How to prepare for TP litigation – Assessments, DRP, CIT(A), ITAT Samir Gandhi Mehul Shah Milin Thakore 4 April 2014 Contents • Indian transfer pricing story so far • Background • Assessment proceedings • DRP & CIT(A) • ITAT • Petitions for Stay of demand • Practical tips • Mutual Agreement Procedure (‘MAP’) • Advance Pricing Agreement (‘APA’) • Way forward 2 © 2014 Deloitte Haskins & Sells Indian Transfer Pricing – Story so far • Nine rounds of transfer pricing audits completed • Total value of adjustments is approx. $31 billion under litigation. • Audits for FY 2009-10 resulted in $11 billion (estimated) adjustment in the cases audited • Shift in focus of revenue authorities in the last few years – Issue of shares, AMP Expenditure, PE attribution • Dispute Resolution Panel proved not so effective, and litigation is long drawn • No option for settlement under current law • Multinational corporations (MNCs) opting for mutual agreement procedure (MAP) to achieve certainty and avoid economic double taxation Safe Harbor Norms notified in September 2013 and safe harbor order’s have been passed on 31 March 2014 APA provisions were introduced in Finance Act 2012 and notified Rules on 30 August 2012 Recently some unilateral APA’s have been concluded on 31 March 2014 Global Developments – OECD - BEPS, Country by Country Reporting, Exchange of Information. • • • • 3 © 2014 Deloitte Haskins & Sells Background • Legal Framework for Transfer Pricing Documentation: ― Under Section 92D(1), every person who has entered into an international transaction shall keep and maintain such information and document in respect thereof, as may be prescribed ― Certain transaction related prescribed documentation under Rule 10D(1) Method 4 Transaction related Information to be maintained 10D(1) (d) Nature and terms (including prices) of international transactions entered into with each associated enterprise, details of property transferred or services provided and the quantum and the value of each such transaction or class of such transaction. 10D(1) (e) A description of the functions performed, risks assumed and assets employed or to be employed by the assessee and by the associated enterprises involved in the international transaction 10D(3) (e) Agreements and contracts entered into with associated enterprises or with unrelated enterprises in respect of transactions similar to the international transactions © 2014 Deloitte Haskins & Sells Background (continued…) • Existing TP Strategy followed by majority taxpayers: ‒ Aggregation of international transactions for benchmarking such as • Import of raw materials; • Import of capital goods; • Export of finished goods; • Payment of royalty; • Payment of management services fees, etc. ‒ Identifying external comparables from public databases ‒ Comparing the profits earned at enterprise level with the arithmetic mean of profits earned by comparables ‒ TNMM being the most popular Transfer Pricing method 5 © 2014 Deloitte Haskins & Sells Normal Dispute Resolution Mechanisms Supreme Court High Court Tribunal CIT(A) / DRP Tax officer • Most tax disputes are dealt under traditional dispute resolution avenues • Each level of hierarchy involves substantial period of time • At times, cases at lower levels are passed in favor of revenue Biggest disadvantage — It could take several years to achieve certainty in tax position!! 6 © 2014 Deloitte Haskins & Sells Challenges in assessment proceedings Taxpayers manage (B) but fail to maintain (A) !! (B) Year end documentation summarizing the outcome ( C) TP Audit defense (A) Maintain Contemporaneous data / price setting / negotiation Adequate back-up documentation to be maintained, which justifies the basis on which price setting has been done 7 This results in: • Surprise at the time of assessment • Possibility of not being able to provide appropriate information, thus weakening TP defense strategy • Potential TP adjustment • Revenue authorities concluding the case in ad-hoc manner, in absence of required information. © 2014 Deloitte Haskins & Sells Dispute Resolution Panel (DRP) © 2014 Deloitte Haskins & Sells The DRP Process TP order prejudicial to taxpayer Draft order by tax officer Receipt of draft order by taxpayer (Within 45 months from end of tax year) (Within 30 days of receipt of draft order) Taxpayer files objections to variations to DRP and tax officer (Within 9 months from the end of the month in which draft order is issued) DRP to issue directions binding on tax officer Tax officer to pass final order (Within one month from end of month of receiving binding directions from DRP) Taxpayer intimates to tax officer of acceptance of variation No action taken by taxpayers Tax officer to pass final order Tax officer to pass final order (Within one month from end of month in which acceptance received) Taxpayers to file appeal with CIT within 30 days after receipt of final order from AO (Within one month from end of month in which the period for filing objections with DRP expires) No demand to be raised by the tax authorities at the stage of draft order 9 © 2014 Deloitte Haskins & Sells DRP v/s CIT(A) Particulars DRP CIT Appeal Resolution of tax disputes Within 9 months Approx. 