audited financials Qualitative analysis
of potential comparable

Quantitative analysis:
 Insufficient data
 Networth
 Turnover
 Related party transaction
 Different accounting policies, and
period, etc
Privileged & Confidential 71 © Khaitan & Co 2021
Economic Analysis

Detailed functional Benchmarking search on

analysis, characterization licensed database to
Selection of MAM Quantitative analysis
and selection of tested identify proper
party comparables

Necessary adjustments Analysis from the annual

PLI working-Arithmetic
to eliminate material report/audited financials Qualitative analysis
mean/range
differences of potential comparable

Quantitative analysis:
 Insufficient data
 Networth
 Turnover
 Related party transaction
 Different accounting policies, and
period, etc
Privileged & Confidential 72 © Khaitan & Co 2021
Master File Documentation
CONTENTS

Business:

 Ownership structure of entire group

 List of operating entities world- wide & business
 FAR of principal contributors
 Key drivers of profit
 Supply chain of products/services
 Revenue generating geographical markets
 Intra- group services
 Business restructuring

Privileged & Confidential 73 © Khaitan & Co 2021

Master File Documentation
CONTENTS

Business: Intangibles:

 Ownership structure of entire group  Important intangibles

 List of operating entities world- wide & business  Strategy for development/ ownership/ exploitation
 FAR of principal contributors  Important intangible agreements
 Key drivers of profit  TP Policies for R&D and intangibles
 Supply chain of products/services  Intra and inter- group transfers details
 Revenue generating geographical markets
 Intra- group services
 Business restructuring

Privileged & Confidential 74 © Khaitan & Co 2021

Master File Documentation
CONTENTS

Business: Intangibles:

 Ownership structure of entire group  Important intangibles

 List of operating entities world- wide & business  Strategy for development/ ownership/ exploitation
 FAR of principal contributors  Important intangible agreements
 Key drivers of profit  TP Policies for R&D and intangibles
 Supply chain of products/services  Intra and inter- group transfers details
 Revenue generating geographical markets
 Intra- group services
 Business restructuring

Intra- Group Financing: Financial and Tax Positions :

 How group is financed  Consolidated Financial Statements

 Top ten unrelated lenders  Unilateral APA
 Identification of central financing companies  APA/Tax rulings (in any jurisdiction) relating to allocation of
 TP policies incomes

Privileged & Confidential 75 © Khaitan & Co 2021

 Country by Country Report
PART-A

Tangible assets
other than cash & Revenue (related,
cash equivalents unrelated, total)

Stated capital & Profit/Loss Before

Accumulated CONTENTS Income Tax
earnings

Number of Income tax paid

Employees (cash) & accrued

Privileged & Confidential 76 © Khaitan & Co 2021

 Country by Country Report
PART-A PART-B

 List of all the constituent entities

Tangible assets  Country of incorporation
other than cash & Revenue (related,  Country of residence
cash equivalents unrelated, total)  Main business activity
o Research and development
o Holding/managing IPs
o Purchase/procurement
o Manufacture/production
Stated capital & Profit/Loss Before o Sales, marketing or distribution
Accumulated CONTENTS Income Tax o Admin, management and support services
earnings o Provision of services to unrelated parties
o Internal group finance
o Financial services
o Insurance
o Holding shares or other instruments
Number of Income tax paid o Dormant
Employees (cash) & accrued o Others

Privileged & Confidential 77 © Khaitan & Co 2021

Tested Party
 Term not defined under the Income-tax Act, 1961
 Para 3.18 of OECD TP guidelines states as below:
The choice of the tested party should be consistent with the functional analysis of the transaction. As a general rule, the
tested party is the one to which a transfer pricing method can be applied in the most reliable manner and for which the
most reliable comparables can be found, i.e. it will most often be the one that has the less complex functional
analysis.
 Principles emerging in respect of selection of tested party:

Should be the least complex party

Availability of reliable data of the tested party and requirement of minimum adjustments is also one of the important aspects in
selection of ‘tested party’
No bar against selection. May be a local party or foreign party
The driving force in selection should be the least complex FAR of the party than the volume of comparable data

Privileged & Confidential 78 © Khaitan & Co 2021

Tested Party

 Judicial pronouncements on selection of Foreign AE as tested party:

In favour:
o Ranbaxy Laboratories Ltd v ACIT 299 ITR 175 (Delhi ITAT)
o Tata Motors European Technical Centre Plc. v. ACIT [2014] 167 TTJ 600 (Mumbai ITAT)
o IDS Infotech Ltd v. DCIT [2017] 80 Taxmann.com 88 (Chandigarh ITAT)
In against:
o Carraro India Private Limited v. DCIT (ITA No. 1260/PUN/2018) (Pune ITAT)
o Onward Technology Ltd. v. DCIT [2013] 36 CCH 46 (Mumbai ITAT)

Privileged & Confidential 79 © Khaitan & Co 2021

 Other considerations

Whether TP adjustment can be made solely on the ground that need / benefit / commercial expediency from such transaction was
not proved / substantiated?

