Introduce safe harbour rules to curb menace of TP assessments

Transfer Pricing Provisions were introduced in India by the Finance Act 2001 so as to protect its rights to collect fair share of tax in respect of cross border transactions. The TP provisions are relatively new provisions leading to substantial differences between an assessee and the tax department. Broadly speaking, in principle, an international transaction between two associated enterprises should be made at arm’s length price so that both the countries involved get proper share of profits in their respective jurisdiction. In other words, TP provisions are intended to curb any manipulation in the international transactions resulting in understatements of pro-fits in any country.

 

The aforesaid position and the difficulties of the tax payers have also been fully recognized by the CBDT vide its circular no 12 of 2001.

“However, this is a new legislation. In the initial years of its implementation, there may be room for different interpretations leading to uncertainties with regard to determination of arm’s length price of an international transaction. While it would be necessary to protect our tax base, there is a need to ensure that the taxpayers are not put to avoidable hardship in the implemen­tation of these regulations.”

Further, the memorandum explaining the Finance Bill 2009 also specifically took note of the difficulty of the assessee.

“Section 92C of the Income­tax Act provides for adjustment in the transfer price of an international transaction with an associated enterprise if the transfer price is not equal to the arm's length price.

As a result, a large number of such transactions are being subjected to adjustment giving rise to considerable dispute. Therefore, it is proposed to empower the Board to formulate safe harbour rules i.e. to provide the circumstances in which the Income­tax authorities shall accept the transfer price declared by the assessee.”

There is yet another area of controversy which relates to allowability of margin in the Arm’s Length Price (ALP) calculated by an assessee. As per proviso to section 92C(2), a margin of 5% is allowed if the ALP calculated by an assessee is at variance from the actual international transaction cost. The department at Transfer Pricing Officers (TPO) level as also some Appellate Tribunals have taken a view that the benefit of 5% is available only when more than one price is determined.

Therefore, where only one ALP is determined, the difference between the ALP and the international transaction price will be added to the income of the assessee without allowing any margin.

It is unfortunate that TPOs are taking full advantage of the confusion prevailing in drafting of the law. The intent of law as clarified by the CBDT is being ignored leading to irrational and high pitched TP assessments.

It has also been noted that in the absence of “Safe Harbour Rules” and suitable instructions from the Board, TPOs are taking grossly unreasonable view like applying TP Provisions even on those transactions which do not affect the profit or loss of the assessee, such as increase in the Share Capital, temporary loans from a holding company to a subsidiary company etc. etc. Some TPOs are taking grossly arbitrary view on rate of interest on loans, rate of Bank Guarantee commission, rejecting the most appropriate method applied by the assessee for computation of ALP etc. etc. DRP is hardly effective to curb the aforesaid harsh views.

The Government on one hand has publicly recognised the possibility of problems and has also authorized the Board to frame “Safe Harbour Rules” to avoid the asses-see’s problems, but nothing has been done so far. In the meantime, several years’ assessments have already been completed and more are in the process of completion resulting in severe hardship to hundreds of assessees including foreign companies.

It is therefore, recommended that the Board should frame the “Safe Harbour Rules” without any further loss of time. In the meantime, suitable instructions should also be issued giving guidelines for making just and fair TP assessments.

(The author is a Sr. Partner in S.S. Kothari Mehta & Co. E-mail: hp.agrawal@sskmin.com