2 to 3 years Payment of tax demand Stayed till disposal by DRP At least 50% demand to be paid in most of the cases Potential savings Saving of time and costs Lengthy and expensive Exposure to pending appeals Unfavorable order leads to higher exposure for pending appeals with similar issues Unfavorable order leads to higher exposure for pending appeals with similar issues Penalty proceedings Payment of penalty deferred till the disposal of the order Immediate pressure on the taxpayer Apart from domestic appeals/DRP whether consider MAP? 10 © 2014 Deloitte Haskins & Sells Income-tax Appellate Tribunal © 2014 Deloitte Haskins & Sells Appeals to the Income-tax Appellate Tribunal (‘ITAT’) – Some ground rules Income-tax Appellate Tribunal Rules, 1963 • • • • 12 Grounds of appeal need to be concise and not argumentative - Rule 8 Filing of an affidavit for unsubstantiated facts – Rule 10 Preparation of Paper books to be relied upon – Rule 18 Production of additional evidence – Rule 18, 29, 30, 31 © 2014 Deloitte Haskins & Sells Petitions for Stay of demand © 2014 Deloitte Haskins & Sells Stay of demand Stages of filing a Stay Demand raised pursuant to an Assessment Order and appeal pending before the CIT(A) File a stay ‒ Firstly to the AO ‒ Then to the Additional CIT ‒ Then to the CIT • Simultaneously to the CIT(A) ‒ Explore filing to the CCIT ‒ Finally Writ Petition to the High Court Demand raised pursuant to a final Assessment Order (post DRP directions) and appeal pending before the ITAT and Demand confirmed by the CIT(A) File a stay ‒ Firstly to the AO ‒ Then to the Additional CIT ‒ Then to the CIT ‒ Explore filing to the CCIT ‒ Then to the ITAT ‒ Finally Writ Petition to the High Court • Rule 35A – Procedure for filing and disposal of stay petition by ITAT • CBDT Instruction No.1914 dt. 2 Dec 1993 – Guidelines for stay 14 © 2014 Deloitte Haskins & Sells Stay proceedings before the Assessing Officer Recovery proceedings initiated against a taxpayer only when he is in ‘default’ or ‘deemed to be in default’ in making payment of taxes Application for stay of disputed demand must be made before the expiry of time prescribed in the notice of demand. AO can consider an application for staying demand even if it is filed beyond 30 days from the date of receipt of the notice Application for stay shall include the following: o brief facts of the case; o issues giving rise to the demand; o points for rectification, if any; o reasons for which the rectified demand should be kept in abeyance; o prima facie case; o financial position; o refunds due Mere filing of an appeal does not operate as a stay or suspension of the order appealed against – Collector of Customs v. Krishna Sales (P) Ltd. (AIR 1994 SC 1239). Therefore, it is necessary that as soon as an order raising a demand is received, taxpayer must make an application to the AO for keeping the demand in abeyance 15 © 2014 Deloitte Haskins & Sells Stay proceedings before the Assessing Officer Pending disposal of the stay petition, tax authorities should not proceed with coercive recovery measures – Mahindra & Mahindra v. UOI (59 ELT 505) (Bom) Parameters / guidelines laid down by the Bombay High Court which are required to be followed by the tax authorities in recovery matters ‒ KEC International Ltd. v. B.R. Balakrishnan (251 ITR 158) (Bom); ‒ UTI Mutual Fund v. ITO (345 ITR 71) (Bom) Other Rulings on stay ‒ Coca Cola India (P.) Ltd. v ACIT (285 ITR 419) (Bom) ‒ Mahindra & Mahindra Ltd. v. AO (295 ITR 42) (Bom) ‒ Valvoline Cummins Ltd v. DCIT (307 ITR 103) (Del) ‒ Deloitte Consulting India P. Ltd. v ACIT (W.P. 235 of 2014) ‒ MHADA v ADIT (S.A. 126 of 2012) Judicial rulings have recognised that the CIT(A) has powers to grant stay 16 © 2014 Deloitte Haskins & Sells Stay proceedings before the Tribunal No specific provision in the Act, conferring the power on the Tribunal to grant stay ~ inherent power (also recognised by prescription of filing fees u/s 253(7)) Stay before Tribunal can be filed only where appeal to Tribunal has been file and which is pending disposal Rule 35A of the