WHAT IS
TRANSFER PRICING?
Transfer pricing, for tax purposes, is the pricing
of intercompany transactions that take place between affiliated businesses. The
transfer pricing process determines the amount of income that each party earns
from that transaction.
An exercise largely carried out for Tax
Minimization across the group. As long as the group is controlling the funds,
it does not matter where they are parked.
Taxpayers and the taxing authorities focus
exclusively on related-party transactions, which are called controlled
transactions, and have no direct impact on independent party transactions,
which are termed as uncontrolled transactions.
DEFINITION
"A transfer price is a price, adopted for
bookkeeping purposes, which is used to value transactions between affiliated
enterprises integrated under the same management at artificially high or low
levels in order to effect an unspecified income payment or capital transfer
between those enterprises." –OECD
Commercial transactions between
the different parts of the multinational groups may not be subject to the same
market forces shaping relations between the two independent firms. One party
transfer to other goods or services, for a price. That price is known as
"transfer price"
This may be arbitrary and dictated, with no
relation to cost and added value, diverge from the market forces.
Transfer price is, thus, a price that represents
the value of good; or services between independently operating units of an
organization. But, the expression "transfer pricing" generally refers
to prices of transactions between associated enterprises which may take place
under conditions differing from those taking place between independent
enterprises. It refers to the value attached to transfers of goods, services,
and technology between related entities. It also refers to the value attached
to transfers between unrelated parties which are controlled by a common entity.
Suppose a company A purchases goods for 100 rupees
and sells it to its associated company B in another country for 200 rupees, who
in turn sells in the open market for 400 rupees. Had A sold it directly, it
would have made a profit of 300 rupees. But by routing it through B, it
restricted it to 100 rupees, permitting B to appropriate the balance. The
transaction between A and B is arranged and not governed by market forces. The
profit of 200 rupees is, thereby, shifted to the country of B. The goods are
transferred on a price (transfer price) which is arbitrary or dictated (200
hundred rupees), but not on the market price (400 rupees).
Thus, the effect of transfer pricing is that the
parent company or a specific subsidiary tends to produce insufficient taxable
income or excessive loss on a transaction. For instance, profits accruing to
the parent can be increased by setting high transfer prices to siphon profits
from subsidiaries domiciled in high tax countries, and low transfer prices to
move profits to subsidiaries located in low tax jurisdiction. As an example of
this, a group that manufactures products in high tax countries may decide to
sell them at a low profit to its affiliate sales company based in a tax haven
country. That company would in turn sell the product at an arm's length price
and the resulting (inflated) profit would be subject to little or no tax in
that country. The result is revenue loss and also a drain on foreign exchange
reserves. – Income Tax Department
"ARM'S LENGTH PRICE" means a price which is applied or proposed to be applied in a
transaction between persons other than associated enterprises, in uncontrolled
conditions;
"Inter-national
transaction"
means a transaction between two or more associated
enterprises, either or both of whom are non-residents, in the nature of
purchase, sale or lease of tangible or intangible property, or provision of
services, or lending or borrowing money, or any other transaction having a
bearing on the profits, income, losses or assets of such enterprises, and shall
include a mutual agreement or arrangement between two or more associated
enterprises for the allocation or apportionment of, or any contribution to, any
cost or expense incurred or to be incurred in connection with a benefit,
service or facility provided or to be provided to anyone or more of such
enterprises.
(2) A transaction entered into by an enterprise
with a person other than an associated enterprise shall, for the purposes of
sub-section (1), be deemed to be an international transaction entered into
between two associated enterprises, if there exists a prior agreement in
relation to the relevant transaction between such other person and the
associated enterprise, or the terms of the relevant transaction are determined
in substance between such other person and the associated enterprise where the
enterprise or the associated enterprise or both of them are non-residents
irrespective of whether such other person is a non-resident or not. (Defined
as per section 92, 92C, 92D, and 92E)
OBJECT OF
TRANSFER PRICING REGULATIONS
In India, transfer pricing regulations date back to
1939 which were adopted in the 1961 Act. In view of the increasing
participation of MNEs in the economic life of India, particularly, after the
liberalization of the Indian economy in 1991, a need was felt to provide a
detailed statutory framework which can lead to a reasonable, fair, and
equitable profit allocation and tax to India. Accordingly, sections 92 to 92F
were introduced with effect from 01.04.2002 along with rules 10A to 10E
notified on 21.08.2002. These provisions covered the meaning of the terms
'international transaction' and 'associated enterprises' besides providing
methods for computation of arm's length price and documentation requirements.
The provisions also created an authority named Transfer Pricing Officer for the
specialized role of determining arm's length price after the assessing officer
has made a reference of an international transaction to the above authority.
This process was completed after extensive consultations and feedback from all
the stakeholders.
The basic intention underlying these transfer
pricing regulations was to prevent shifting out of profits from India by
manipulating prices charged in international transactions, thereby eroding the
country's tax base.
TRANSACTIONS
SUBJECT TO TRANSFER PRICING
The following are some of the typical international
transactions which are governed by the transfer pricing rules:
- Sale of finished goods;
- Purchase of raw material;
- Purchase of fixed assets; Sale or
purchase of machinery etc.
- Sale or purchase of Intangibles.
- Reimbursement of expenses paid/received;
- IT Enabled Services;
- Support services;
- Software Development services;
- Technical Service fees;
- Management fees;
- Royalty fee;
- Corporate Guarantee fees;
- Loan received or paid.
PURPOSES OF
TRANSFER PRICING
The key objectives behind having transfer pricing
are:
- Generating separate profit for each of
the divisions and enabling performance evaluation of each division
separately.
- Transfer prices would affect not just the
reported profits of every center, but would also affect the allocation of
a company's resources (Cost incurred by one center will be considered as
the resources utilized by them).
THE BASIC
ISSUES IN THE 'TRANSFER PRICING':
- Tax Mitigation
- Jurisdictional Issues
- Comparable Data/Information
- Availability of Qualitative Data
- Application of Data Rules
- Risk Related issues
- Valuation Issues
- Diversion of Funds
- Borrowing or Lending
RATIONALE
In a globalized economy, there has been an
emergence of Multi-National Enterprises, wherein the parent company may be in
one country while its various subsidiaries and Branches/Associated Enterprises
will be spread over in different countries.
- This has led to an increasing volume of
transactions within an MNE Group, which are also called Intra Group
Transactions. Since these Intra Group Transactions are not purely governed
by market forces but are driven by the Group Companies' common interests,
the pricing of such Intra Group Transactions often becomes a subject of
controversy.
- MNE/MNCs try to distribute their profits
amongst the various companies within the Group located in different
countries.
Conceptual Framework of Transfer Pricing depends on
the Permanent Establishment (PE), Business Connection, Enterprise, Place of
Effective Management (POEM) – a concept introduced by the Finance Act, 2017,
Associated Enterprise (AE) and International Transactions that are discussed in
a nutshell herewith.
WHY
ORGANIZATIONS NEED TO UNDERSTAND TRANSFER PRICING
- For the purpose of management accounting
and reporting, multinational companies (MNCs) have some amount of
discretion while defining how to distribute the profits and expenses to
the subsidiaries located in various countries.
- The profitability of a subsidiary depends
on the prices at which the inter-company transactions occur. These days
the inter-company transactions are facing increased scrutiny by the
governments. Here, when transfer pricing is applied, it could impact shareholders'
wealth as this influences company's taxable income and its after-tax, free
cash flow.
