The law for transfer pricing in India was established to bring more transparency into the functioning of businesses. It ensures that any transaction between two ‘related’ parties is at a fair price. This price should be comparable if the transaction is incurred between unrelated parties as well. In simpler terms, this law states that business subsidiaries should not take unfair advantage of internal deals between them.
The transfer pricing law in India
The transfer pricing law was first introduced in India through Section(s) 92 A-F of the Indian Income Tax Act, 1961. It applies to both domestic and foreign transactions. Let’s take a deeper look to understand the intricacies involved in the transfer pricing law in India.
Section 92
As per this section of the Income Tax Act, 1961, all international and domestic transactions between related/associated parties that have been mutually agreed on should be carried out at arm’s length price and should be comparable if it was with unrelated parties.
Section 92A
Section 92A of the Income Tax Act, 1961 summarises the meaning of ‘associated enterprises’ for Section(s) 92 A-F. The term associated enterprise in context to another enterprise will mean one of the following.
- An enterprise that has direct or indirect participation with another enterprise either through intermediaries or through the capital.
- An enterprise holds either directly or indirectly a minimum of 26% of the voting power in other enterprises.
- A loan advancement from one enterprise to another that makes up at least 51% of the book value of the total assets of another company.
- Over 50% of the board of directors, governing body, executive members are appointed by the other enterprise.
- Over 90% of the raw materials, including consumables, are supplied by the other enterprise.
Besides the above terms, other clauses establishing the relation between two or more enterprises are also present.
Section 92 B
This section of the Indian Income Tax Act, 1961, sheds light on the meaning of international transactions. As per the definition, international transactions are referred to as transactions carried out between two or more associated parties, where either one or both the parties are non-residents. This transaction could be a purchase, lease or sale of a tangible or intangible asset. Other transactions including the provision of services, borrowing or lending of money, etc. that can influence the profit/loss, asset/liabilities related to businesses are also included.
Section 92E
Another important section from the Indian transfer pricing law of the Income Tax Act, 1961 is Section 92E. This section sheds light on the audit process under transfer pricing. As per the requirements of Section 92E, a report from a professional accountant has to be submitted by the people entering into a financial transaction (for both domestic and international). The report must be duly signed and verified by the accountant and should be in the prescribed form. Also, the parties are required to file form 3CEB.
Risks involved in transfer pricing
The transfer pricing method also has its flaws. Some of the most common risks related to transfer pricing are mentioned below.
- There can be significant additional expenses on account of establishing transfer rates and creating a robust accounting system. More time and manual labour are needed to set things in order.
- It can be challenging to determine the actual value of the intangible pricing policy such as services. The exact benefits derived is hard to measure therefore, transfer pricing might not be that effective in this scenario.
- The process of transfer pricing is not just time-consuming but full of complexities that might lead to mismanagement.
- Since buyers and sellers are responsible for performing different functions, it creates a new type of risk.
Benefits of transfer pricing
Here are some of the most prominent benefits of using transfer pricing.
- Transfer pricing can be used to drastically reduce the labour cost by exporting the goods to high tax nations at a fairly lower price.
- The overtaxing of goods being transferred to countries with lower tax rates can reduce the income tax for businesses operating in high-income nations.
Final words
Transfer pricing in India applies to all taxpayers including corporates, non-corporates, residents, and non-residents whose income is chargeable to tax in India.
