APA tax applications at four-year low in 2015-16

Firms waiting for govt to come out with revised safe-harbour rules

Although the conclusion of ahead-of-time transfer pricing agreements gained momentum in FY16, applications for advance pricing agreements (APAs) with the tax authorities fell to the lowest in four years at 130.

This could be attributed to companies, especially those in the information technology (IT) and IT-enabled services (ITeS) sector, waiting for the government to come out with revised safe-harbour provisions. These are directives on margins the authorities should accept for the transfer price declared by an assessee. Safe-harbour rules have drawn tepid response since these were introduced in 2013.

Transfer pricing is the practice of computing an arm's length price for transactions between group companies in different countries, for determining profit and levying taxes.

APA applications - an ahead-of-time understanding between a taxpayer and the tax authority on an appropriate transfer pricing methodology - fell 35 per cent to 130 in FY16 against 204 in 2014-15, according to a Deloitte report. The figure was 232 in FY14 and 146 in FY13, first year of APA. However, conclusion of APAs picked up, with 55 of these being completed in FY16 alone of the 64. Pending cases stand at 650.

APAs provide certainty to foreign firms operating in India on avoiding conflicts over sharing of taxes between India and their home countries, and reduce transfer pricing disputes.

"The lower applications could be attributed to companies waiting for the government to release revised safe-harbour rules, making it reasonable. Besides, the fact that most transfer pricing litigation have gone in favour of assessees could be a trigger. The department has also now opted for a more reasonable assessment process of risk-based assessment instead of the Rs 15-crore cap for transfer pricing scrutiny to reduce litigation," said S P Singh, senior director, Deloitte India.

India announced the safe-harbour rules in 2013 but the high margins of up to 25 per cent on total operational profits have made it unattractive for companies to use these. Therefore, the government is considering lowering the margins in safe-harbour rules and will be reworking definitions to remove ambiguities.

"Smaller players are waiting, as they want to opt for safe-harbour rules instead of APAs. The government is expected to come out with revision of margins so, it becomes more palatable," said Sanjay Tolia, partner at PwC.

India has so far received 711 APA applications, including 80 bilateral ones. Bilateral APAs involve the taxpayer, its local subsidiary, the Indian tax authority and the country the company is headquartered in. Last year, the finance ministry allowed rollback of APAs so that multinational companies could settle taxes for the previous four years as well.

To reduce transfer pricing litigation, the Central Board of Direct Taxes in 2014 dropped the Rs 15-crore threshold for referring transactions between a multinational company and its Indian subsidiary for compulsory scrutiny by the department and instead opted for risk-based assessment. Besides, in a guidance note issued last year, it said the assessment officer must be satisfied there is income or potential income arising from the case. The department has incorporated range and multi-year data in transfer pricing calculations to bring Indian laws in line with international practices.

IT and ITeS companies with transactions of up to Rs 500 crore have a safe-harbour operating margin of 20 per cent and those with transactions above Rs 500 crore have a margin of 22 per cent. Knowledge process outsourcing (KPO) companies have a safe-harbour operating margin of 25 per cent. Experts say there is ambiguity in the definition of IT, ITeS and KPO firms with a lot of overlap. Moreover, the margins decided in tribunals or in APAs turn out much lower, between 15 and 18 per cent.