- It is important that a business having
cross-border intercompany transactions should understand the transfer
pricing concept, particularly for the compliance requirements as
per law, and to eliminate the risks of non-compliance.
TRANSFER
PRICING METHODOLOGIES
- Comparable Uncontrolled Price (CUP)
Method
- Resale Price Method or Resale Minus
Method
- Cost Plus Method
- Profit Split Method
- Transaction Net Margin
- Another method – rationale on TP was on
arm's length
- Most Appropriate Method (MAM) – Rule 10C
of Income Tax Rules
STEPS
INVOLVED IN TRANSFER PRICING
- Maintenance of TP study report
- Reference to a TPO
- Transfer Pricing Order
- Draft Assessment Order
- Reference to Dispute Resolution Panel
- Directions of DRP
- Final Assessment Order
PROBLEMS
ASSOCIATED WITH TRANSFER PRICING
There are quite a few problems associated with
transfer prices. Some of these issues include:
- Different opinions among organizational
divisions
- Additional time, costs and manpower would
be required for executing the transfer prices and designing the accounting
system to match the requirements of transfer pricing rules.
- Arm's length prices might cause
dysfunctional behavior among the managers of organizational units.
- For some of the divisions or departments,
for instance, a service department, arm's length prices don't work equally
well as such departments don't offer measurable benefits.
- The transfer pricing issue in a
multinational setup is very complicated.
DISPUTE
RESOLUTION MECHANISMS UNDER TRANSFER PRICING
Early finalization of tax liability is a
prerequisite for any effective tax system enabling early collection of revenues
legally due.
The dispute resolution mechanisms applicable to the
taxes on income relating to cross-border transactions comprise domestic
mechanisms and the mutual agreement procedures under
the tax treaties. The domestic mechanism consists of appeals and judicial
reviews.
The mutual agreement procedure to resolve the
issues arising under the tax treaties is the other limb of the mechanism. It is
for the taxpayer to choose the forum which will be the most effective,
depending upon the facts and circumstances of his case.
The first appellate authority is the CIT(A).
However, any person in whose case there is variation in the income or loss
returned as per the order proposed by the assessing officer, on the basis of
the computation by the TPO of the arm's length price as also a foreign company,
the draft of the order of assessment which is prejudicial to the interest of
the assessee and the variation is not acceptable to the taxpayer, he can file
his objections to the Dispute Resolution Panels (DRP) based in
Delhi and Mumbai.
This Panel comprises three Commissioners who are
its full-time members. The powers of the DRP are coterminous with those of the
assessing officer. The DRP is empowered to issue such directions as he thinks
fit after considering the draft order, the objections by the assessee, and the
evidence furnished or collected.
An order passed by an assessing officer pursuant to
the directions of the DRP is appealable before the Tribunal which is the final
fact-finding authority.
An appeal lies to the High Court from any order of
Tribunal involving a substantial question of law. An appeal is provided to the
Supreme Court from any judgment of High Court subject to certificate of fitness
by the High Court certifying that the case involves a substantial question of
law of general importance. India has developed a sophisticated body of case
laws.
- Article 25 of the Model Double Taxation
Convention provides an alternative mechanism in the form of Mutual
Agreement Procedure (MAP) irrespective of the remedies provided
by the domestic law of the respective States. It is the responsibility of
tax administrations who are parties to tax Conventions to ensure that the
taxpayers are not subjected to double taxation, do not avail of unintended
double non-taxation, and are not subject to taxation not in accordance
with the provisions of a tax Convention. MAP is intended to resolve
disputes in respect of these issues. A large number of cases under MAP are
in the context of transfer pricing problems and the issue of the existence
of PE.
- Advance Pricing Agreement (APA)
is an arrangement in respect of certain specified transactions that
determine in advance for a specified period, the appropriate criteria for
determining the arm's length price of an international transaction, or
specifies the manner in which such price is to be determined. This is a
dispute prevention mechanism. The main purpose of an APA is to supplement
traditional administrative, judicial, and treaty mechanisms for resolving
transfer pricing issues in an environment of co-operative and non-adversarial
negotiation for resolution of transfer pricing issues.
- There are three types of APAs, namely,
unilateral, bilateral, and multilateral. This process is initiated with
pre-filing consultation followed by the furnishing of an APA application,
due diligence, analysis of the terms of an application by the APA team,
negotiation between the competent authorities in the cases of bilateral or
multilateral APA, acceptance or rejection of an APA application, entering
into APA, its implementation, filing of annual compliance report by the
taxpayer and compliance audit by the tax authorities concerned. This may
result in renewal, revocation, revision, or cancellation of the APA.
2. International Transaction:
3. Specified Domestic Transaction:
Provided that the aggregate value of the transaction entered into by the assessee with its domestic AE exceeds Rs. 5 crore.
4. Arm's Length Price:
Transfer pricing Study Report
Relevant Sections under Income Tax Act
Eligible international transaction
|
Threshold limit prescribed
|
Safe harbor margin
|
Provision of software development services &information technology enabled services with insignificant risks
|
Up to Rs 500 Crore
|
20 % or more on total operatingcosts
|
Above Rs 500 Crore
|
22 % or more on total operating costs
| |
Provision of knowledge processes outsourcing services with insignificant risks
|
25 % or more on total operating costs
| |
Advancing of intra-group loan to a nonresident wholly owned subsidiary
|
Interest rate equal to or greater than the base rate of SBI as on 30th June of relevant previous year
| |
Up to Rs 50 Crore
|
Plus 150 basis points
| |
Above Rs 50 Crore
|
Plus 150 basis points
| |
Providing explicit corporate guarantee to wholly owned subsidiary (WOS)
|
The commission or fee declared in relation to the international transaction is
| |
Up to Rs 100 Crore
|
at the rate of 2% or more per annum on the amount guaranteed
| |
Above Rs 100 Crore, provided the WOS has been rated to be of adequate to highest safety by a rating agency registered with SEBI
|
at the rate of 1.75% or more per annum on the amount guaranteed
| |
Provision of specified contract R&D services wholly or partly relating to software development with insignificant risks
|
30% or more on total operating costs
| |
Provision of contract R&D services wholly or partly relating to generic pharmaceutical drugs with insignificant risks
|
29% or more on total operating costs
| |
Manufacture and export of core autocomponents
|
12% or more on total operating costs
| |
Manufacture and export of noncore auto components where 90% or more of total turnover during the relevant previous year is in the nature of original equipment manufacturer (OEM) sales
|
8.5% or more on total operating costs
| |
Action
|
Timeline
|
Reference by AO to TPO to determine eligibility of assessee or international transaction or both for purposes of the safe harbor
|
Two months from the end of the month in which Form 3CEFA is received by AO
|
TPO to pass an order after determining validity or otherwise of the option exercised by the assessee
|
Two months from the end of the month in which reference from AO is received
|
Commissioner to pass an order with respect to the validity or otherwise of the option exercised by the assessee
|
Two months from the end of the month in which the objections filed by the assessee are received
|
Sixth Method of transfer pricing
Transfer Pricing : Ever Evolving with new concepts : OECD BEPS , Formulary apportionment
Transfer pricing - OECD Base Erosion and Profit Shifting Action Plan
Vodafone Tax Case - The journey from May 2010 to 8th Oct 2015
The Vodafone Tax Dispute — Judgment of the Bombay High Court
|
Article Details :
| ||
The tax dispute between the Indian Tax Authorities and Vodafone in connection with taxability of the $ 11.2 billion Hutch-Vodafone deal is one of the biggest controversies in Indian multijurisdictional M&A history. The quantum of tax demand by the Indian Revenue Authorities in this particular case could be around Rs.12,000 crore plus interest. Further, the outcome of this dispute could also have implications on other similar cross-border deals being scrutinised by the Indian Tax Authorities for possible loss of tax revenue. As a result, the developments of this case are being closely followed by many multinationals, M&A consultants and even by the International business and tax fraternity.
