Overview of Transfer Pricing in India
Transfer pricing can be defined as the price charged by one unit of an enterprise for a good or service that is transferred to another unit of the same enterprise.
In India, Transfer Pricing provisions are applicable in case of an international or domestic transaction between associated enterprise. Section 92 to 92F of Income Tax India, 1961 governs the provisions relating to transfer pricing in India.
As per said provisions, any international or domestic transaction between 2 or more associated enterprises shall be at arm’s length price.
Transfer Pricing Documentation
Section 92D read with Rule 10 D deals with Transfer Pricing Documentation. As per same, comprehensive Transfer Pricing documentation is required to be maintained by every entity in order to substantiate that transaction is at arm’s length.
Transfer pricing documentation has to be maintained by 30th November of each year.
Transfer pricing documentation has to be retained upto 9 years from the end of the financial year.
There is no requirement to maintain transfer pricing documents in case the aggregate value of all international transactions does not exceed Rs 1 crore.
Transfer Pricing Audit
As per provisions of Rule 10E read with section 92E, every assesse who has entered into an international transaction or specified domestic transaction during the year need to obtain a report from accountant and file with tax department along with Income tax return. This is called as Transfer Pricing Audit.
Key points relating to Transfer Pricing Audit are as under:
- Transfer Pricing Audit in India need to be conducted and report needs to be obtained by every taxpayer filing a return in India and having an international transaction.
- Transfer Pricing Audit report need to be filed by the due date for filing return of Income i.e 30th
- Transfer pricing audit report generally comments on whether the proper transfer pricing documentation has been maintained by taxpayer and whether prices of international and domestic transactions are at arm’s length price.
- Failure to conduct transfer pricing audit and furnishing of transfer pricing audit report would attract a penalty of Rs 1 lac
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 and fixed assets
- Sale or purchase of machinery and intangibles
- Reimbursement of an amount received and expenses paid
- Information Technology Enabled services and software development services
- Support services;
- Management fees and Technical Service fees;
- Royalty fee;
- Corporate Guarantee fees;
- Loan received or paid etc
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 Centre will be considered as the resources utilized by them).
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. Sometimes a subsidiary of a company might be divided into segments or might be accounted for as a standalone business. In these cases, transfer pricing helps in allocating revenue and expenses to such subsidiaries in the right manner.
The profitability of a subsidiary depends on 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 a company’s taxable income and its after-tax, free cash flow.
It is important that business having cross-border intercompany transactions should understand transfer pricing concept, particularly for the compliance requirements as per law and to eliminate the risks of non-compliance.
Problems associated with Transfer Pricing
There are quite a few problems associated with transfer prices. Some of these issues include:
- There could be differences in opinions among organizational divisional managers with respect to how transfer price needs to be set.
- 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.