Practical Problems In Transfer Pricing

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Practical Problems In Transfer Pricing

  1. 1. PRACTICAL PROBLEMS IN TRANSFER PRICING By NEERU AHUJA DELOITTE HASKINS & SELLS November’ 2003
  2. 2. Contents <ul><li>Definition of Transfer Pricing </li></ul><ul><li>Operational Difficulties </li></ul><ul><ul><li>Determination of Arm’s Length Price (ALP)‏ </li></ul></ul><ul><ul><li>Associated Enterprise </li></ul></ul><ul><ul><li>Databases </li></ul></ul><ul><ul><li>Benchmarking </li></ul></ul><ul><li>Legal Issues </li></ul><ul><li>Accounting Issues </li></ul><ul><li>Problems in Documentation </li></ul><ul><li>Tax Assessments </li></ul><ul><li>Issues relating to Allied Laws </li></ul><ul><li>Way Forward </li></ul>
  3. 3. Transfer pricing is not an exact science Transfer pricing
  4. 4. Definition of Transfer Pricing <ul><li>Transfer pricing provisions primarily require any income arising from an international transaction between two or more Associated Enterprises (‘AE’) to be at arm’s length price and comparable to similar transactions between unrelated enterprises. </li></ul>
  5. 5. Operational Difficulties <ul><li>Determination of ALP </li></ul><ul><ul><li>Some intra-group transactions are so unique that they can-not be compared </li></ul></ul><ul><ul><li>TP reports of two AE’s would have conflicting conclusions </li></ul></ul><ul><ul><li>No recommended Profit Level Indicator (PLI) – wide fluctuations may result depending upon each PLI. </li></ul></ul><ul><ul><li>Corporates hesitant to disclose information </li></ul></ul><ul><ul><li>Major countries do not require rejection of other methods </li></ul></ul>
  6. 6. Operational Difficulties <ul><li>Associated Enterprise </li></ul><ul><ul><li>Whether Section 92A(1) overrides section 92A(2)(a)‏ </li></ul></ul><ul><ul><li>Applicability of Section 92A(2)(h) & clause (i) to trading companies </li></ul></ul>
  7. 7. Operational Difficulties <ul><li>Databases </li></ul><ul><ul><li>Time gap in search of Databases </li></ul></ul><ul><ul><li>Non availability of recognized databases </li></ul></ul><ul><ul><li>Lack of comparables </li></ul></ul>
  8. 8. Operational Difficulties <ul><li>Benchmarking </li></ul><ul><ul><li>No recommended method for benchmarking </li></ul></ul><ul><ul><ul><li>Transaction by Transaction </li></ul></ul></ul><ul><ul><ul><li>Aggregate of similar Transactions </li></ul></ul></ul><ul><ul><ul><li>Based on Functions </li></ul></ul></ul><ul><ul><ul><li>For each AE separately </li></ul></ul></ul><ul><ul><li>Arm’s Length Range Vs Arithmetic Mean </li></ul></ul><ul><ul><li>Pricing of Intangibles – soft targets </li></ul></ul><ul><ul><li>Difficulty in justifying adjustments for factors having a bearing on prices </li></ul></ul><ul><ul><li>Insufficient information available for calculating gross margins </li></ul></ul>
  9. 9. Operational Difficulties <ul><li>Benchmarking </li></ul><ul><ul><li>In case of rapidly fluctuating prices, which prices to compare with </li></ul></ul><ul><ul><li>Gift from one enterprise to another </li></ul></ul><ul><ul><li>Transfers at cost </li></ul></ul><ul><ul><li>Capital transaction </li></ul></ul><ul><ul><li>Cost Allocation & Cost Sharing Arrangements </li></ul></ul><ul><ul><li>Acceptable Band of (+ - 5%) </li></ul></ul>
  10. 10. Legal Issues <ul><li>Rule 10D(2) – No documents required for transactions below 1 Crore, but still to justify Arm’s Length basis </li></ul><ul><li>Determination of AE’s – unusual/ irrelevant situations </li></ul><ul><li>Whether AO can open previous years’ assessments on the basis of TP report </li></ul>
  11. 11. Legal Issues <ul><li>Whether transactions which do not affect profitability are covered– e.g reimbursements </li></ul><ul><li>Whether Liaison Offices are covered </li></ul>
  12. 12. Accounting Issues <ul><li>Segmental accounts were not mandatory in India till 2001 </li></ul><ul><li>How to factor Internal Set-offs </li></ul><ul><li>Comparability in special circumstances – startup losses, market strategy, government controls, winding-up. </li></ul>
  13. 13. Problems in Documentation <ul><li>Duplication of Documents in case a Foreign Company (FC) earns Royalty, technical fee, interest on ECB etc – ie FC also required to file a ROI, TP report </li></ul><ul><li>How to document discussions over phone and in meetings </li></ul>
  14. 14. Tax assessments <ul><li>Not an exact science </li></ul><ul><li>Concept of TP is still in its infancy. </li></ul><ul><li>Flexibility to apply a method other than that prescribed or apply a combination of methods </li></ul><ul><li>Use of secret comparables </li></ul><ul><li>Confidentiality of information </li></ul><ul><li>Authenticity & reliability of databases </li></ul>
  15. 15. Role of Tax Officer <ul><li>Brief given to the TPO by the tax authorities </li></ul><ul><li>Objective in mind </li></ul><ul><li>Degree/depth of the review </li></ul><ul><ul><li>Overall understanding (general feel)‏ </li></ul></ul><ul><ul><li>Transactional analysis </li></ul></ul><ul><ul><li>Actual documentation review </li></ul></ul><ul><li>Assessment Procedure </li></ul><ul><li>What level of information/document would be considered acceptable. </li></ul>
  16. 16. Issues relating to Allied Laws <ul><li>Whether Customs authorities can take recourse of valuation in TP report </li></ul><ul><li>FERA/FEMA issues on higher valuation in TP report </li></ul>
  17. 17. Way Forward <ul><li>Transfer pricing &quot;band&quot; rather than a transfer pricing &quot;price&quot; </li></ul><ul><li>“ Safe harbour&quot; rules </li></ul><ul><li>Procedures for obtaining &quot;Advance Pricing Agreements (APA)” </li></ul><ul><li>Use of multiple year data </li></ul><ul><li>Objective and reasonable approach of the tax officer </li></ul>

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