Income-tax (Appellate Tribunal), Rules 1963 - Procedure for filing stay petition before Tribunal and its disposal thereof No specific time limit within which stay application is to be filed before Tribunal. Assessee approaches Tribunal only when coercive proceedings are initiated against him and he is left with no alternative Whether one stay application for more than one appeal / assessment year? Rule 35A(1)(b) of the Income-tax (Appellate Tribunal), Rules 1963 provides that separate applications shall be filed for stay of recovery of demands under different enactments thereby implying that where recovery of demands sought to be stayed pertains to the same enactment, an assessee may file a single application for stay 17 o o o Chiranjilal S. Goenka v. WTO (66 TTJ 728) (Mum ITAT); Elcid Co-op Hsg. Soc. Ltd. (2 SOT 553) (Mum ITAT); Wipro Ltd. v. ITO (86 ITD 407) (Bang ITAT) – Contrary View © 2014 Deloitte Haskins & Sells Stay proceedings before the Tribunal No specific time limit for disposing stay petitions. However, as stay petitions are normally filed when coercive action is taken for enforcing the demand, the petitions are disposed of by the Tribunal as early as possible Stay petition before Tribunal is maintainable despite non-filing of stay petition before lower authorities Seeking stay before the lower authorities is directory and not mandatory and hence petition for stay can be moved directly to the ITAT without approaching lower authorities o o o o 18 Broswel Pharmaceutical Inc. v. ITO (3 SOT 768) (All ITAT); DHL Express (India) Pvt. Ltd. v. ACIT (49 SOT 112) (Mum ITAT); Honeywell Automation India Ltd v. DCIT (49 SOT 333) (Pune ITAT); Bayer Material Science Pvt. Ltd. v. ACIT (46 SOT 46) (Mum ITAT) © 2014 Deloitte Haskins & Sells Stay proceedings before the Tribunal Considerations which may serve as a guideline while considering a stay petition: o o o o o o prima facie case in favour of the assessee; amount of tax and penalty involved in appeal; balance of convenience qua deposit of amount; possibility of irreparable injury or loss that may be caused if stay is not granted; safeguarding the interest of revenue; conduct of the assessee These were summarized by the Calcutta High Court in Golam Momen v. DCIT (256 ITR 754) (Cal). These are only illustrative considerations. Ultimately, it depends upon facts of each case 19 © 2014 Deloitte Haskins & Sells Stay proceedings before the High Court / Supreme Court Appellate Jurisdiction of the High Court / Supreme Court: Before the High Court it arises only when the Tribunal had granted stay on the recovery of demand, pending the disposal of the appeal and subsequently it decided the appeal against the assessee In such cases, alongwith the appeal to be filed before the High Court, a notice of motion can be filed to move the High Court for an interim relief of stay of demand pending the disposal of the appeal Similarly under section 261 of the Act, an appeal can be filed before the Supreme Court after taking leave from the High Court. Thereafter, the Supreme Court can be moved for granting interim relief for staying recovery of demand If the High Court does not grant leave to file an appeal against its order, then a Special Leave Petition can be filed under Article 136 of the Constitution 20 © 2014 Deloitte Haskins & Sells Practical tips © 2014 Deloitte Haskins & Sells Practical tips Past history of the case Maintaining a proceeding sheet - record of the discussions which took place in each of the hearing(s) • Recording of the same on the letter, etc., filed (Preferably scanning the same) • Proceeding sheet(s) • Intimating the client Appeal Charts / Written submissions • Use of charts is advisable: ‒ Many grounds of appeals ‒ Bulky Order(s) of the AO / CIT(A) ‒ Voluminous submissions filed alongwith paperbook ‒ Numbers & statistics The chart only encapsulates the submissions does not replace them – the chart should only contain a reference to the main submissions / paperbook 22 © 2014 Deloitte Haskins & Sells Practical tips • Returns, reports and documents to be thoroughly checked before filing - to ensure no contradiction. • Notices and communications from the department should be promptly replied to. • If the AO is not present or available on the appointed day, record should be maintained in the file noting this fact. • If it is felt that the assessing authority is of an adversarial attitude all oral submissions should be reproduced in writing. • All submissions relating to facts, undertakings and declarations should be signed only by an assessee unless otherwise specifically required to be signed by the representative. • Alternative pleas and claims to be made promptly. • In the era of e-filing of returns, it may be advisable to immediately file a letter (after e-filing) stating the positions, assumptions & claims in the return, to avoid penalty. 