We have summarised below the key aspects of the recent landmark judgment of the Bombay High Court on the Vodafone tax dispute and have also given our personal comments on some of the questions generally being raised by fellow professionals post this judgment.
Background of the case :
In December, 2006, Hutchison Telecommunications International Ltd. (HTIL), a company incorporated in Cayman Islands and having its principal executive office at Hong Kong, held 66.9848% interest in an Indian company, Hutchison Essar Ltd. (HEL) through a maze of subsidiaries in British Virgin Islands, Cayman Islands and Mauritius (around 15 offshore companies) and through complicated ‘option’ agreements with a number of Indian companies. HEL along with its Indian subsidiaries held licences for providing cellular services in 23 telecom circles in India. The balance 33.0152% interest in HEL was held by the Essar Group of Companies.
Vodafone (through its Netherlands entity) entered into a share purchase agreement with HTIL in February 2007 to acquire the said 66.9848% interest in Hutchison Essar Ltd. and it claims to have acquired the same through purchase of the solitary share of a Cayman Island company of the Hutch Group [viz., CGP Investments (Holdings) Ltd. (CGP)].
The Indian Revenue Authorities alleged that Vodafone International Holdings B.V., Netherlands (Vodafone BV) had failed to withhold income-tax on the payment of consideration made to HTIL and, hence, sought to assess tax in its hands as a taxpayer in default and it issued a notice to Vodafone.
Vodafone BV had challenged the issue of this notice before the Bombay High Court and the case was decided against it. Vodafone filed a petition before the Supreme Court (SC); however, the same was dismissed by the SC and it directed the Revenue Authorities to decide whether it had jurisdiction to tax the transaction and it also said that if the issue was decided against Vodafone BV, Vodafone BV was entitled to challenge it as a question of law before the High Court.
The Revenue Authorities by an order in May 2010 held that it had jurisdiction to treat Vodafone BV as an assessee in default u/s.201 of the Income-tax Act, 1961 for failure to deduct tax at source.
This order was challenged by Vodafone BV before the Bombay High Court, by a writ petition. The key issue before the HC was whether the Indian Revenue Authorities have the jurisdiction to proceed against Vodafone BV and tax the transaction.
Primary contention of Vodafone :
The basic contention of Vodafone was that the transaction represents a transfer of a share (which is a capital asset) of a Cayman Island company, i.e., CGP. CGP through its downstream subsidiaries, directly or indirectly controlled equity interest in HEL. Any gain arising to the transferor or to any other person out of this transfer of a share of CGP is not taxable in India because the asset (i.e., share) is not situated in India.
Primary contention of Revenue :
The contention of the Revenue is that the share purchase agreement between HTIL and Vodafone and other transaction documents establishes that the subject-matter of the transaction is not merely the transfer of one share of CGP situated in Cayman Islands as contended by Vodafone. The transaction constitutes a transfer of the composite rights of HTIL in HEL as a result of the divestment of HTIL’s rights, which paved the way for Vodafone to step into the shoes of HTIL. Such transaction has a sufficient territorial nexus to India and is chargeable to tax under the Income-tax Act, 1961.
Decision of Bombay High Court :
The High Court dismissed the petition of Vodafone BV and has accepted the argument of the Income tax Authorities that the transaction in question had a significant nexus with India and the proceedings initiated by it cannot be held to lack jurisdiction.
(i) The key aspects observed by the High Court :
Before analysing the facts of the instant case, the High Court made observations on certain general principles, some of which are given below :
- Tax planning is legitimate so long as the assessee does not resort to a colourable device or a sham transaction with a view to evade taxes;
- A controlling interest which a shareholder acquires is an incident of the holding of shares and has no separate or identifiable existence distinct from the shareholding;
- S. 195(1) of the Income-tax Act, 1961 provides for a tentative deduction of income-tax, subject to a regular assessment;
- The Parliament, while imposing a liability to deduct tax has designedly imposed it on a person and has not restricted it to a resident and the Court will not imply a restriction not imposed by legislation.
(ii) Analysis of facts :
The High Court analysed the various agreements entered into by the parties (like share purchase agreement between HTIL and Vodafone BV, term sheet agreement between HTIL and Essar group for regulating the affairs of HEL which was later replaced by a similar term sheet agreement between Vodafone and Essar group, brand licence agreement granting a non-transferable royalty-free right to Vodafone BV to use IPRs for a certain period, agreement for assignment of loans to Vodafone BV, framework agreements for option rights, etc.) and the various disclosures made by the parties (like disclosures made by HTIL in its annual reports, disclosures made by Vodafone in its offer letter, disclosures made by Vodafone before the FIPB, etc.) for ascertaining the subject-matter of the transaction and the business understanding of the parties to the transaction.
(iii) Conclusions :
Based on the analysis of the above documents and disclosures, the High Court held that :
The transaction between HTIL and Vodafone BV was structured so as to achieve the object of discontinuing the operations of HTIL in relation to the Indian mobile telecommunication operations by transferring the rights and entitlements of HTIL to Vodafone BV. HEL was at all times intended to be the target company and a transfer of the controlling interest in HEL was the purpose which was achieved by the transaction. The due diligence report of Ernst & Young also emphasises this and it also suggests that the transfer of the solitary share of CGP, a Cayman Islands company was put into place at the behest of HTIL, subsequently as a mode of effectuating the goal.
The rights under the option agreements were created in consideration of HTIL financing such Indian companies for making their investments in HEL. The benefit of those option agreements with Indian companies had to be transferred to Vodafone BV as an integral part of the transfer of control over HEL.
The transfer of the CGP share was not adequate in itself to consummate the transaction. The transactional documents are not merely incidental or consequential to the transfer of the CGP share, but recognised independently the rights and entitlements of HTIL in the Indian business, which were being transferred to Vodafone BV. These rights and entitlements constitute in themselves capital assets.
For Income-tax Law what is relevant is the place from which or the source from which the profits or gains have generated or have accrued or arisen to the seller. If there was no divestment or relinquishment of HTIL’s interest in India, there was no occasion for the income to arise. The real taxable event is the divestment of HTIL’s interests which comprises in itself various facets or components which include a transfer of interests in different group entities.
Apportionment of the consideration lies within the jurisdiction of the Assessing Officer during the course of the assessment proceedings. Such an enquiry would lie outside the realm of the present proceedings.
The transaction between HTIL and Vodafone BV had a sufficient nexus with Indian fiscal jurisdiction. The essence of the transaction was a change in the controlling interest in HEL which constituted a source of income in India. Accordingly, Indian Tax Authorities have acted within their jurisdiction in initiating the proceedings against the Petitioner for not deducting tax at source. As regards the withholding obligation on a non-resident, the High Court held that once the nexus with Indian fiscal jurisdiction is shown to exist, the provisions of S. 195 would operate.
