Indian tax administration issues revised guidance on transfer pricing audit procedures

Transcription

1 11 March 2016 Global Tax Alert News from Transfer Pricing Indian tax administration issues revised guidance on transfer pricing audit procedures EY Global Tax Alert Library Access both online and pdf versions of all EY Global Tax Alerts. Copy into your web browser: Executive summary On 10 March 2016, India s Central Board of Direct Taxes (CBDT) issued Instruction No.3 of 2016 (New Guidance) to provide guidance to Assessing Officers (AOs) in selecting cases for transfer pricing (TP) audits in relation to international transactions and specified domestic transactions (SDTs). The CBDT had earlier replaced Instruction No.3 of 2003 (under which the selection of cases was based on a monetary threshold of the value of the international transactions entered into during a particular tax year) and issued Instruction No.15 of 2015 (Updated Guidance) in Oct 2015 for selection of cases for TP audits on the basis of risk parameters. However, based on suggestions received from stakeholders, the New Guidance has been issued. While the New Guidance re-affirms that cases would be selected for audits based on TP risk parameters under the Computer Assisted Scrutiny Selection (CASS) system, it also indicates circumstances under which cases would also be selected for audits manually. The New Guidance also clarifies that the primary responsibility for undertaking TP audits is that of specialized Transfer Pricing Officers (TPOs). This New Guidance is applicable with immediate effect with respect to cases involving international transactions and SDTs.

2 2 Global Tax Alert Transfer Pricing Detailed discussion Background The Indian Tax Law (ITL) empowers the AO to refer the computation of the Arm s Length Price (ALP) in relation to an international transaction/sdt to the TPO [with the prior approval of Commissioner of Income-tax (the Commissioner)], if he considers it necessary or expedient so to do. While the TP provisions were introduced in the ITL with effect from Financial Year (FY) , the CBDT issued Instruction No.3 in the year As per this Instruction, taxpayers with international transactions in excess of a specified monetary threshold were mandatorily subject to a TP audit. The monetary threshold was initially set at INR 50 million (approx. US$746,000), which was subsequently revised to INR 150 million (approx. US$2.2 million). Further, Instruction No.6 of 2014 issued by the CBDT provided that the selection of cases was to be based on an automated process called the CASS. However, this Instruction required mandatory selection of cases for TP audits if a taxpayer was subject to a TP adjustment exceeding INR 100 million (approx. US$1.5 million) in the prior years. In May 2014, the Tax Administration Reform Commission (TARC) recommended the need for broad-based selection filters for risk assessment and the need to set up a standard operating procedure, for carrying out the audits. In line with the same, the CBDT had issued the Updated Guidance in October 2015, according to which, selection of cases for TP audits was based on risk parameters as against the monetary threshold. The Updated Guidance also included standard operating procedures for the Tax Authority for carrying out audits. Circumstances under which the AO should refer the cases to the TPO The New Guidance requires that all cases selected for scrutiny on the basis of TP risk parameters with respect to international transactions and SDTs, either under the CASS system or under compulsory manual selection system, should be referred to the TPO by the AO after obtaining necessary approval from the Commissioner. While the risk parameters are not defined in the New Guidance, the same would be available internally with the Tax Authority. Further, the New Guidance sets out that the cases selected for corporate tax audits, but which also have international transactions or SDTs may be referred to the TPOs for conducting TP audits, under the following circumstances where: The taxpayer has not filed the Accountant s Report in Form 3CEB despite having entered into international transactions/sdts The taxpayer has not declared one or more international transactions/sdts in the Accountant s Report in Form 3CEB There has been a TP addition equal to or exceeding INR. 100 million (approx. US$1.5 million) in an earlier tax year and such addition has been confirmed by judicial courts or is pending in appeal Findings regarding TP issues with respect to international transactions/sdts have been recorded by the Investigation Wing or the AO pursuant to search and seizure/ survey operations under the ITL Further for administering the TP regime in an efficient manner, the New Guidance clarifies that in a case where referral is not made to the TPO, the ALP of international transactions/sdt should not be determined by the AO in spite of having the power to do so under the ITL. In such cases, the AO should record in the assessment order that TP issues have not been examined in light of this New Guidance. This New Guidance is applicable with immediate effect with respect to cases involving international transactions and SDTs. Procedure for referral of cases to the TPO The New Guidance sets out the following scenarios where the AO, as a jurisdictional requirement, records his finding that there is an income or potential of an income arising and/or being affected on determination of the ALP of an international transaction/sdt before selecting a case for TP audit or for making referral to the TPO for audit where the taxpayer: Has not filed the Accountant s Report in Form 3CEB despite having entered into international transactions/sdts Has not declared one or more international transactions/ SDTs in the Accountant s Report in Form 3CEB Has declared the international transactions/sdts in the Accountant s Report in Form 3CEB with certain qualifying remarks to the effect that the said transactions are not international transactions/sdts or they do not impact the income of the taxpayer. The AO is also required to provide an opportunity of being heard to the Taxpayer before referring the case to the TPO for audit. While making the referral to the TPO, the AO is also required to explicitly mention all the international transactions or SDTs except those about which the AO has decided not to make a referral to the TPO.

