Transfer Pricing Taxation

Transfer pricing determines the price of goods and services between two related entities within an organization or between multiple organizations owned or controlled by the same parent company. Transfer pricing aims to ensure that transactions are conducted fairly and at market value, preventing one entity from artificially inflating or deflating the price for its own benefit.

Transfer pricing laws in India apply to domestic and international transactions that exceed a certain threshold in terms of their value. These laws were introduced by including Sections 92A-F and corresponding Rules 10A-E in the Income Tax Rules of 1962. Transfer pricing regulations ensure that transactions between "related" parties are conducted at prices considered fair and comparable to transactions between unrelated parties. The relevant sections of the Income Tax Act 1961 address transfer pricing in international commerce.

The term "transfer pricing" generally refers to the pricing of transactions between affiliated companies that may occur under different conditions than those between independent companies. It involves determining the value assigned to transferring goods, services, and technology between related entities. It also encompasses transfers between unrelated parties controlled by a common entity.

For example, consider a scenario where company ABC purchases goods for 500 rupees and sells them to its affiliated company XYZ in another country for 1000 rupees. XYZ, in turn, sells the goods in the open market for 2000 rupees. If ABC had sold the goods directly, it would have made a profit of 1500 rupees. However, by selling through XYZ, ABC restricts its profit to 500 rupees, allowing XYZ to capture the remaining profit. The transaction between ABC and XYZ is arranged and not influenced by market forces. As a result, the profit of 1000 rupees is shifted to the country where XYZ is located. The goods are transferred at an arbitrary or dictated price (transfer price) of 1000 rupees rather than at the market price of Rs. 2000.

Specific Domestic Transactions:

• Previously, transfer pricing regulations did not cover domestic transactions.
• The Finance Act 2012 expanded the application of transfer pricing regulations to include "specified domestic transactions."
• These specified domestic transactions involve certain related domestic parties.
• The regulations apply if the aggregate value of such transactions exceeds INR 5 crore.
• Examples of specified domestic transactions include expenditures for which deduction is claimed in computing business or professional profits.
• Transactions related to businesses eligible for profit-linked tax incentives, such as infrastructure facilities and SEZ units, are also covered.
• Additionally, any other transactions specified by the regulations fall under the scope of transfer pricing regulations for domestic transactions.

International Transactions:

• "International transactions" refer to transactions between two or more associated enterprises (AEs).
• These transactions involve the sale, purchase, or lease of tangible or intangible property, provision of services, cost-sharing agreements, lending/borrowing of money, or any transaction affecting the enterprises' profits, income, losses, or assets.
• It also encompasses agreements or arrangements among associated enterprises to allocate or apportion costs or expenses related to the provision of benefits, services, or facilities.

Deemed International Transactions:

• When an enterprise engages in a transaction with a non-associated person, it may be deemed an international transaction.
• This occurs when a prior agreement exists between the non-associated person and the associated enterprise regarding the transaction or when the transaction terms are substantially determined between them.
• This applies regardless of whether the enterprise or associated enterprise is a non-resident, and the other person may or may not be a non-resident.

"Arm's length transfer pricing" refers to a pricing approach used in transactions between unrelated parties, where the price is determined based on market conditions and without any influence from associated enterprises. It ensures that the price applied is fair and comparable to what unrelated parties would agree upon in similar circumstances.

Main characteristics of Arm's length transfer Pricing

• The price should be applied or proposed to be used in a transaction.
• The transaction involves two unrelated persons or entities.
• The transaction takes place under uncontrolled conditions.

• Comparable Uncontrolled Price Method
• Resale Price Method
• Cost Plus Method
• Profit Split Method
• Transaction Net Margin Method
• Other methods prescribed by the board

• The Arm's Length Price will be determined under Section 92C(1) by utilizing the most suitable method.
• The Most Appropriate Method is selected based on the specific facts and circumstances of each transaction.
• Different transactions with associated enterprises may require different methods; a single method may not apply to all transactions.
• The selection of the Most Appropriate Method considers the unique facts and circumstances of each transaction to establish the appropriate Arm's Length Price.