Issues involved and our view :
1. Whether all offshore share transactions which indirectly involve transfer of underlying Indian assets are taxable in India ?
Ever since the Indian Revenue Authorities initiated proceedings against Vodafone, we have been hearing this concern from everyone including many international tax experts that how can the Indian Revenue Authorities tax a transaction of sale of shares of a foreign company by one non-resident to another non-resident by taking an argument that pursuant to such sale of shares, underlying assets in India get transferred ?
We believe that in the instant case, the Revenue is not seeking to tax the transaction in India on the ground that there is an indirect transfer of underlying assets situated in India on account of a transaction of transfer of shares of a foreign company. It seems that the Revenue’s contention is that on evaluation of the various transaction documents executed by HTIL and Vodafone, it can be established that the transaction itself is for transfer of composite rights including, in particular, rights under a joint venture agreement (which constitute a capital asset situated in India) and the transfer of share of an overseas company is only a mode for facilitating the transaction.
It has to be accepted that for evaluating the taxability of a transaction, one needs to first understand the true nature and character of a transaction.
The High Court before analysing the facts in the instant case, laid down the general principle that legal effect of a transaction cannot be ignored in search of ‘substance’ over ‘form’. However, the High Court has also rightly held that in assessing the true nature and character of a transaction, the label which parties may ascribe to the transaction is not determinative of its character. The nature of the transaction (i.e., ‘form’ of the transaction) has to be ascertained from the covenants of the contract and from the surrounding circumstances. The subject matter of the transaction must be viewed from a commercial and realistic perspective. The terms of the transaction are to be interpreted by applying rules of ordinary and natural construction.
After going through the facts available on record, including various public disclosures made by the Hutch and Vodafone Group and share purchase agreement and other transaction documents entered into between the parties, which have been very well analysed by the High Court in its judgment, there is no doubt in the mind of the High Court that the subject-matter of the transaction in the instant case, even in ‘form’, is not one share of the Cayman Islands Company, but it is a transfer of controlling interest (including various rights and entitlements) in HEL, India. As noted by the High Court, the acquisition of one share of the Cayman Islands company was only a mode chosen by the parties to facilitate the process.
The High Court thus rejected the submission of Vodafone that the transaction involves merely a sale of a share of a foreign company, which is a capital asset situated outside India and all that was transferred was that which was attached to and emanated from such solitary share. The High Court also noted that it was based on such false hypothesis that it was being urged by Vodafone that the rights and entitlements which flow out of the holding of a share cannot be dissected from the ownership of the share.
Thus, it is based on the detailed evaluation of the specific facts and documents of this transaction that the High Court finally concluded that the real taxable event is the divestment of HTIL’s interests in India and it accepted the argument of the Revenue that the transaction in question had a significant nexus with India and the proceedings initiated by it cannot be held to lack jurisdiction.
Hence, the High Court ruling does not at all hold that offshore share transactions which indirectly involve transfer of underlying Indian assets can be taxed in India.
2. Whether withholding is required on the entire consideration or there needs to be an apportionment ?
The High Court has held that an enquiry on the aspect of apportionment of the total consideration would lie outside the purview of the proceedings before it and the aspect of apportionment lies within the jurisdiction of the Assessing Officer during the course of the assessment proceedings. Thus, it would be for the Assessing Officer to determine during the course of assessment proceedings whether there is any income out of the total consideration which cannot be said to have accrued or arisen in India or cannot be deemed to have accrued or arisen in India and hence cannot be taxed in India. The observations clearly relate to ‘assessment’ and not to deduction of tax.
It would also be relevant to note that the High Court while laying down the principles governing the interpretation of the provisions of S. 195 held that S. 195(1) provides for a tentative deduction of income tax, subject to a regular assessment.
The High Court has only held that the composite payment by Vodafone had nexus with and included payment giving rise to income accruing or arising in India. Consequently, the High Court has decided the question before it, viz., whether the Indian Tax Authorities have the jurisdiction to take action against Vodafone for having made the payment without deducting tax as it was required to do u/s.195.
The High Court has not gone into, nor made any observations or given any decision about whether the whole or part of the payment would be liable to deduction of tax, the rate at which tax is to be deducted, etc. The High Court was not required to and has expressed absolutely no views on any of these matters which the Officer has to adjudicate.
3. Is there an inconsistency in the observation made by the High Court on the aspect of controlling interest not being a capital asset and its final conclusion ?
The High Court before analysing the facts in the instant case, laid down the general principle that the controlling interest which a shareholder acquires is an incident of the holding of shares and has no separate or identifiable existence distinct from the shareholding. After a detailed evaluation of the specific facts and documents of this transaction, the High Court finally concluded that the essence of the transaction was a change in the controlling interest in HEL which constituted a source of income in India. With due respect to the High Court, is there an inconsistency in the observation made by the High Court and its final conclusion ?
In our view, there is no inconsistency, as the entire order needs to be read harmoniously. The term ‘controlling interest’ in the general principle laid down by the High Court that ‘the controlling interest which a shareholder acquires is an incident of the holding of shares and has no separate or identifiable existence distinct from the shareholding’ seems to refer to controlling interest acquired as an incidence of acquisition of a particular number of shares. The High Court has not made any general observations about a case where the subject matter of the transfer is the ‘controlling interest’ and the requisite number of shares are transferred or delivered, directly or indirectly, for achieving the transfer of the ‘controlling interest’. In any case, the term ‘controlling interest’ used by the High Court in its final conclusion represents the entire business interest of HTIL in the Indian mobile telecommunication operations, i.e., HTIL’s interest in HEL, which includes (a) Equity interest of 42.34% held by HTIL through its subsidiaries (b) Equity interest of 9.58% held by HTIL through minority equity holdings of its subsidiaries in certain Indian companies which in turn held equity interest in HEL (c) Rights (and call and put options) representing HTIL’s economic interest in 15.03% equity of HEL (d) Assignment of loans (e) Other rights and entitlements.
Further to the above, it may also be worthwhile to evaluate if the above general principle will hold good in a situation where the transaction between the parties incidentally results in the acquisition of controlling interest in a subsidiary company (say, an Indian company) as a consequence of transferring shares of an overseas parent company. The same does not seem to have been evaluated by the High Court in the instant case, may be because such evaluation was not necessary here as the transaction was for transfer of entire business interest in HEL which included various rights and entitlements which anyway could not have been transferred in the manner in which they were transferred by the transfer of one share of CGP and the consideration was for the transfer of such entire business interest as a package.
4. Will the Vodafone case create a negative perception of India in the eyes of foreign investors ?
As could be seen from the High Court order, the action of the Indian Tax Authorities in this particular case is based on a proper and detailed analysis of the facts and circumstances of this case and the relevant provisions under the domestic Income-tax law which are very widely worded. It is important to note that no tax treaty is applicable in this particular case and hence it is not a case that the Indian Government is not honouring its commitment to foreign investors by proposing to tax the impugned transaction in the case of Vodafone. Also, here it is not the claim of Vodafone that there is double taxation on the income from the transfer of controlling interest in HEL. Further, it has to be appreciated that tax cost is only one of the various costs of a business and business decisions are not taken entirely on the basis of tax cost.