23 © 2014 Deloitte Haskins & Sells Practical tips • If a particular addition is agreed to buy peace that fact should be explicitly brought out in the submission. • Even if all the requirements of the department’s notice cannot be complied with, the assessee must try to comply with a majority of them. • If there is any delay or infringement then the default should be explained, both on merits and on technical grounds. Always keep a window open – for filing further details, if called for 24 © 2014 Deloitte Haskins & Sells Practical tips Personality of the Officer • Background ‒ Education ‒ Place of Posting • Experience ‒ Posts held • Approach ‒ Speed, details, adjournments • Personal behaviour pattern • Appreciate the circumstances in which Authorities work • Reference to Orders passed – Same Case / Others 25 Case History • Department’s stand in earlier years • Result of the appeal ‒ CIT(A) ‒ ITAT ‒ Courts • Is the action due to audit objection ‒ Legal position ‒ Stand of the department © 2014 Deloitte Haskins & Sells Practical tips Authorities' impression on submissions: • • • • • • 26 A Mixed bag - wide variation Some prepared diligently Some verbose with no substance Some prepared in a hurry without necessary analysis Some are more legal than factual Some display cut-and-paste marks: ‒ E.g. in respect to selection of comparables © 2014 Deloitte Haskins & Sells Practical tips Preparation – technical • • • • • • 27 Thorough knowledge of facts and issues. Case records. Discussions with client. Analysis of relevant case laws. Fall back options. Time Schedule. © 2014 Deloitte Haskins & Sells Practical tips Making the representation: • Punctuality. • Lucid language. • Brief facts, earlier proceedings, legal issues arguments, case laws. • Reference to sections, circulars, orders, paper book, copies of case laws and chart. • Simple numerical examples. • Be careful in use of analogies. • Distinguish or rebut cases/ incorrect facts relied upon by the opposite side. 28 © 2014 Deloitte Haskins & Sells Practical tips • No point should be conceded without prior consent of client. • Always summarize at the end. • Suggest – do not insist. • Let the other person feel that the idea is his. • Try to see things from the authority’s point of view. • Resist getting personal. • Be moderate in criticism. • Make the fault seem easy to correct. • Make the other person feel important. • Repeat wherever necessary. • Pause from time to time. • Observe the reactions of the authority. • Be a good listener yourself. • Wait when the authority’s are preoccupied. • Be time conscious. 29 © 2014 Deloitte Haskins & Sells Mutual Agreement Procedure (MAP) © 2014 Deloitte Haskins & Sells MAP process in India India transfer pricing adjustment Invoke MAP under tax treaty Move application with Overseas CA Statutory timeline – as per respective treaty/domestic law File copy with Indian CA, Overseas CA admits application and intimates Indian CA Meeting between India and overseas CA to explain case Demand stayed till dispute resolved, subject to provision of bank guarantee (US, UK and Denmark) Strategize and evaluate settlement options Meeting between CAs to reach settlement No 31 Continue domestic appeal process Is the settlement acceptable Yes Withdrawal of domestic appeal © 2014 Deloitte Haskins & Sells MAP vis-à-vis domestic appeal process Criteria 32 MAP Appeal Time frame Generally 2 to 3 years; having given that the CAs have reached a settlement on similar cases for other companies, the time frame may be shorter Can range from 7 to 12 years, depending upon level Approach More scope for negotiation/compromise Legalistic approach, no negotiations Taxpayer involvement CAs generally involve the taxpayers during the stage of fact finding, information gathering and explanations. However, the taxpayers are not the part of the bilateral negotiations between the CAs Significant involvement – proceedings take place in presence of company and its advisors Binding nature Binding on Revenue; Taxpayer need not accept if detrimental, can continue with domestic tax law appeal Binding, but sequential appeals can be made to higher judicial authorities Double tax mitigation Correlative relief typically available Double tax exposure if appeal is against taxpayer Collection of taxes India has MOU with US, UK and Demark for suspending collection of taxes Stay of demand at the discretion of the Revenue and Appellate Authorities