Transfer Pricing Rules- Amendment – Disguise conditional Benefit

Transfer Pricing Rules- Amendment – Disguise conditional Benefit

In October 15, CBDT amended the Income Tax Rules relating to Transfer Price regulations, to tone down the rigour associated with computation of Arm’s length price/Margin, based on average price of multiple comparables

Post Amendment in rules, In case assessee is following either Comparable Uncontrolled Price (CUP) or Resale Price Method (RSM) or Cost Plus Method (CPM) or Transactional Net Margin Method (TNMM) as Most Appropriate Method (MAM) and number of comparables are 6 or more, then International Transaction or Specified Domestic Transaction will be at ALP, if the price of such transactions is falling in the bandwidth of comparable prices ranging from 35^th Percentile to 65^th Percentile.

Apart from above- said benevolent amendment, the said amendments also contains another conditional benign provision, deliberated as under:-

Rule 10CA – Computation of ALP in certain cases.

1.       Proviso to Rule 10CA(2) seems to resolve the practical problem faced by assessee in establishing the Arm’s length Margin (i.e. for application of RSM, CPM & TNMM) in dealing with AE for Current year (Previous Year for which Transfer Pricing study is to be carried out)

2.       Assessee does not have comparable data for current year, but it must have details of comparable margin for years preceding the current year (preceding year/years). On that basis, assessee could plan for Arm’s length Margin for current year. However in erstwhile provisions, assessee was forced to use comparable data of current year only, without weightage and consideration of data relating to preceding year/s.

3.       In recognition of genuine hardship, proviso to newly inserted rule 10CA(2), provides for use of weighted average margin based on comparable uncontrolled transactions undertaken by comparable enterprise in current year and preceding year or current year and preceding two years for ALP determination.

4.       The First Proviso to Rule 10CA(2) read as under:-

Provided that in a case referred to in clause (i) of sub-rule (5) of rule 10B, where the comparable uncontrolled transaction has been identified on the basis of data relating to the current year and the enterprise undertaking the said uncontrolled transaction, [not being the enterprise undertaking the international transaction or the specified domestic transaction referred to in sub-rule (1)], has in either or both of the two financial years immediately preceding the current year undertaken the same or similar comparable uncontrolled transaction then,-

(i) the most appropriate method used to determine the price of the comparable uncontrolled transaction undertaken in the current year shall be applied in similar manner to the comparable uncontrolled transaction or transactions undertaken in the aforesaid period and the price in respect of such uncontrolled transactions shall be determined; and

(ii) the weighted average of the prices, computed in accordance with the manner provided in sub-rule (3) , of the comparable uncontrolled transactions undertaken in the current year and in the aforesaid period preceding it shall be included in the dataset instead of the price referred to in sub-rule (1)

5.       The illustration, based on RSM, below will highlight the obvious benefit to assessee under proviso to rule 10CA(2):-

Particulars		Preceding Years(PDY)
		PDY-2	PDY-1	CY
Comparable	Sale	1000	1100	1200
	COGS	900	968	1008
	GP	100	132	192
	GP Margin %	10%	12%	16%
Tested Party	Sale			2000
	GP Margin			13%
	COGS -International Transaction			1740
TP Analysis- Based on Current Year Data u/r 10B(4)	Comparable GP%			16%
	Arm length Price (2000 * 84% (100-16))			1680
	International Transaction			1740
	Difference			60
	% Difference			3.45%
	Addition to Income (Since variation is more than 3%)			60
TP Analysis- Based on weighted Average u/r 10CA(2)	Weighted Average GP% (Weights being yearly sales)			12.85%
	Arm length Price			1743
	International Transaction			1740
	Difference			-3
	% Difference			-0.17%
	Arm length Price			1740
	Addition to Income			NIL

6.       One will appreciate that, TP analysis based on current year GP margin of comparable resulted in addition of Rs. 60 in the hands of assessee, whereas corresponding examination based on weighted average GP catapult that international Transaction is at ALP.

7.       However, the afore-said benefit, benefit to take yearly weighted  average  Margin, is subject to the satisfaction following conditions cumulatively :-

a)      The MAM is either RSM, CPM or TNMM and

b)      Comparable uncontrolled transaction has been identified on basis of data relating to current year  undertaken by an comparable Enterprise and

c)       There is same or similar comparable uncontrolled transaction in preceding year  or previous two preceding years undertaken by comparable enterprise and

d)      Comparable enterprise has not undertaken any International Transaction or Specified Domestic Transaction (related party Transaction)

8.       The condition stated at (d) above may curtail the desired benefits of beneficial provision to assessee, in cases where comparable enterprise has undertaken  related party transaction of even miniscule level , say 5%. In such scenario, assessee will not able to use weighted average margin of such comparable and will be required to use current year margin for TP analysis.

9.       In a present day scenario, where backward and forward integration is call of the day to remain ahead of competition, assessee may find it difficult to discover comparable, which has not taken ANY related party Transaction.

10.   During tenure of 14 years, since the incorporation of TP regulations under Income Tax Statue, it has been fairly established by Judiciary, that enterprise which has undertaken related party transaction to the tune of 15-20% can be taken as comparable enterprise.

11.   Now when the amendment is carrying the munificent flavor, it should facilitate the execution of same in pragmatic manner and should not be stifled down by trying conditions embedded therein and I hope that same will be taken care in ensuing months.