The order of the High Court has not been stayed by the Supreme Court, on the contrary the Supreme Court directed the Income-tax Department to pass an order to quantify the tax liability. Thus, the action of the tax authorities in this particular case has not only been held as reasonable and not without substance, but also legal, and it will be taken in the right perspective by foreign investors and it should not have an adverse impact on M&A activity in India.
| ||
Month-Year :
|
Nov 2010
| |
Author/s :
|
T. P. Ostwal
Manoj Solanki Chartered Accountants | |
Topic :
|
The Vodafone Tax Dispute — A Landmark Judgment of the Bombay High Court
| |
Other Cases
TDS on Royalty
Transfer Pricing
Capital Gains
India had introduced secondary adjustment provisions under Section 92CE of the Income Tax Act, 1961 (‘the Act’) vide Finance Act, 2017 that aligned with the international best practices.
- Voluntarily made by the taxpayer in the tax return.
- Made by the tax officer and accepted by the taxpayer.
- Determined by an Advance Pricing Agreement (APA) entered into by the taxpayer under Section 92CC.
- Made as per the safe harbour rules under Section 92CB.
- Resulted from a Mutual Agreement Procedure (MAP) resolution under Section 90 or Section 90A.
Secondary Adjustment : Options provided
Before 2019 (between 2017 and 2019) the taxpayer is required to carry out secondary adjustment if the taxpayer does not repatriate the amount of transfer pricing adjustment to India from its associated enterprise (AE), within prescribed time limit. The same is considered as a deemed advance and the taxpayer is required to pay taxes on deemed interest thereto.
The Finance Minister has proposed to provide an option to the taxpayers to make one-time payment of tax including surcharge on the amount of transfer pricing adjustment or part thereof, instead of tax on deemed interest every year in case the taxpayer does not repatriate money from its AE in India.
The Bill (with effect from 01 September 2019) proposes to provide an option to the taxpayer to pay additional tax @ 18% on excess money, which cannot be repatriated into India from the AE. The additional tax is proposed to be increased by a surcharge of 12%. This additional tax is required to be paid in addition to the existing requirement of tax on deemed interest till the date of payment of additional tax.
This provides an option to a taxpayer to opt for payment of taxes on primary adjustment thereby receiving upfront certainty. However, while opting this alternative, the taxpayer would need to note the following:
> the tax so paid shall be the final payment of tax and no credit shall be allowed in respect of the amount of tax so paid; and
> the deduction in respect of the amount on which such tax has been paid, shall not be allowed under any other provision of the Act.
Equating this with the internationally prevailing best practices, most of the countries having secondary adjustment in the local regulations do provide an opportunity to taxpayer to repatriate the money within the prescribed time frame; failing which a secondary adjustment is imposed. Similar to India, where the money is not repatriated, some countries consider it as deemed advance but some countries also consider this amount as deemed equity contribution or deemed dividend. Some of the countries having secondary adjustment in the form of constructive dividend include the USA, France, Canada and South Africa. Hence, in a way, the taxpayers have been provided an option to consider the secondary adjustment as deemed dividend (whereby the taxpayer can pay one-time additional tax and avoid repatriation) or to consider it as deemed advance till the time the money is repatriated into India. Thus, the proposed amendment is in line with the internationally accepted best practices.
AEs which can repatriate: The condition of repatriating money into India raised issues in certain situations e.g. cessation of AE relationship, non-existence of AE at the time of secondary adjustment, primary adjustment relate to multiple AEs, AE faces financial difficulties in repatriating the money etc. This led to undue hardship to taxpayers in fulfilling the conditions laid under these provisions.
Towards this, the Bill proposes to provide an option to get excess money repatriated into India from any of its AEs, which is not resident in India. The issue, which MNEs may practically come across, is the deductibility in the hands of the AE making repatriation, which was not the party to the primary transaction. For example, in case the Indian taxpayer has a transaction with AE based in say, country A, however, due to some reason, the AE is unable to repatriate money, and the group decides that the AE based in say country B would repatriate the money into India. In that case, the AE based in Country B may not be able to avail deduction of such sum if the same does not meet with arm’s length standard, thus, causing double taxation.
APA: Another clarification proposed by the Bill is that secondary adjustment provisions shall only be applicable to APAs, which have been signed on or after 1 April 2017; however, no refund of the taxes already paid till date under the pre amended section would be allowed.
Other TP Amendments
In addition to the above, the Bill has also proposed following other clarifications in the transfer pricing space:
> APA – Taxpayers had apprehension that tax officers would recompute/ reassess the entire income of a taxpayer who files a modified return of income pursuant to entering into an APA. The Bill proposes to clarify that in cases where assessment or reassessment has already been completed and modified return of income is filed by the taxpayer, tax officers shall pass an order of the assessment or reassessment to only modify the total income of the taxpayer to the extent of terms of APA.
> Country-by-Country Report (CbCR) – The term ‘accounting year’ in cases where a group has designated an alternate reporting entity (ARE), resident in India, raised ambiguity as to whether it refers the Indian entity’s year end or parent entity’s year end. To address such concern and bring clarity in law, the Bill proposes that in case of ARE, the reporting accounting year shall be considered as that of the parent entity.
> Maintenance and keeping of information and documentation – On plain reading of the current regulations, there was an interpretational issue as to whether a person not having any international transaction is required to comply with the maintenance of master file part A of Form No. 3CEAA or not. It has, now, been proposed that every constituent entity of an international group would be required to prepare and maintain master file (including filing of required form) even when there is no international transaction undertaken by such constituent entity. This amendment is more clarificatory in nature as it intended to remove the above anomaly. With this amendment, the constituent entities will be required to file Part A of Form No. 3CEAA even if there are no international transactions.
Further, it is proposed that the Assessing officer and Commissioner (Appeals) shall not have the power to call for the master file and the access to the same will only be given to prescribed authority. This would certainty provide a sigh of relief to the taxpayer regarding confidentiality and usage of data. The proposed amendment shall take effect from 01 April 2020 or AY 2020-21 and subsequent years.
Conclusion
Most of the proposed amendments are indeed a welcome move for taxpayers in providing certainty for various aspects in transfer pricing space. The Bill has provided clarifications on many open questions on issues like secondary adjustment, CbCR, and APA. Overall, the proposed amendments have intended to provide clarifications aiming at practical and better implementation of the regulations
ADVANCED PRICING AGREEMENT (APA) &
MUTUAL AGREEMENT PROCEDURES (MAP)
I. APA
INTRODUCTION
Advance Pricing Agreement (‘APA’) is an agreement between a taxpayer and tax authority, determining the transfer pricing methodology for pricing the taxpayer’s international transactions for future years. The methodology is to be applied for a certain period of time based on the fulfilment of certain terms and conditions (called critical assumptions). It is a voluntary process initiated by the taxpayer.
APA provisions were introduced in the Income-tax Act, 1961 (‘Act’) w.e.f. 1 July 2012 which makes it a decade of implementation. The rules in respect of the APA scheme have been notified by the Central Board of Direct Taxes (‘CBDT’) by way of insertion of Rule 10F to Rule 10T and Rule 44GA in the Income-tax Rules, 1962 (‘Rules’).
Since its introduction, the APA scheme has been progressing steadily showcasing the Government’s intention of fostering a non-adversarial tax regime. The Indian APA programme has been appreciated nationally and internationally for being able to address complex transfer pricing issues in a fair and transparent manner.
PROVISIONS – SECTIONS 92CC & 92CD
Section 92CC of the Act provides for Advance Pricing Agreement. It empowers the CBDT, with the approval of the Central Government, to enter into an APA with any person for determining the Arm’s Length Price (‘ALP’) or specifying the manner in which ALP is to be determined in relation to an international transaction(s) to be entered into by the person.
