WESTERN INDIAN REGIONAL COUNCIL, THE INSTITUTE OF CHARTERED ACCOUNTANTS OF INDIA. Workshop on Transfer Pricing. Safe Harbour Rules- An Overview

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1 WESTERN INDIAN REGIONAL COUNCIL, THE INSTITUTE OF CHARTERED ACCOUNTANTS OF INDIA Workshop on Transfer Pricing Safe Harbour Rules- An Overview Sanjay Kapadia

2 Background Introduced in Finance (No 2) Act, empowered the Central Board of Direct Taxes ( CBDT ) to issue transfer pricing safe harbour rules ( rules ) A safe harbour is defined as circumstances in which the Tax Authority shall accept the transfer price declared by the taxpayer Rangachary Expert Committee was set up in July 2012 to engage in sector wise consultations with the stakeholders before submitting report The draft safe harbour rules were released in August 2013 for public comments. The Rules were finalised and released on September 19, 2013 with certain modifications The rules define the following transactions: Software development services ( SWD ) bearing insignificant risks Information technology enabled services ( ITeS ) bearing insignificant risks Knowledge process outsourcing services ( KPO ) bearing insignificant risks Contract research & development ( R&D ) in the SWD and pharmaceutical sector bearing insignificant risks Financial transactions (outbound loans and corporate guarantees) Auto components manufacture and export The rules also defined terms such as operating revenues and operating expenses Page 2

3 Activities covered IT/ ITES Software ITeS BPO ITeS KPO Business application software and information systems development using known methods and existing software tools; Support for existing systems; Converting and/ or translating computer languages; Adding user friendly functionality to application programmes; Debugging of systems; Adaptation of existing software; Preparation of user documentation Back office operations, Call centre or contact centre services; Data processing and data mining; Insurance claim processing, Legal databases, Translation services, Remote maintenance; Payroll, Revenue accounting, Support centres; Website services, Data search integration and analysis; Creation and maintenance of medical transcription excluding medical devices; Remote education excluding education content development; Clinical database management services excluding clinical trials Geographic information systems; Human resource services; Engineering and design services; Animation or content development and management; Business analytics. Financial analytics; Market research Note R&D activities are not included in the above safe harbours and are discussed subsequently Page 3

4 Activities covered Contract R&D in software Activities covered under contract R&D relating wholly or partly to software development: Producing new theorems and algorithms in the field of theoretical computer science; Development at the level of operating systems, programming languages, data management, communications software and software development tools; Development of internet technology; Research into methods of designing, developing, deploying or maintaining software; Producing advances in generic approaches for capturing, transmitting, storing, retrieving, manipulating or displaying information; Experimental development aimed at filling technology knowledge gaps as necessary to develop software programs or system; R&D on software tools or technologies specialized in areas of computing (image processing, geographic data presentation, character recognition, artificial intelligence Upgradation of existing products where source code has been made available by the principal Page 4

5 Activities covered Financial transactions Intra-group loans Advance to wholly owned subsidiary being a non-resident, where the loan is sourced in Indian rupees, but does not include; A financial institution (including banks) engaged in lending or borrowing; Credit extended or any other loan facility which has no fixed term for repayment Corporate guarantee - Explicit corporate guarantee in respect of any short-term or longterm borrowing by its wholly owned subsidiary being a non-resident Page 5

6 Concept of bearing insignificant risk Factors for determining insignificant risk for IT / ITeS and R&D services: Foreign AE performs significant economic functions including critical functions and Taxpayer carries out the work assigned Capital, funds and economically significant assets are provided by Foreign AE Foreign AE controls and supervises activities carried out by the Taxpayer Taxpayer does not assume economically significant realized risks Taxpayer does not have any legal or economic ownership of intangibles generated or outcome of any intangibles generated in the course of rendering services Above factors will be determined primarily by analysing conduct of the parties and not merely by contractual terms Similar conditions stated under Circular 6 of 2013 for identifying contract R&D centres bearing insignificant risks Page 6

7 Safe Harbours Eligible International transaction Software development services with insignificant risk ITeS services with insignificant risk Provisions as per draft rules Transaction value Less than Rs 100 crores Less than Rs 100 crores Safe harbour limit Operating margin is 20% or more Operating margin is 20% or more Provisions as per final rules Transaction value Less than Rs 500 crores More than Rs 500 crores Safe harbour limit Operating margin is 20% or more Operating margin is 22% or more KPO with insignificant risk Less than Rs 100 crores Operating margin is 30% or more Not applicable / No limit prescribed Operating margin is 25% or more Contract R&D wholly or partly software development services with insignificant risk Not applicable / No limit prescribed OPM is 30% or more Same as draft rules Same as draft rules Page 7

8 Safe Harbours Eligible International transaction Intra group loans to a wholly owned subsidiary Provisions as per draft rules Transaction value Less than Rs 50 crores More than Rs 50 crores Safe harbour ceilings Interest rate base rate of SBI on June 30 of the relevant year basis points Interest rate base rate of SBI on June 30 of the relevant year basis points Provisions as per final rules Transaction value Same as draft rules Same as draft rules Safe harbour ceilings Same as draft rules Same as draft rules Explicit corporate guarantee to a wholly owned subsidiary Less than Rs 100 crores Commission or fee 2% or more per annum of the amount guaranteed No limit prescribed However requirement of WOS to have highest safety credit rating by agency registered with SEBI Commission or fee 1.75% or more per annum of the amount guaranteed Page 8

9 Key highlights Tax payer to opt for safe harbour to file Form 3CEG on or before the due date of filing the tax return Taxpayers to file Form 3CEFA to choose the period to be covered under the safe harbour regime (Maximum period of 5 years) Taxpayer opting for safe harbour cannot undertake for comparability adjustment and benefit of 3% tolerance band (Proviso to section 92C(2) Taxpayer opting for safe harbour shall not be entitled to invoke Mutual Agreement Procedure ( MAP ) for avoidance of double taxation Need to maintain transfer pricing documentation under the transfer pricing provisions unchanged - thereby no relief from cumbersome compliances Safe Habour rules not applicable if a foreign associated enterprise is located in a no tax / low tax country defined as a country where the maximum marginal tax rate is less than 15% Page 9

10 Questions?? Page 10

11 Contact Details Sanjay L. Kapadia Partner, Transfer Pricing, Ernst & Young LLP, Mumbai Ph No: All the views expressed during the presentation are personal opinions of the presenter and the presenter is not liable for any consequences arising out of reliance on the same Page 11

12 Thank You