Finality Decision of CA is binding on Revenue Revenue can prefer further appeal if order is in taxpayer’s favor © 2014 Deloitte Haskins & Sells What After MAP? • If the MAP settlement is favourable to the Group, then: ‒ MAP accepted ‒ Domestic appeals withdrawn ‒ for that year the litigation is settled ‒ Penalty proceedings are not part of the MAP settlement but it is expected that the Indian authorities will not press for these • If MAP settlement in not favourable, then: ‒ MAP can be rejected by the Group ‒ Domestic appeals to be the only remedy available ‒ The cover of stay of demand no longer available ‒ The tax demand will include interest ‒ Penalty proceedings will be held in abeyance till the CIT(A) level is in progress • For the company, the TP percentage proposed in MAP is not a benchmark for future years but will have persuasive value 33 © 2014 Deloitte Haskins & Sells APA scheme in India 34 © 2014 Deloitte Haskins & Sells Snapshot About 146 applications filed in the first year and close to 250 filed in the second year Maximum anywhere in the world for the first year Mostly for unilateral APA – some with option for bilateral Recently some unilateral APAs concluded Position paper for some of the bilateral APAs also finalized To fastrack the bilateral APA process, one more CA appointed 35 © 2014 Deloitte Haskins & Sells Overview of India APA programme • Agreement between taxpayer and the Indian Revenue • Provisions are effective from 1st July, 2012 • Binding on taxpayer and tax authority for the transaction covered by APA • APA will be declared as void, if obtained by fraud or misrepresentation • APA will be cancelled if critical assumptions are violated • Use of any method (whether specified or not) with adjustments/ variations as necessary Key features • Valid for the maximum period of 5 consecutive years • Can be unilateral, bilateral, or multilateral • Freedom from TP assessments and limited compliance post APA • Broadly similar to APA Schemes of other countries 36 © 2014 Deloitte Haskins & Sells Critical decision points - GO or Not Go for an APA Transaction amount is high • Cash flow locked up in disputed tax demands • High tax provisioning impacting India books The transfer pricing issue is complex • Examples – Intra group services, royalty rates, economic adjustments, guarantee fees, business restructuring There is large difference from tax authority’s position • Examples – Gaps between benefit test and tangible evidence available, functional characterization of the Indian entity There is contentious and expensive prior audit history • Several years already under audit/litigation for the same issue then APA might be helpful in alleviating the situation Facts are expected to remain stable over the next few years • Helpful for continuation and renewal of the APA Bilateral versus Unilateral APA • Unilateral APA’s take much less time as compared to bilateral APA which might take more than a year to be agreed 37 © 2014 Deloitte Haskins & Sells Way forward • Involve operational teams in tax / TP planning and documentation process • Ensure contractual arrangements are aligned with business models and to TP policy • Harmonize TP documentation with other regulatory requirements (eg customs, corporate governance) • Consistency with global TP approach and positions adopted in other countries • Imperative to maintain a robust transaction level documentation in respect of all the individual transactions documenting: ‒ Functional analysis for each transaction ‒ Commercial rationale for entering into a transaction with AEs ‒ Pricing mechanism used in such transaction ‒ the benefit in case of receipt of services • Framing a guideline to maintain documentary evidences in connection with each transaction • Periodic review of margins – review of transfer prices 38 © 2014 Deloitte Haskins & Sells Defense strategy Import of raw material / consumables Before entering into transaction • Detailed documentation of terms and conditions • Price setting mechanism in case of imports: evaluation of policy for Group Companies vis-à-vis pricing policy followed for third parties • Evaluation of prices charged by AE’s to third parties and evaluation of third party supplies • Compliance roadmap – compliance with other laws ( e.g. customs etc.) After the time of entering into transaction After entering into transaction • Adherence to the terms decided • Analysing similar transaction, if any • Adherence to pricing policies • Review of Budget vs. Actual • Price negotiations correspondence attached with invoice / PO • Review of margins through external benchmarking • Clear definition of functions