The agreement entered into is valid for a period, not exceeding five consecutive future years, as may be specified in the agreement. With amendment to the provisions of the Act w.e.f. 1 October 2014, the agreement entered into shall also be valid for a period, not exceeding four rollback years.
Once the agreement is entered into, the ALP of the international transaction(s), which is subject matter of the APA, would be determined in accordance with such an APA. The agreement entered into shall be binding on taxpayer and income tax authorities, unless there is change in law or facts having bearing on the agreement so entered.
CBDT with the prior approval of the Central Government can declare an agreement void ab initio if it finds that the taxpayer has obtained the agreement by fraud or misrepresentation of facts. Once the agreement has been declared as void ab initio, all the provisions of the Act shall apply to the taxpayer as if the agreement has never been entered into.
Section 92CD of the Act provides for Effect to Advance Pricing Agreement. It states that where taxpayer has entered into an agreement and prior to the date of entering into the agreement, any return of income has been furnished under the provisions of section 139 of Income Tax Act, 1961 (‘the Act’), such person shall furnish within a period of 3 months from the end of the month in which the said agreement was entered into, a modified return in accordance with the agreement. In case of assessment proceedings for an assessment year relevant to a previous year to which the agreement applies have been completed before the expiry of period allowed for furnishing of modified return, Assessing Officer shall, in case a modified return is filed within the abovesaid period of 3 months, pass an order modifying the total income determined in such assessment or reassessment in accordance with the agreement.
TYPES OF APA (‘RULE 10F’)
An APA can be unilateral, bilateral, or multilateral:
Unilateral APA: an APA that involves only the taxpayer and the tax authority of the country where the taxpayer is located.
Bilateral APA (BAPA): an APA that involves the taxpayer, associated enterprise (AE) of the taxpayer in the foreign country, tax authority of the country where the taxpayer is located, and the foreign tax authority.
Multilateral APA (MAPA): an APA that involves the taxpayer, two or more AEs of the taxpayer in different foreign countries, tax authority of the country where the taxpayer is located, and the tax authorities of AEs.
ELIGIBLE TAXPAYER & PERMISSIBLE TRANSACTIONS (‘RULE 10G’)
Any taxpayer who has undertaken international transaction(s) or is contemplating to undertake international transaction(s) is eligible to file for an APA.
Eligible taxpayer can file an APA for any type of international transaction(s). The taxpayer has the option covering all or some of the international transaction(s) in an APA.
PROCESS IN APA
The APA process can be broken down in following five steps:
PRE-FILING CONSULTATION (‘RULE 10H’)
The APA Rules provide for a preliminary consultation before formally lodging an APA application. In such consultation, the taxpayer and the APA team will discuss and clarify the scope of the APA, the transfer pricing issues involved, suitability of international transactions for the agreement and broad terms of the agreement. There is an option of pre-consulting on a no name basis. However, the discussion during the pre- filing meeting is not binding on either the taxpayer or the tax authorities. The pre-filing consultation was mandatory initially wherein specified information had to be filed as part of the pre- filing application (Form No. 3CEC). This process has now been made optional.
FORMAL FILING OF APPLICATION (‘RULE 10-I’ & ‘RULE 10MA’)
The APA application is to be filed in Form No. 3CED. The application is to be filed with the Director General of Income tax International Taxation (‘DGIT’) in case of unilateral agreement and with the competent authority of India in case of bilateral or multilateral agreement. Every application shall be accompanied by the proof of payment of fees, which is based on amount of international transaction(s) entered into or proposed to be undertaken as per table below:
Amount of international transaction(s) entered/ proposed during the period of agreement.
Fees
Amount not exceeding INR 100 crore
10 lakhs
Amount not exceeding INR 200 crore
15 lakhs
Amount exceeding INR 200 crore
20 lakhs
The Rollback application can be filed in Form No. 3CEDA. The agreement shall contain rollback provisions subject to following;
the transaction(s) covered under rollback are same as per the main application;
the applicant should have furnished its return of income and Form 3CEB for the relevant years of rollback before the due date; and
the applicant has requested for applying rollback provisions in all the years having the said international transaction(s).
The Rollback provisions shall not be applicable for a rollback year where;
the determination of arm’s length price of the said international transaction has been subject matter of dispute before the ITAT, and ITAT has passed an order disposing such appeal before signing of agreement; and
the application of provisions has the effect of reducing the total income or increasing the loss declared by applicant in its return of income.
The fees for filing Rollback application is INR 5 lakhs.
PRELIMINARY PROCESSING OF APPLICATION & POST-FILING MEETINGS/ NEGOTIATIONS (‘RULE 10K’ & ‘RULE 10L’)
Every application filed shall be complete in all aspects and accompanied by requisite documents. In case any defect is noticed, or relevant document is not attached, the DGIT or Competent authority shall serve a deficiency letter before the expiry of one month from the date of receipt of application. The applicant shall remove the deficiency or modify the application within fifteen days from the date of service of deficiency notice or within such further period for which an application is made in this behalf where the total period does not exceed thirty days. Upon non-removal of defect within the prescribed timeline and after providing an opportunity of being heard, DGIT or Competent authority may pass an order for providing that the application shall not be allowed to be proceeded with and fees shall be refunded.
The APA team or the Competent Authority in India/his representative shall process the application in consultation and discussion with the applicant. It shall hold meetings, call for additional document or information, visit the applicant's business premises and make such inquiries as it deems fit in the circumstances of the case. The APA team shall have a detailed understanding of entities involved, transaction(s) covered, most appropriate method and mark-up percentage.
FINALISING AND SIGNING AN APA (‘RULE 10L’)
The APA team, based on the discussions with the taxpayer, shall finalizes the pricing approach including mark-up percentage on the transaction(s). The team shall prepare a draft report which shall be forwarded to the DGIT (for unilateral) or to the competent authority in India (for bilateral & multilateral). CBDT shall enter into the APA with the applicant after receiving approval from the Central Government. Once an agreement is entered into, the DGIT or the competent authority in India, as the case may be, shall send a copy of the agreement to the Commissioner of Income tax having jurisdiction over the taxpayer.
ANNUAL COMPLIANCE/ MONITORING ('RULE 10-O' & 'RULE 10P')
The taxpayer is required to comply with the annual compliances (filing of Form No. 3CEB) during the interim period, until the APA is concluded.
Post signing of agreement, the taxpayer will be required to prepare an annual compliance report (‘ACR’) in Form No. 3CEF, for each year covered under the APA, containing sufficient information to detail the actual results for the year, and to demonstrate compliance with the terms of the APA. The ACR is required to be furnished in quadruplicate within thirty days of the due date of filing the income tax return for that year, or within ninety days of entering into an agreement, whichever is later. Further, the taxpayer is required to declare whether there are any changes in the business model, functional and risk profile, critical assumptions and organizational structure.
Following the filing of the ACR, the jurisdictional TPO would carry out a compliance audit for each of the years under the APA term. The TPO would provide compliance audit report to the DGIT or the Competent Authority in India. The compliance audit report shall be furnished by the Transfer Pricing Officer within six months from the end of the month in which the Annual Compliance Report is referred.
