All about Transfer Pricing at arm’s length in India
All about Transfer Pricing at arm’s length in India
Table of Content
Commercial transactions between the different parts of the multinational groups may not be subject to the same market forces shaping relations between the two independent firms. One party transfers to another goods or services, for a price. That price is known as “transfer price”. Transfer price is, thus, a price that represents the value of good; or services between independently operating units of an organization. In this article let us know all about Transfer pricing at Arm’s length in India
Transfer Pricing in India
The expression “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.
For E.g. Suppose a company ABC purchases goods for 500 rupees and sells it to its associated company XYZ in another country for 1000 rupees, who in turn sells in the open market for 2000 rupees. Had ABC sold it directly, it would have made a profit of 1500 rupees. But by selling it through XYZ, it restricted it to 500 rupees, permitting XYZ to appropriate the balance. The transaction between ABC and XYZ is arranged and not governed by market forces. The profit of 1000 rupees is, thereby, shifted to the country of XYZ. The goods are transferred on a price (transfer price) which is arbitrary or dictated (1000 hundred rupees), but not on the market price (2000 rupees).
Transfer pricing in India- Statutory Rules and Regulations
- The Indian Transfer Pricing Code prescribes that income arising from ‘international transactions’ or ‘specified domestic transactions’ between associated enterprises should be computed having regard to the arm’s-length price.
- It has been clarified that any allowance for an expenditure or interest or allocation of any cost or expense arising from an international transaction or specified domestic transaction also shall be determined having regard to the arm’s-length price.
- The Act defines the terms ‘international transactions’, ‘specified domestic transactions’, ‘associated enterprises’ and ‘arm’s-length price’.
Transfer Pricing in India- Types of transaction covered
- The term “International transactions” refers to transactions between two (or more) AEs involving the sale, purchase or lease of tangible or intangible property, the provision of services or cost-sharing agreements, lending/ borrowing of money or any other transaction having a bearing on the profits, income, losses or assets of such enterprises
- It shall include an agreement or arrangement between two or more associated enterprises for the allocation or apportionment of, or any contribution to, any cost or expense incurred or to be incurred regarding a benefit, service or facility provided or to be provided to any one or more of such enterprises.
Deemed International Transactions
- A transaction entered into by an enterprise with a person other than an associated enterprise shall be deemed to be an international transaction entered into between two associated enterprises.
- If there exists a prior agreement concerning the relevant transaction between such other person and the associated enterprise, or the terms of the relevant transaction are determined in substance between such other person and the associated enterprise where the enterprise or the associated enterprise or both are non-residents irrespective of whether such other person is a non-resident or not.
Conditions to be an International Transaction
For a transaction to be an international transaction, it should satisfy the following two conditions cumulatively:
- It must be a transaction between two associated enterprises.
- At least one of the two enterprises must be a non-resident.
An International Transactions shall include
- Purchase, sale, transfer, lease, or use of the tangible property.
- Purchase, sale, transfer, lease or use of the intangible property.
- Provision of services.
- Capital financing includes lending or borrowing or guarantee.
- Any other transaction having a bearing on the profits, income, losses or assets of such enterprises.
- A transaction of business restructuring or re-organization Mutual agreement between 2 AE’s for allocation of cost or expense with related to service/ facility provided.
Specific Domestic Transactions
Earlier, the Transfer pricing regulations were not applicable to domestic transactions. However, the Finance Act 2012 has extended the application of transfer pricing regulations to ‘specified domestic transactions’, being the following transactions with certain related domestic parties, if the aggregate value of such transactions exceeds INR 5 crore:
- Expenditure with respect to which deduction is claimed while computing profits and gains of business or profession.
- Any transaction related to businesses eligible for profit-linked tax incentives, for example, infrastructure facilities and SEZ units.
- Any other transactions as may be specified.
Associated Enterprise (AE)
The relationship of associated enterprises (AEs) is defined by Section 92A of the Act to cover direct/ indirect participation in the management, control or capital of an enterprise by another enterprise. It also covers situations in which the same person (directly or indirectly) participates in the management, control, or capital of both enterprises.
Parameters to identify two enterprises as Associated Enterprises
- Direct/indirect holding of 26% or more voting power in an enterprise by the other enterprise or in both the enterprises by the same person.
- Advancement of a loan, by an enterprise, that constitutes 51% or more of the total book value of the assets of the borrowing enterprise.
- Guarantee by an enterprise for 10% or more of total borrowings of the other enterprise.
- Appointment by an enterprise of more than 50% of the board of directors or one or more executive directors of the other enterprise or the appointment of specified directorships of both enterprises by the same person.
- The complete dependence of an enterprise (in carrying on its business) on the intellectual property licensed to it by the other enterprise.
- Substantial purchase of raw material/sale of manufactured goods by an enterprise from/to the other enterprise at prices and conditions influenced by the latter.
- The existence of any prescribed relationship of mutual interest.
Transfer Pricing in India at Arm’s Length Prices
The “arm’s length transfer pricing” means a price that is applied or proposed to be applied in a transaction between persons other than associated enterprises, in uncontrolled conditions.
Main characteristics of Arm’s length transfer Pricing
- The price should be applied or proposed to be applied in a transaction.
- A transaction will be between two unrelated or persons.
- The transaction should be in uncontrolled conditions.
Methods of Computation of Arm’s Length Transfer Pricing
Arm’s Length Price can be computed by the following methods:
- Comparable Uncontrolled Price Method
- Resale Price Method
- Cost Plus Method
- Profit Split Method
- Transaction Net Margin Method
- Such other methods as may be prescribed by the board
Rules regarding the calculation of the Arm’s Length Price
- The Arm’s Length Price will be determined u/s. 92C (1) by using the most appropriate method.
- The Most Appropriate Method is the best-suited method to the facts and circumstances of each particular transaction.
- If an enterprise entered into various transactions with different associated enterprises, then the same method will not be applicable to all transactions.
- The Most Appropriate Method will be selected to consider the facts and circumstances of every transaction to ascertain the appropriate Arms’ Length Price.
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