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With incremental adoption of globalization and rapid growth in several multi-national companies trying to establish their operation facilities, production houses in India, taxation in India is being aligned with global tax practices.
Therefore, it is incredibly important for every business entity to develop a thorough understanding of the transfer pricing regulations applicable on an Indian registered business entity, to plan the way for a business as well as its tax structure.
Transfer pricing generally refers to the price(s) of transactions controlled and practiced between associated enterprises. Such pricing decisions may be taken under conditions differing from independent enterprises.
Transfer pricing is the value attached to transfers of goods, services, and technology between related entities located in different territories. It also refers to the value attached to transfers between unrelated parties which are controlled by a common entity.
In other words, Profits accruing to the parent company can be increased by setting high transfer prices to siphon off profits from subsidiaries registered and operating in high tax countries and low transfer prices to divert profits to subsidiaries located in low-tax jurisdictions.
Finance Act, 1994 had introduced section 92A to 92F under the Income Tax Act. This separate code on transfer pricing under Sections 92 to 92F of the Indian Income Tax Act, 1961 covers intra-group cross-border transactions which are applicable from 1st April 2001, and specified domestic transactions which are applicable from 1st April 2012.
The Income Tax Act, 1961 now prescribes that income arising from international transactions or specified domestic transactions between associated enterprises should be computed having regard to the arm’s-length price.
It has been notified that any allowance for an expenditure or interest or allocation of any cost or expense arising from an international transaction or specified domestic transaction also shall be determined having regard to the arm’s-length price.
Specified Domestic Transactions (SDTs) were inserted in the Income-tax Act, 1961 by the Finance Act, 2012 wherein specified transactions between related domestic companies were considered as specified domestic transactions and are subject to domestic transfer pricing regulations.
As per the provisions of the Act, once a transaction gets classified as a Specified Domestic Transaction, then all the compliance requirements relating to transfer pricing documentation, accountant’s report, etc. shall apply to it in the same manner as applicable for international transactions.
Inclusion of domestic transactions with parties specified under section 40A(2)(b) within the purview of Domestic Transfer Pricing resulted in excessive compliance on part of the taxpayers as all the transactions with related enterprises above a threshold limit were subjected to scrutiny and documentation from the transfer pricing perspective. Moreover, on analysis of certain items provided in Section 40A(2)(b), such as managerial remuneration posed practical difficulties to the taxpayers as no suitable comparable data are ordinarily available in the public domain to compute and compare arm’s length price.
Therefore, to significantly reduce the burden of such compliance, the Finance Act, 2017 has omitted the transactions with persons referred to in section 40A(2)(b) from the purview of domestic transfer pricing regulations.
It is mandatory for all taxpayers to obtain an independent accountant’s report in respect of all international transactions between associated enterprises and specified domestic transactions.
Such a report has to be furnished by the due date of the tax return filing (i.e. on or before 30 November following the end of the financial year). This report requires the accountant to give an opinion on the proper maintenance of prescribed documents and information by the taxpayer. Furthermore, the accountant is required to certify the correctness of an extensive list of prescribed particulars.
For a transaction to be covered under the definition of Specified Domestic Transaction, the aggregate value of all the specified transactions as per the provisions of Section 92BA should exceed the Rs. 20 crores with effect from Assessment year 2016-17.
Such threshold limit for Specified Domestic Transactions can be computed on a Gross basis or Net basis. If the taxpayer is availing input credits for indirect tax levies such as Good and services tax, etc. then such threshold limit shall be computed excluding such indirect taxes. However, where the taxpayer is not availing such credits, then such computation shall be made on a gross basis i.e., including the amount of such taxes.
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