TERMS OF THE AGREEMENT (‘RULE 10M’)
An APA agreement, among other things, would include:
International transaction(s) covered;
Agreed transfer pricing policy;
Determination of ALP including the transfer pricing methodology to be applied;
Definition of any relevant term;
Rollback provisions if any; and
Critical assumptions and the conditions (assumptions about the nature and functions and risks of the enterprises involved in the transaction(s), about economic conditions, assumptions about the enterprises that operate in each jurisdiction and the form in which they will do so etc.).
The agreement shall not be binding on CBDT or taxpayer if there is a change in any critical assumption or failure to meet conditions subject to which agreement is entered into. Any such change in critical assumptions or failure to meet conditions by taxpayer shall be informed to CBDT by giving a notice in writing of such change to the DGIT as soon as it is practicable to do so. The Board shall give a notice in writing of such change in critical assumptions or failure to meet conditions to the assessee, as soon as it comes to the knowledge of the Board.
AMENDMENTS TO APPLICATION (‘RULE 10N’)
An applicant may request for an amendment to an application at any stage before finalization of terms of the agreement. The DGIT or competent authority may allow the amendment if such an amendment does not have any effect of altering the nature of the application originally filed. The amendment shall be given effect only if it is accompanied by additional fees, if any, necessitated by the amendment in accordance with fee as provided in Rule 10-I.
REVISION OF AN AGREEMENT (‘RULE 10Q’)
An agreement subsequent to it having been entered into, may be revised by the CBDT where:
there is a change in critical assumptions or failure to meet a condition subject to which the agreement has been entered into;
there is a change in law that modifies any matter covered by the agreement but is not of the nature which renders the agreement to be non-binding; or
there is a request from competent authority in the other country requesting revision of agreement, in case of bilateral or multilateral agreement.
The agreement may be revised suo moto by the CBDT or on request of the taxpayer or DGIT/competent authority. The agreement shall not be revised unless an opportunity of being heard has been provided to the taxpayer and the taxpayer is in agreement with the proposed revision. In case the taxpayer does not agree with a revision proposed by the CBDT, the agreement may be cancelled in accordance with Rule R. In case where the CBDT does not agree with a revision proposed by the taxpayer, it shall reject the request for such revision in writing giving reasons for rejection. The revision agreement shall specify the date upto which the original agreement shall apply and the date from which the revised agreement is to apply.
WITHDRAWAL OF APA (‘RULE 10J’)
An applicant may withdraw the APA application at any time before finalization of the terms of the agreement. The application is to be filed in Form No. 3CEE and application fees paid at the time of filing of APA shall not be refunded on withdrawal of the application.
CANCELLATION OF AN AGREEMENT (‘RULE 10R’)
An agreement can be cancelled by the CBDT for any of the following reasons:
the compliance audit referred to in rule 10P has resulted in the finding of failure on the part of the taxpayer to comply with the terms of the agreement;
the taxpayer has failed to file the annual compliance report in time;
the annual compliance report furnished by the taxpayer contains material errors; or
the taxpayer is not in agreement with the proposed revision of agreement.
The CBDT shall give an opportunity of being heard to the taxpayer, before proceeding to cancel an application. The order of cancellation of the agreement shall be in writing and shall provide reasons for cancellation along with the effective date of cancellation. The order of cancellation shall be intimated to the Assessing Officer and the Transfer Pricing Officer, having jurisdiction over the taxpayer.
PROCEDURE FOR GIVING EFFECT TO ROLLBACK PROVISION OF AN AGREEMENT (‘RULE 10RA’)
The applicant shall furnish modified return of income referred to in section 92CD in respect of a rollback year to which the agreement applies along with the proof of payment of any additional tax that may arise as a consequence of and computed in accordance with the rollback provision.
If any appeal filed by the applicant is pending before the Commissioner (Appeals), Appellate Tribunal or the High Court for a rollback year on the issue which is the subject matter of the rollback provision for that year, the said appeal to the extent of the subject covered under the agreement shall be withdrawn by the applicant before furnishing the modified return for the said year.
Similarly, if any appeal filed by the Assessing Officer or the Principal Commissioner or Commissioner is pending before the Appellate Tribunal or the High Court on the issue which is subject matter of the rollback provision for that year, the said appeal to the extent of the subject covered under the agreement shall be withdrawn by the Assessing Officer or the Principal Commissioner or the Commissioner, as the case may be, within three months of filing of modified return by the applicant. In case effect cannot be given to the rollback provisions of the agreement in accordance with this rule, for any rollback year to which it applies, on account of failure on the part of the applicant, the agreement shall be cancelled.
RENEWING AN AGREEMENT (‘RULE 10S’)
The applicant can make a request for renewal of an agreement as a new application for agreement, using the same procedure as outlined in these rules except pre-filing consultation.
BENEFITS OF APA
An APA provides the following benefits;
- Certainty with respect to tax outcome of the taxpayer’s international transaction(s), by agreeing in advance the arm’s length pricing or pricing methodologies to be applied to the taxpayer’s international transaction(s) covered by the APA;
- Removal of an audit threat (minimize rigours of audit), and deliverance of a particular tax outcome based on the terms of the agreement;
- Substantial reduction of compliance costs over the term of the APA;
- For tax authorities, an APA reduces cost of administration and also frees scarce resources; and
- Provides flexibility in developing practical approaches for complex transfer pricing issues.Consequently, APAs provide a win-win situation for all the stakeholders involved.
Consequently, APAs provide a win-win situation for all the stakeholders involved.
RECENT UPDATES IN INDIA’S APA PROGRAMME
- India completes decade of the APA program on 31 March 2022;
- A total of 364 APAs – 318 unilateral and 46 bilateral, have been concluded. 62 APAs – 49 unilateral and 13 bilateral were concluded during FY 2020-21;
- CBDT has issued a notification on 10 August 2021 setting out the formula for adjusting tax payable under MAT in the previous year in which the TP addition for past year/s is accounted for on the conclusion of APA or due to other secondary adjustment. New Rule 10RB has been introduced which provides that the tax payable under MAT for the year shall be reduced by the amount of additional MAT tax liability, if any, paid in the relevant year after considering the MAT tax liability for each respective past year/s.
- Finance Act 2021 has rationalized MAT provisions in case of treatment of additional income on account of an APA finalization. The tax officer shall recompute the book profit and tax payable for the past years as well as the FY, in which, any additional income is included in the books of account, due to an APA conclusion. The re-computation will be affected after the assessee makes an application to the AO and effective from FY 20-21.
- Finance Act 2020 has made amendment to extends the applicability of the APA provisions regarding the determination of income attributable to a business connection or a permanent establishment (PE) of a nonresident in India. The benefit of the rollback provisions can also be availed by such PEs. These provisions will apply to an APA entered into on or after 1 April 2020.
II. MAP
INTRODUCTION
Mutual Agreement Procedures (‘MAP’) is an alternative mechanism available to taxpayers for resolving disputes giving rise to double taxation whether juridical or economic in nature. The agreement for avoidance of double taxation between the countries would give authorization for assistance of Competent Authorities (‘CA’) in the respective jurisdiction under MAP. In the context of OECD Model Convention for the Avoidance of Double Taxation, Article 25 provides for assistance of Competent Authorities under MAP.
