As with any new legislation, transfer pricing compliances for specified domestic transactions (SDT) from assessment year 2013-14 (financial year 2012-13) come with their own technical ambiguities, especially on the nature of transactions. Would free of cost (FOC) transactions come under SDT across board, or would specific situations entail TP compliance.
At a macro level, the objective of TP regulations for international transactions is to protect India’s tax base by mandating the arm’s length standard. In contrast, the scope of TP compliance for SDTs is limited to transactions covered under Section 92BA. There are two stipulations — the first lists the category of transactions covered under SDT; and according to the second, the aggregate value of such transactions during the year should exceed Rs 5 crore.
Therefore, to ascertain whether the compliances apply to FOC transactions, one should analyse the categories of SDT prescribed and the market value of the transactions.
The first category, Section 40A(2)(b), covers ‘expenses or payments to specified persons’ that could be disallowed by the tax officer if it is not a legitimate expenditure, is excessive or unreasonable, or does not meet the benefit test. So, in principle, for goods, services or facilities provided by the taxpayer to the specified persons, as there is no charge and therefore no expenditure claimed by the taxpayer, the section would not apply and it would not be an SDT.
The second category would be ‘transfer of goods and services’ by the tax-holiday units of the taxpayer to its other businesses — Section 80-IA(8). Here the transfers should be at ‘market value’ and, therefore, all FOC transactions should be accounted at market value. Thus, if the market value of such transactions along with any other SDTs of the taxpayer exceeds Rs 5 crore in the aggregate, all these transactions should comply with TP regulations.
It is important to note that this section only covers ‘transfer of goods or services’ and, therefore, one should analyse if a transaction is in the operating nature of a tax-holiday unit. For instance, if the tax-holiday unit and the rest of the business share an office premises and no cost is allocated to the tax-holiday unit. Use of the office facility should be accounted at market value by the tax-holiday unit and at arm’s length value if the aggregate value of the taxpayer’s SDTs exceeds Rs 5 crore during the financial year.
The last category of transaction prescribed is ‘business transacted’ by a taxpayer claiming a tax holiday (SEZ unit and other tax holidays under Chapter VI-A) with a closely connected person that results in more than ordinary profit to the tax-holiday unit — Section 80-IA(10). Take, for instance, a tax-holiday unit of a taxpayer receiving goods on a free-of-cost basis from a person closely connected. The tax-holiday unit does not bear any cost for the goods received and, therefore, earns more than ordinary profit from the sale/ use of the goods received. Here, the tax officer is empowered by Section 80-IA(10) to make an adjustment to the declared profit to ensure it is reasonable and not excessive. If the value of such a transaction along with the other SDTs of the taxpayer exceeds Rs 5 crore during the financial year, it should be accounted on an arm’s length basis.
Transfer pricing compliances in India entail detailed documentation, electronic reporting in Form 3CEB within the statutory due date and onerous penalties for failure to do so. Non-reporting of any transaction as SDT should be based on detailed scrutiny and an understanding of the facts and law. This due diligence will help avert unpleasant surprises during an audit by revenue officers, who are empowered to audit transactions not reported by taxpayers.
Vishwa Sharan, Manager, Transfer Pricing Services contributed to the article.
The author is Partner, Transfer Pricing Services, Grant Thornton India LLP