and risks of each of the transaction party • Re- nogotiations, price escalations, changes in terms of sale / purchase etc. to be documented • Check price of raw materials against price declared in customs database – TIPS software • Year – end TP Documentation • Agreement for ‘long – term supply arrangements’ TPO’s prefer CUP method over TNMM method 39 © 2014 Deloitte Haskins & Sells Defense strategy Export of Finished Goods Before entering into a transaction At the time of entering into a transaction After entering into a transaction • Detailed documentation of terms and conditions • Adherence to the terms decided • Analysing similar transaction, if any • Price setting mechanism in case of exports • Adherence to pricing policies • Review of Budget vs. Actual • Evaluation of prices charged to AEs and evaluation of sales to third party • Price negotiations correspondence attached with invoice / PO • Review of margins through external benchmarking • Clear definition of functions and risks of each of the transacting party • Re-negotiations, price escalations, changes in terms of sale/ purchase etc. to be documented • Year- end TP documentation • 40 Agreements for ‘long-term supply arrangements’ © 2014 Deloitte Haskins & Sells Defense strategy Trading Activity – Import of Goods Before entering into a transaction At the time of entering into a transaction After entering into a transaction • • • Evaluating the need for re-negotiating mark up • Year end TP documentation • Margins earned by AEs on goods exported to taxpayer – whether comparable to third party sale? Analysing mark –up earned by distributors of similar goods in India • Determination of functions, Assets and risks i.e. full fledged distributor or limited risk distributor etc. • Determined based on functions who undertakes significant people function with respect to advertising, marketing and distribution 41 Relevant extract of “Standard Pricing List” of AEs • Invoicing, POs and other back-up documents • SVB valuation to be preserved and to be consistent with price setting analysis © 2014 Deloitte Haskins & Sells Defense strategy Sales Agency Commission Before entering into a transaction At the time of entering into a transaction After entering into a transaction • • Adherence to mutually agreed terms • • Evidence of negotiations/ communication with the third party customer Analysing profitability from sales agency activities, especially under “percentage of sales” mechanism • Evaluating the need for revisiting commission percentages • Adherence to and Documentation of “DOs” and “DON’Ts” • Year end TP Documentation • • • 42 Determining price – setting mechanism - “percentage of sales” or “cost-plus” based on evaluation of functional and risk profile Negotiations relating to commission percentages • Evaluation of PE exposure “Dos” and “Don’ts” to be documented Evidence of negotiations/ communication with the AEs • Elaborative computation of sales commission • “DOs” and “DON’ts” to be followed © 2014 Deloitte Haskins & Sells Defense strategy Management Service Fees • Management Service Fee charged by AEs are investigated by Tax Authorities in great detail • “Benefits Test” – enquiry into nature and value of benefits received by taxpayer as a result of availing Management Service Fees • Inability to satisfy the “benefits test” – the arm’s length value determined at a substantially lower amount and in some cases even as NIL • Tax Authorities also enquire into whether a similar charge is levied on other group entities and rates thereof are also called for and examined 43 © 2014 Deloitte Haskins & Sells Defense strategy Questionnaire issued by Tax Authorities for Management Service Fees 44 © 2014 Deloitte Haskins & Sells Defense strategy Questionnaire issued by Tax Authorities for Management Service Fees 45 © 2014 Deloitte Haskins & Sells Defense strategy Management Service Fees – Flow chart analyzing need for charging costs Costs Performed for specific affiliates? Yes Charge relevant affiliates No On behalf of shareholders? Yes Exclude from allocation No To acquire or develop new business? Yes Possibly exclude from allocation No Incurred to develop intangibles? Yes Set aside for royalty charge No Charge to affiliates by appropriate method 46 © 2014 Deloitte Haskins & Sells Defense strategy Management Service Fees - Documentation Invoice Invoice Service Agreement Service Agreement Cost allocation Cost allocation calculations calculations Policy document with: Policy document with: • Functional analysis (Benefit Test) • Functional analysis (Benefit Test) • Justification of allocation keys • Justification of allocation keys • Rationale for mark-up • Rationale for mark-up Audit statement confirming invoice in line with policy document Audit statement confirming invoice in line with policy document Benchmark of mark up Benchmark of mark up Management fee to be corroborated at TNMM level 47 © 2014 Deloitte Haskins & Sells Defense strategy Template for documenting Benefits Test at time of receipt of management service Description of the service Explanation in brief on the type of services received How are these services received Benefits derived E-mails, presentations, meetings, phone conferences, workshops and online access This assistance helps PQRL in improving corporate governance, transparency and effective reporting systems along with assisting in aligning with international accounting standards Financial Administration services Assistance on general accounting methods, cost accounting methods, preparing and monitoring periodic profitability analysis; budgeting and business planning methods; capital expenditure requirements; and financial forecasts 48 PQRL is provided templates for overall control of all revenues and expenses. These include a) Centralized capital expenditure budgeting system and monitoring of expenses against budget b) Forward plan calendar year budget & three revisions are there to take cognizance of change in the environment & its effect on the business plan. Centralized extensive annual budget preparation exercise for each calendar year, including manpower numbers & updating the same. c) Monthly & quarterly accounting information directly into Hyperion. d) Comparison with budget and seeking sensible commentaries on variations. e) Assisting & examining accounts receivable based on data submitted & raising queries where amounts are substantially old. f) Input of unit profitability data for each division into Khalix on a monthly basis g) Preparing client profitability as per the Khalix format for Hyperion clients. © 2014 Deloitte Haskins & Sells Judicial Precedents - Management service In favour • • • • Dresser Rand India Pvt Ltd AWB India Private Limited McCann Erickson India Pvt. Ltd TNS India Pvt Ltd Not in favour • Gemplus India Private Limited • Knorr-Bremse India Private Limited There is no clear jurisprudence on this matter. However, above cases highlight the importance of maintaining documentary evidence to demonstrate the nature of services received and the benefits thereof. 49 © 2014 Deloitte Haskins & Sells Synopsis of key judicial precedents Judicial Precedent Synopsis Dresser Rand India Pvt Ltd • • • • AWB India Private Limited • CUP method for benchmarking cannot be applied without examining the comparable’ and ‘uncontrolled’ transactions ; • Commercial expediency of the assessee cannot be questioned ; and • Assessee has demonstrated benefits received through documentary evidences in form of e-mail correspondences McCann Erickson India Pvt. Ltd • Entity level benchmarking on TNMM considered appropriate given there are no distinct business segments ; • Detailed charts showing cost benefit documentation has been submitted reflecting clearly the benefits received ; and • Benefit derived to the company must be considered from the angle of a prudent businessman. TNS India Pvt Ltd • TNMM accepted as an appropriate method ; • Difficult to place concrete evidences regarding advice provided by AE’s on daily basis; • Necessary to observe /perceive the way of conducting business to determine the benefits from services; and • Allocation of costs for similar services is consistent across group companies. 50 Commercial expediency of the assessee cannot be questioned ; Basis of allocation of cost should be on actual costs incurred ; Benefit need not be always in monetary/tangible terms ; Evidences in the nature of e-mails, reports, guidance notes sufficient to prove the receipt of services ; and • TNMM accepted as an appropriate method. © 2014 Deloitte Haskins & Sells Synopsis of key judicial precedents Judicial Precedent Synopsis Gemplus India Private Limited • The cost has been apportioned by the AE for different country centers on a mutual agreed basis and not on the basis of actual services rendered; • No details were available on record in respect of services rendered by the AE to the assessee; • The assessee has not proved any commensurate benefits against the payments of management charges to its AE. Knorr-Bremse India Private Limited • Rule 10D(1) mandates the maintainability of record of uncontrolled transactions to be taken into account in analysing the comparability of the international functions entered into by the assessee. It, therefore, is obligatory on part of the assessee to maintain such record and produce the same before the TPO to show that it had benchmarked the international transaction at ALP. This obligation, however, had not been discharged by the assessee; • The assessee has also not shown to be willing to pay any amount for such services, if it were, so provided by an independent enterprise or if the same would have been performed in house. 