Budget 2019: Changes in transfer pricing laws likely to play major role to improve business-friendly environment
It is possible that the taxpayer may have to switch to arithmetic mean, if the number of comparables falls below 6 during the course of assessment, which might add to the complexities and increase litigation.
The interim budget 2019 will be the most crucial one for the present government, which will present it on 1 February.
Finance ministers normally do not announce any major tax breaks in the interim budgets as that could financially burden the next government. Therefore, it is highly anticipated that this budget will at least rationalise existing tax provisions and provide more clarity on their application.
The recent assembly election losses in key states have triggered the expectations that the ruling party at the Centre could likely roll out a populist budget ahead of the general elections to be held a couple of months later.
The addressal of areas, where changes and clarifications are needed, are expected in this budget mainly with regard to the transfer pricing provisions.
A wish list or key expectations from the transfer pricing perspective is discussed below:
Concerns related to computation of margins
1. Widening the interquartile range to 25 percent - 75 percent
The interquartile range of 25th – 75th percentile is a globally accepted range which represents a better picture of economic realities. As per the current rules for using the range concept and multiple year data in the determination of arm’s length price (ALP), the range of 35th percentile to 65th percentile is used.
The current range is narrow and does not adhere to the global standards. Therefore, it creates issues while resolving problems with other jurisdictions. It is expected that an interquartile range of 25th to 75th percentile will be prescribed since it is an internationally accepted standard.
2. Minimum number of comparables for the applicability of range concept
“Range concept” is applicable only when there are more than six comparables available. However, obtaining good quality comparables is a challenge for taxpayers engaged in niche industries wherein sufficient comparables are not available. Such industries would not be able to adopt the range concept as envisaged.
Further, it is possible that the taxpayer may have to switch to the arithmetic mean, if the number of comparables falls below 6 during the course of assessment, which might add to the complexities and increase litigation. Hence, it is recommended that no minimum number of comparable entities be specified as a prerequisite for the use of the “range” concept.
3. Amend safe harbour rules (SHR)
Some key areas which need immediate attention of the government in order to facilitate ease of doing business are as follows:
• The operating profit margin of 17 percent- 18 percent with respect to Information Technology (IT) and IT-enabled services (ITES) is still on the higher side. A lower rate can help reduce compliance burden and litigation.
• Safe harbour margins for contract manufacturers of core and non-core auto components, contract research, development related to software development and pharmaceutical drugs are very high. Thus, a review of margins in the budget is expected.
• In case of overseas borrowing, the rates prescribed in the SHR are reasonable, but the mandatory condition of having the credit ratings of the overseas borrower approved by CRISIL may prove to be cost-prohibitive for the taxpayer in adopting the SHR.
Concerns related to reporting
4. Master file regulations
The current threshold limit for the applicability of master file is much lower than the Organisation for Economic Co-operation and Development (OECD) recommendations/global trend. It has brought a lot of medium-sized taxpayers into the ambit of master file compliance. Also, additional disclosure requirements have imposed material burden on a lot of taxpayers. Thus, it is expected that the government will review the existing threshold limit.
Concerns related to assessments and litigation
5. Advance pricing agreements (APA)
• The APA rollback provisions may be amended to enable rollback for all open years instead of limiting the same to a maximum of four years. These changes would go a long way in improving the mechanisms for dispute resolution.
6. Secondary adjustment
While as a concept, secondary adjustment is a globally accepted principle, it does pose certain challenges in the Indian context such as:
• Repatriation of the amount on account of transfer pricing adjustment back into India may not really benefit the Indian taxpayer if these amounts are not required for expansion in India.
• An option to remit or not to remit the amount of primary transaction should be provided to the taxpayer. In case where taxpayer opts not to remit, the amount may be treated as a “constructive dividend” as compared to current scenario where it is considered as “deemed loan”.
• A clarification on the basis of allocation of the secondary adjustment amount in case of multiple associated enterprises (AEs) where entity level transaction net margin method (TNMM) has been used for benchmarking the transaction can be a desirable move.
7. Limitation of interest provisions
• Section 94B of the Income Tax Act provides for limitation on interest deduction for interest in excess of 30 percent. In this regard, a group ratio rule, as advocated by OECD, in addition to fixed ratio rule, can provide relief to genuine taxpayers having high interest expense due to their nature of business.
• The law should exclude the reference to implicit guarantee, since it is not possible to prove or disprove implicit guarantee.
• Exemption from the application of the provision may be extended to sectors such as non-banking finance company (NBFC) and infrastructure.
To conclude, it is expected that the above discussed transfer pricing law-related proposals would go a long way in improving the business–friendly environment in India, if implemented.
(Kavita Sethia is senior manager with Deloitte Haskins & Sells LLP and Anurag Agrawal is assistant manager with Deloitte Haskins & Sells LLP)
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