Transfer Pricing in India

The transfer pricing regime applies to both domestic and international transactions that fall above a threshold in terms of deal value.

Contributing Advisor

Rohit Kapur

Managing Director,

According to the rules and regulations, income arising from international transactions or specified domestic transactions between Associated Enterprises (AE) should be computed using the arm’s-length price principle.

India’s TP regulations provide a detailed statutory framework for the computation of reasonable, fair, and equitable profits and tax.

Relationships falling under the AE category include direct/indirect participation in the management, control, or capital of an enterprise by another enterprise. They also cover situations in which the same person participates in the management, control, or capital of both enterprises.

For tax purposes, companies are required to record the exchange of goods using the arm’s-length principle, which states that the prices charged by affiliated companies should be equivalent to the prices that would have been charged by an unrelated third party.

Transfer pricing provisions under India’s Income Tax Act

• Two or more enterprises are associated enterprises if:

• One of them participates in the management, control, or capital of another; or
• There is common management, control, or capital exercised by some persons.

• An international transaction is a transaction between two or more associated enterprises (AEs), and either or both of them are non-residents.
• Arm-length price refers to a price that is applied to transactions between persons other than AEs in uncontrolled conditions.
• Five methods prescribed for the computation of arm’s-length price are as follows:

• Specified domestic transactions (SDT): Transfer pricing regulations are applicable to domestic transactions that fall under domestic pricing only if the aggregate value is more than the threshold limit of INR 200 million (US$2.7 million). Transactions with related domestic parties that qualify as SDT include: 
  • Two or more enterprises are associated enterprises if:

⇒ One of them participates in the management, control, or capital of another; or

⇒ There is common management, control, or capital exercised by some persons.

• Transactions relating to the transfer of goods or services, such as profit-linked deductions for enterprises engaged in infrastructure development or industrial undertakings, producers and distributors of power, or telecommunication service providers.
• Transactions between the entity located in a tax holiday area and the one which is situated in a non-tax holiday area in case both are under the same management structure.

Safe harbor rules

The safe harbor provisions provide relief from compliance and litigation, as well as simplify the administrative process. They prescribe the eligibility criteria for taxpayers, eligible international transactions, the target operating margin, procedural aspects, timeline for audit, etc.

Safe harbor rules refer to those legal provisions that reduce or eliminate the liability of the taxpayers given certain conditions are fulfilled, as they provide for circumstances in which a certain category of taxpayers can follow a prescribed set of rules under which transfer prices are automatically accepted by the income tax authorities.

Introduction of a master file and country-by-country reporting (CbCR)

The efforts by OECD’s BEPS project have led to the formulation of proposals to implement the “minimum standards,” including Country-by-Country Reporting (CbCR). Globally, CbCR applies to MNCs with a combined revenue of US$890 million or more. Under the CbCR requirement, large MNCs have to provide an annual return, which breaks down key elements of the financial statements by jurisdiction.

Transfer pricing compliance

All income acquired by a company or associated enterprise by means of any international transaction is calculated at the arm’s-length price.

The respective methods to calculate the arm’s-length price are applied depending on the nature and type of the transaction, the nature of the group or the association involved, or any other features of the transactions involved. If there are two or more appropriate prices assumed for a certain transaction, the arm’s-length price will be calculated as the average of the prices.

The group or person who does not adhere to these rules is liable to pay the penalties as imposed by the CBDT.

Maintaining TP documentation

Taxpayers are required to maintain information related to international transactions undertaken with AEs. The rules prescribe detailed information and documentation that must be maintained by the taxpayer.

Such requirements can broadly be divided into two parts:

• Information on the ownership structure of the taxpayer, a group profile, and a business overview of the taxpayer and AEs, including prescribed details such as the nature, terms, quantity, and value of international transactions. The rules also require the taxpayer to document a comprehensive transfer pricing study.
• Adequate documentation must be maintained to substantiate the information, analysis, and studies documented under the first part of the rule. It also contains a recommended list of such supporting documents, including:
  • Government publications;
  • Reports, studies, technical publications, and market research studies undertaken by reputable institutions;
  • Price publications;
  • Relevant agreements,
  • Contracts, and 
  • Correspondence.

Taxpayers having aggregate international transactions below the prescribed threshold of INR 10 million and specified domestic transactions below the threshold of INR 200 million are relieved from maintaining the prescribed documentation.

It is essential that the documentation maintained should be adequate to substantiate the arm’s-length price of the international transactions or specified domestic transactions.

Companies to which transfer pricing regulations are currently applicable are required to file their tax returns on or before November 30, following the close of the relevant tax year.

The prescribed documents must be maintained for a period of eight years from the end of the relevant tax year and must be updated annually on an ongoing basis. It is also imperative to obtain an independent accountant’s report with respect to all international transactions between AEs, and the same must be submitted by the due date of the tax return filing, on or before November 30.