51 © 2014 Deloitte Haskins & Sells Defense strategy Questionnaire issued by Tax Authorities for Royalty / Fees for technical services 52 © 2014 Deloitte Haskins & Sells Defense strategy Questionnaire issued by Tax Authorities for Royalty / Fees for technical services (continued) 53 © 2014 Deloitte Haskins & Sells Defense strategy Royalty 54 Before entering into a transaction At the time of entering into a transaction After entering into a transaction • Royalty agreement to be entered into • • • Rationale of entering into royalty agreement Computation of royalty as per agreement to be kept on record • Collating documents evidencing benefits received during the year • Evaluating group policy for royalty transactions • Determining the arm’s length royalty rate using databases such as RoyaltyStat, Lexis-Nexis etc. Clear documentation of benefits received on account of the use of technical know-how / brand name © 2014 Deloitte Haskins & Sells Defense strategy Other transactions In respect of reimbursement / recovery of expenses paid to AEs • Not in the nature of any chargeable services • To confirm whether these are charged without any mark-up • Back up of adequate third party invoices 55 © 2014 Deloitte Haskins & Sells Appeals to the Income-tax Appellate Tribunal (‘ITAT’) Income-tax Appellate Tribunal Rules, 1963 • Concise grounds - Rule 8 “8. Every memorandum of appeal shall be written in English and shall set forth, concisely and under distinct heads, the grounds of appeal without any argument or narrative; and such grounds shall be numbered consecutively. Filing of affidavits – Rule 10. “10. Where a fact which cannot be borne out by, or is contrary to, the record is alleged, it shall be stated clearly and concisely and supported by a duly sworn affidavit.” 57 © 2014 Deloitte Haskins & Sells Appeals to the Income-tax Appellate Tribunal Preparation of paper books, etc – Rule 18: 18. (1) If the appellant or the respondent, as the case may be, proposes to refer or rely upon any document or statements or other papers on the file of or referred to in the assessment or appellate orders, he may submit a paper book in duplicate containing such papers duly indexed and paged at least a day before the date of hearing of the appeal along with proof of service of a copy of the same on the other side at least a week before: Provided, however, the Bench may in an appropriate case condone the delay and admit the paper book.] 58 © 2014 Deloitte Haskins & Sells Appeals to the Income-tax Appellate Tribunal Production of additional evidence 18 (4)The additional evidence, if any, shall not form part of the same paper book. If any party desires to file additional evidence, then the same shall be filed by way of a separate paper book containing such particulars as are referred to in sub-rule (3) accompanied by an application stating the reasons for filing such additional evidence. 29. The parties to the appeal shall not be entitled to produce additional evidence either oral or documentary before the Tribunal, but if the Tribunal requires any document to be produced or any witness to be examined or any affidavit to be filed to enable it to pass orders or for any other substantial cause, or , if the income-tax authorities have decided the case without giving sufficient opportunity to the assessee to adduce evidence either on points specified by them or not specified by them, the Tribunal, for reasons to be recorded, may allow such document to be produced or witness to be examined or affidavit to be filed or may allow such evidence to be adduced. Rules 30 & 31 59 © 2014 Deloitte Haskins & Sells Appeals to the Income-tax Appellate Tribunal Additional evidence 30 Such document may be produced or such witness examined or such evidence adduced either before the Tribunal or before such income-tax authority as the Tribunal may direct. 31. If the document is directed to be produced or witness examined or evidence adduced before any income-tax authority, he shall comply with the direction of the Tribunal and after compliance send the document, the record of the deposition of the witness or the record of the evidence adduced, to the Tribunal. 60 © 2014 Deloitte Haskins & Sells
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