Tolerance of 5% variation in actual and arm's length price maintained, advance pricing agreement norms soon, caution on safe harbour rules
The finance ministry has decided to bring in greater clarity in transfer pricing norms. A senior finance ministry official said as the first step, the government issued a notification on Friday to clear doubts over the possibility of changes in the permissible variations from the market price to the arm’s length price for assessment year 2012-13.
The notification said where the variation between the arm’s length price determined under Income Tax Act provisions and the price at which an international transaction had been undertaken did not exceed five per cent of the latter, the price at which the transaction took place would be taken as the arm’s length price.
The arm’s length price is critical for companies with international operations and subsidiaries trading with each other. There is often an incentive to reduce the overall tax burden by manipulation of inter-company prices.
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The finance ministry’s decision to allow a five per cent variation this year is significant, as the Finance Act 2012 has fixed an upper ceiling of three per cent as the tolerance range for determining the arm’s length price from assessment year 2013-14 onwards.
The official said the continuation of the five per cent tolerance range for 2012-13 would be a big relief for industry. The announcement of advance pricing agreement (APA) norms, introduced in the Budget, was next in line, said another official.
The APA norms were expected to come by the end of the month, which was set to signal the government’s intention to bring in transparent processes, he said. The APA regime had to begin from July 1. But, owing to a delay in the notification of norms, it is yet to start.
Currently, global taxation experts consider India as one of the most difficult transfer pricing destinations, with more than half the transfer pricing audits facing adjustments resulting in an additional tax demand and litigation.
Income tax officials had gone on an overdrive in the last two financial years to collect as much additional revenue from transfer pricing adjustments as possible and the estimates even touched Rs 80,000 crore in 2011-12 alone, impacting multinational companies doing business in India and Indian companies with a big presence abroad.
According to the income tax department’s own estimates, the government’s sharp focus on mis-pricing, identified as one of the main and new methods of transfer of illicit funds outside the country, had resulted in the detection of mis-pricing of Rs 33,784 crore during 2009-10 and 2010-11, as against Rs 14,655 crore in the previous five financial years.
The continuation of the five per cent tolerance range and the APA mechanism are expected to bring in certainty and transparency.
The ministry is likely to decide cautiously on the implementation of safe harbour rules being formulated by a committee appointed by the Prime Minister. The job is to be completed by the end of this year.
To curb the misuse of transfer pricing, one option is to fix an acceptable level of the difference from the market price for each industry. In simple terms, these would be a simple set of rules for the pricing of services while doing business with parent or subsidiary companies and would be called safe harbour rules.
Finance ministry officials said the safe harbour rules would be handled cautiously as such rules had been implemented by very few countries in a limited way.
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