» The TPO does not enjoy unfettered powers, to disallow the expenditure or to check the necessity of the transaction

» Jurisdiction limited to ascertain whether the international transaction is at arm’s length by applying most appropriate method

Can neither question commercial expediency nor examine whether service was needed etc. Further, the TPO cannot question the quantum of
» benefit derived by the taxpayer

» No authority to disallow the expenditure for any extraneous reasons

Privileged & Confidential 80 © Khaitan & Co 2021

 ‘Range’ concept and Multiple Year Data

CBDT has introduced a notification on 19 October 2015 wherein a revised range concept has been introduced for the purpose of
01 arm’s length analysis and usage of multiple year data from FY 2014-15

02 Use of multiple year data while carrying out transfer pricing analysis is permissible

Range concept would be used for all methods (depending on the facts) except for PSM and Other Method. For PSM and Other
03 Method, only arithmetic mean concept would have to be used
Impact?

04 Range concept will be applicable only if 6 or more comparable companies are available. If not, arithmetic mean concept will
continue to be used

05 The arm’s length range will constitute of the values falling between the 35th and 65th percentile of the weighted average margins
of comparable companies

06 If the transaction price falls outside the arm’s length range, the median value of the comparable prices shall be considered as ALP

Privileged & Confidential 81 © Khaitan & Co 2021

‘Range’ concept and Multiple Year Data
Table 1: Price charged by taxpayer to its
AE is INR 100

Comparables Values (In INR)

1 98
2 99
3 102
4 103
5 106
Mean of above 101.6
comparables

Privileged & Confidential 82 © Khaitan & Co 2021

‘Range’ concept and Multiple Year Data
Table 1: Price charged by taxpayer to its Table 2: Price charged by taxpayer to its
AE is INR 100 AE is INR 103

Comparables Values (In INR) Comparables Values (In INR)

1 98 1 95
2 99 2 99
3 102 3 102
4 103 4 103
5 106 5 105
Mean of above 101.6 6 106
comparables
7 108
35th percentile 102
(7*0.35=2.45)
65th percentile 105
(7*0.65=4.55)

Privileged & Confidential 83 © Khaitan & Co 2021

‘Range’ concept and Multiple Year Data
Table 1: Price charged by taxpayer to its Table 2: Price charged by taxpayer to its
AE is INR 100 AE is INR 103

Comparables Values (In INR) Comparables Values (In INR)

1 98 1 95 What if the transaction price is

2 99 2 99 outside the arm's length range,
say 99?
3 102 3 102
4 103 4 103 In such a case, ALP would be
5 106 5 105 computed by median approach
which would be 103
Mean of above 101.6 6 106
comparables
7 108
35th percentile 102
(7*0.35=2.45)
65th percentile 105
(7*0.65=4.55)

Privileged & Confidential 84 © Khaitan & Co 2021

‘Range’ concept and Multiple Year Data
Table 3: Price charged by taxpayer to its AE is INR 48
Comparables Values (In INR) Comparables Values (In INR)

1 42 13 48.5
2 43 14 49
3 44 15 49.1
4 44.5 16 49.35
5 45 17 49.5
6 45.25 18 49.75
7 47 19 50
8 48 20 50.15
9 48.15 35th percentile (47+48)/2=47.5
(20*0.35=7)
10 48.35
65th percentile (48.5+49)/2=48.75
11 48.45 (20*0.65=13)
12 48.48

Privileged & Confidential 85 © Khaitan & Co 2021

‘Range’ concept and Multiple Year Data
Table 3: Price charged by taxpayer to its AE is INR 48
Comparables Values (In INR) Comparables Values (In INR)
What if the transaction price is
1 42 13 48.5 outside the arm's length range,
2 43 14 49 say 46?
3 44 15 49.1
In such a case, ALP would be
4 44.5 16 49.35 computed by median approach
5 45 17 49.5 which would be 48.4 [ie
(48.35+48.45)/2]
6 45.25 18 49.75
7 47 19 50
8 48 20 50.15
9 48.15 35th percentile (47+48)/2=47.5
(20*0.35=7)
10 48.35
65th percentile (48.5+49)/2=48.75
11 48.45 (20*0.65=13)
12 48.48

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 Alternate dispute resolution
mechanisms

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Section 144C- Dispute Resolution Panel (DRP)

Introduced by Finance (No.2) Act, 2009 as an Alternative Dispute Resolution mechanism in tax litigation
DRP panel comprise of a collegium of three Commissioners of Income Tax
Objections before the DRP to be filed in Form 35A within 30 days of receipt of draft assessment order
Eligible taxpayers who can file objections before DRP :
o Taxpayers aggrieved by an order of the transfer pricing officer under section 92CA(3)
o Non-residents, not being a company or any foreign company
Directions of the DRP binding on the assessing officer
No tax demand until assessing officer issues final assessment order post receipt of directions from DRP
Faster route to ITAT. Tax department cannot appeal against favourable DRP order.
Enabling provisions has been made in the IT Act for Faceless DRP Scheme

