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