3 Global Tax Alert Transfer Pricing 3 Once the case is referred to the jurisdictional TPO for determination of the ALP, the AO is required to wait for the report/order of the TPO on the ALP of international transaction/sdt before making the final assessment. Operational guidance for TPOs According to the provisions of the ITL, the TPO is required to perform his duties only after a reference is received from the AO. In addition to the international transactions referred by the AO, the TPO is also empowered to examine any other international transactions that come to his notice during the proceedings. While the primary roles and responsibilities of TPOs remain the same, the New Guidance provides that the TPO s order should contain the following minimum details as these would be subjected to judicial scrutiny in case of further appeals/objections. Comparable data used for the purpose of the ALP computation Application of most appropriate method Reasons for arriving at a certain ALP Further, working papers forming part of an audit proceeding should be made available to the jurisdictional AO for his records and use at subsequent stages of appellate or penal proceedings. As per the New Guidance, the jurisdictional Commissioner having oversight on TP audits should assign a limited number of important and complex cases, not exceeding 50, to senior TPOs who are of the rank of Additional/Joint Commissioner. In addition to the above, the TPO would be responsible for carrying out compliance audits of Advance Pricing Agreements (APA) and also cases where the taxpayer has opted for Indian Safe Harbor provisions. The New Guidance also provides that each TPO should record all the events connected with the whole process of determination of the ALP in the prescribed format, which will serve as an important database for future action and also help in bringing about uniformity in the determination of the ALP in identical or substantially identical cases. Such data maintained by each TPO should be consolidated into one report after the end of each TP audit cycle under the jurisdiction of the concerned Commissioner. Implications The New Guidance issued by the CBDT for selection of cases for TP audits can be expected to result in more targeted and more cost-effective use of limited resources from a tax administration s perspective. One can also expect the audit proceedings to be more detailed and intensive, especially given that senior TPOs are expected to handle a limited number of complex cases. While the New Guidance does not identify the TP risk parameters that would be considered by the AO, taxpayers may need to keep in mind the typical factors that may suggest a TP risk in the Indian context, such as payments for intra-group services and use of intangibles, significant transactions with related parties in low tax jurisdictions, intangible transfer transactions, business restructurings, loss making operations, significant advertising, marketing and promotional spend, excessive debt and entities characterized as limited risk. Accordingly, disclosures/reporting Form 3CEB would not only be relevant from a penalty perspective, but also from an audit risk perspective, in light of the New Guidance. The low monetary threshold for compulsory TP audits in India has always been a concern as historically a large number of small and medium enterprises have been caught in the audit cycle. This has also put pressure on the tax authorities who are constrained in resources while carrying out an audit. The issuance of clarifications and instructions by the CBDT is consistent with the Government s objective of minimizing tax litigation and creating a non-adversarial tax regime. Further, with India s Finance Bill, 2016 proposal to introduce Countryby-Country Reporting and Master File TP documentation in the ITL in line with the recommendations of the Organisation for Economic Co-operation and Development s Base Erosion and Profit Shifting Action Plan 13, the enhanced TP documentation regime can be expected to support effective risk identification and assessment of appropriate cases for TP audits or enquiries.

4 4 Global Tax Alert Transfer Pricing For additional information with respect to this Alert, please contact the following: Ernst & Young LLP (India), Mumbai Sudhir Kapadia Ernst & Young LLP (India), Hyderabad Jayesh Sanghvi Ernst & Young LLP (India), National Transfer Pricing Leader, New Delhi Vijay Iyer

5 EY Assurance Tax Transactions Advisory About EY EY is a global leader in assurance, tax, transaction and advisory services. The insights and quality services we deliver help build trust and confidence in the capital markets and in economies the world over. We develop outstanding leaders who team to deliver on our promises to all of our stakeholders. In so doing, we play a critical role in building a better working world for our people, for our clients and for our communities. EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young Global Limited, a UK company limited by guarantee, does not provide services to clients. For more information about our organization, please visit ey.com. Transfer Pricing Group 2016 EYGM Limited. All Rights Reserved. EYG no. CM NY ED None This material has been prepared for general informational purposes only and is not intended to be relied upon as accounting, tax, or other professional advice. Please refer to your advisors for specific advice. ey.com