Privileged & Confidential 88 © Khaitan & Co 2021

Section 92CB- Safe Harbour Rules
A ‘safe harbour’ is defined in the IT Act as circumstances in which the income-tax authorities shall accept the transfer price or income,
deemed to accrue or arise under section 9(1)(i), as the case may be, declared by the assessee

Privileged & Confidential 89 © Khaitan & Co 2021

Section 92CB- Safe Harbour Rules
A ‘safe harbour’ is defined in the IT Act as circumstances in which the income-tax authorities shall accept the transfer price or income,
deemed to accrue or arise under section 9(1)(i), as the case may be, declared by the assessee

Safe harbour rates have been provided for following

international transactions
 Software development services and information technology enabled services
 Knowledge process outsourcing services
 Contract Research and Development services relating to software development
 Contract Research and development services relating to generic pharmaceutical drugs
 Advance of intra group loans
 Provision of corporate guarantee
 Manufacture and export of core auto components
 Manufacture and export of non-core auto components
 Receipt of low value adding intra group services (IGS)

Privileged & Confidential 90 © Khaitan & Co 2021

Section 92CB- Safe Harbour Rules
A ‘safe harbour’ is defined in the IT Act as circumstances in which the income-tax authorities shall accept the transfer price or income,
deemed to accrue or arise under section 9(1)(i), as the case may be, declared by the assessee

Safe harbour rates have been provided for following

international transactions
CBDT vide Notification No 117/2021
 Software development services and information technology enabled services dated 24 September 2021 extended
 Knowledge process outsourcing services validity of Safe Harbour Rules till AY
 Contract Research and Development services relating to software development
2021-22
 Contract Research and development services relating to generic pharmaceutical drugs
 Advance of intra group loans
 Provision of corporate guarantee
 Manufacture and export of core auto components
 Manufacture and export of non-core auto components
 Receipt of low value adding intra group services (IGS)  Safe Harbour provisions detailed
rules- Rule 10TA to 10TG
 Safe Harbour provisions detailed
Compliance requirements rules for SDT- Rule 10TH to 10THD

 Form 3CEFA- Safe Harbour application form (International transactions)

 Form 3CEFB-Safe Harbour application form (SDT)

Privileged & Confidential 91 © Khaitan & Co 2021

Section 92CC- 92CD: Advance Pricing Agreements
An APA is an agreement between a taxpayer and tax authority which determines in advance ALP or specifies the manner of the determination
of ALP, in relation to an international transaction

Privileged & Confidential 92 © Khaitan & Co 2021

Section 92CC- 92CD: Advance Pricing Agreements
An APA is an agreement between a taxpayer and tax authority which determines in advance ALP or specifies the manner of the determination
of ALP, in relation to an international transaction

Tenure Benefits of APA Binding nature

 Such APA can be valid upto 5 consecutive  Certainty w.r.t tax outcome  Binding on the taxpayer
previous years  Minimizing rigours of audit  PCIT or CIT and their subordinates
 In case of roll back mechanism, APA can be made  Reduction in compliance costs as well as tax
applicable for a period not exceeding 4 years. administration costs over the terms of APA
Hence, the total tenure applicable for APA can be
9 years

Types of APA:
Application for advance pricing agreement to be made APA detailed rules- Rule 10F to Rule
1) Unilateral
in Form 3CED/Form 3CEDA 10T
2) Bilateral
3) Multilateral

Privileged & Confidential 93 © Khaitan & Co 2021

Section 92CC- 92CD: Advance Pricing Agreements
An APA is an agreement between a taxpayer and tax authority which determines in advance ALP or specifies the manner of the determination
of ALP, in relation to an international transaction Majority
Unilateral APAs

Around 300 APAs

TNMM generally
have been
adopted
entered

Statistics

Transactions
covered- Average time- 4
Royalties, IT years
services etc

Service Sectors
majority share

Privileged & Confidential 94 © Khaitan & Co 2021

Concluding thoughts

Alternate dispute resolution

Key principles under transfer mechanisms
pricing law

Privileged & Confidential 95 © Khaitan & Co 2021

Concluding thoughts

Alternate dispute resolution

Key principles under transfer mechanisms
pricing law

Essential to understand intricacies of Role of transfer pricing study report and

transfer pricing law Form 3CEB

Privileged & Confidential 96 © Khaitan & Co 2021

THANK
YOU
www.khaitanco.com

*The views of the presenter(s) in this

presentation are personal and do not
constitute legal / professional advice of
Privileged & Confidential Khaitan & Co.