PROVISIONS
Rules 44G and 44H of the Rules provided procedural guidance in respect of initiation of MAP until 6 May 2020 when rule 44H was omitted and rule 44G was substituted. The revised procedure is as under:
The taxpayer resident in India can make an application to the CA in India in Form No. 34F wherein the taxpayer is required to give relevant details in relation to the case along with documentary support. Where a reference is received from the CA of any country or specified territory with which India has entered into a double tax avoidance agreement with regard to any action taken by any income- tax authority in India or by the tax authorities of such country or specified territory, the CA in India shall convey his acceptance or otherwise for taking up the reference under MAP to the competent authority of the other country or specified territory.
The CA in India shall, with regard to the issues contained in Form No. 34F or in the reference from the CA of a country or specified territory outside India, call for the relevant records and additional document from the income-tax authorities or the assessee or his authorised representative in India, or have a discussion with such authorities or assessee or representative, to understand the actions taken by the income-tax authorities in India or outside that are not in accordance with the terms of the agreements between India and the other country or specified territory.
The CA in India is required to endeavour to arrive at a mutually agreeable resolution of the tax disputes, arising from such actions of the income-tax authorities, in accordance with the relevant DTAA within an average time period of twenty-four months.
In case the MAP is invoked on account of action taken by any income-tax authority in India, the MAP resolution arrived at in a previous year shall not result in decreasing the income or increasing the loss, as the case may be, of the assessee in India, as declared by him in the return of income of the said year.
Any resolution, that is arrived at between the CA in India and CA of the other country or specified territory, shall be communicated in writing to the assessee who, in turn, shall communicate his acceptance or non-acceptance of the resolution in writing to the CA in India within thirty days of its receipt. The assessee's acceptance of the resolution shall be accompanied by proof of withdrawal of appeal, if any, pending on the issues that were the subject matter of the resolution.
The CA in India shall communicate the resolution arrived at and the assessee’s acceptance along with proof of withdrawal of appeal, if any, submitted by the assessee to the Principal CCIT or the CCIT or the Principal Director General or Director General, as the case may be, who in turn shall forward it to the Assessing Officer.
The Assessing Officer shall give effect to the said resolution by an order in writing, within one month from the end of the month in which the communication was received by him and intimate the assessee about the tax payable determined by him, if any. On the assessee paying the tax so determined within the time allowed by the Assessing Officer and submitting the proof thereof, the Assessing officer shall proceed to withdraw the pending appeal filed by the Revenue, if any, pertaining to subject matter of the said resolution. A copy of the order by the Assessing Officer shall be sent to the Competent Authority in India and to the assessee.
The amount of tax, interest or penalty already determined shall be adjusted in accordance with the resolution arrived at and in the manner provided under the Act or the rules made thereunder to the extent that such manner is not contrary to the resolution arrived at.
MULTILATERAL MAP CASES
The MAP guidance note provides that in addition to bilateral MAP negotiations, Indian CA can also, in appropriate cases, enter into multilateral MAP discussions with more than one treaty partner. The Indian CA can enter into multilateral MAP discussions, only if, the following conditions are satisfied:
- All participating countries have DTAAs with each other
- The transaction or issues in dispute have a bearing on all treaty partners directly or indirectly; and
- The CAs of all the participating countries agree to negotiating a multilateral MAP
ELIGIBLE TAXPAYER & PERMISSIBLE TRANSACTION(S)
The taxpayer of the country having to bear the incidence of double taxation can apply for assistance of Competent Authorities under MAP to resolve the issue of such double taxation.
Generally, the issues giving rise to double taxation are submitted by the taxpayers for resolution under MAP. Some of the instances giving rise to double taxation are:
- Adjustment arising from Transfer Pricing assessment;
Issues relating to existence of Permanent Establishment;
Attribution of profits to Permanent Establishment.
Characterisation or re-characterisation of an item of expense or payment or income or receipt as a taxable expense or income such as royalty or fee for technical services
Cases where Indian tax authorities apply anti-abuse provisions.
TIME LIMIT FOR FILING MAP APPLICATION AND DISPOSAL
The time limitation for filing an application for MAP is governed by the respective treaty for avoidance of double taxation entered into between the countries. Generally, the time limit ranges between 2-3 years from the date of the notice giving rise to double taxation. The date of order of the original Assessment would be reckoned for computation of time limitation for filing an application for assistance of Competent Authorities under MAP.
Certain Conventions for Avoidance of Double Taxation between the countries provide for three years from the date of receipt of first notice giving rise to double taxation. (E.g., Convention between India-Australia, India-China, India-Germany etc.) In cases where the Convention for Avoidance of Double Taxation does not provide for time limit the domestic tax provision on time limit has to be looked into for filing an application for assistance of Competent Authorities under MAP. E.g., the Convention for Avoidance of Double Taxation between India and UK does not provide time limit for filing for assistance under MAP. However, the UK domestic regulation provides a time limit of six years from the end of the relevant financial year to which adjustment relates.
For disposal of MAP, the amended rule 44G recommends that an Indian competent authority shall endeavour to arrive at resolution within an average period of 24 months. In this regard, MAP guidance note clarifies that Indian CA will endeavour to resolve MAP in 24 months, but it is not a commitment. The MAP guidance note clarifies that the period of 24 months will be from the start date.
STEPS INVOLVED IN MAP
The MAP process involves the following steps;
PREPARATION AND FILING OF MAP: APPLICATION –Taxpayer makes a request to the home country’s CA and filing of bank guarantees with the tax authorities, if any.
POST FILING MEETING & DISCUSSIONS WITH CA –Taxpayer may be asked to provide further data in case of inadequate information available on record to reach a conclusion. In certain cases, where found necessary, the taxpayer may also be called upon to represent the matter before the Competent Authorities.
NEGOTIATIONS AND RESOLUTION – Competent Authorities initiate negotiation and attempt to reach an amicable solution. The proposed agreement will be communicated to the taxpayer.
BENEFITS OF MAP
A MAP provides the following benefits:
- The main benefit of pursuing MAP is elimination of double taxation.
- In cases involving certain jurisdictions (US, UK and Denmark), the Indian authorities have entered into an agreement under which the taxpayer can choose to provide a bank guarantee for the outstanding tax demand. In such cases, the tax demand would not be pursued by the tax authorities until disposal of the MAP application.
- The MAP resolution, once accepted, eliminates the need for protracted litigation.
- Taxpayers have the option of either accepting or rejecting the resolution arrived at under MAP. However, it will be binding on the Revenue for that transaction(s) for the particular Assessment Year.
- Domestic appeal option is still open in case of no acceptable MAP resolution.
RECENT UPDATES IN INDIA’S MAP PROGRAMME
Based on Organization for Economic Co-operation and Development (OECD) Sixth batch of peer review report relating to implementation of Base Erosion & Profit Shifting ('BEPS') minimum standard under Action 14 (Making Dispute Resolution Mechanisms More Effective), CBDT took a first step on 6 May 2020 by issuing notification amending the rules relation to MAP. Following this on 7 August 2020, it published detailed guidance which intends to provide key information on several aspects of MAP procedure.
- CBDT in the last two years has invigorated the MAP proceedings with different countries, such as with the US, the UK, Japan and Canada.
- CBDT has issued a notification on 30 September 2019, amending the provisions relating to cash repatriation on resolution of MAP where it is clarified that the cash repatriation will have to be made within 90 days from the notice of demand issued by the assessing officer, after giving effect to the MAP resolution. CBDT has also clarified that for the purpose of determining the value of international transactions denominated in foreign currency for computation of notional interest, the applicable exchange rate would be the telegraphic transfer buying rate of the respective foreign currency as on March 31 of the relevant financial year in which the international transactions were undertaken.