Recent developments in transfer pricing in Asia Pacific

Global mobilisation and burgeoning economic activity are undergoing substantial structural shifts as the Asia-Pacific region and other developing markets continue to increase their relative share and importance in terms of global economic output, investment, and consumption. Moreover, many Asia-Pacific markets are expected to become more regular sources of profits for multinational enterprises (MNEs).

Asia-Pacific economies are also anticipated to host more valuable and complex economic activities and, as such, these countries want to ensure that they obtain a fair fiscal share. Transfer pricing has been at the forefront of the tax planning of economies for this region. Here are some of the recent developments in the transfer pricing arena in three significant economies of the Asia-Pacific region.

The Indian government has taken several unprecedented initiatives to regain investors' confidence by taking bold steps, such as not challenging the Bombay High Court ruling in the Vodafone case in Supreme Court, its quick response on the issue of minimum alternate tax (MAT) on foreign institutional investors (FII), and aligning the Indian transfer pricing rules with globally followed practices by introducing the range and multiple-year data concepts, to name a few. Apart from resolving long-drawn issues, the Indian government has also been instrumental in wooing the international business community by introducing new programmes such as "Make in India" and the simplification of tax and regulatory norms for doing business in India.

Going by the numbers, India's economy has expanded 7% in the first fiscal quarter of financial year 2015, whereas year-on-year increase in industrial production is 3.80%. Further, foreign direct investment reached $43.5 billion in financial year 2014-15.

Transfer pricing has frequently been a focal point of concern for foreign MNEs doing business in India. However, with the simplification of tax and regulatory norms for doing business in India, the Indian government has tried to bring a paradigm shift in the Indian transfer pricing regulations. Below are some recent developments in this space:

India's Direct Tax Regulatory Authority – the Central Board of Direct Taxes (CBDT) – recently notified much-awaited rules on "multiple-year" and "range" concepts that were introduced earlier in the Indian transfer pricing regulations. Before the introduction of these concepts, the Indian rules stipulated the application of the arithmetic mean instead of a range and the use of single-year data instead of multiple-year data for the determination of an arm's-length price. The use of single current year data and the arithmetic mean had been one of the long-standing conflicts between taxpayers and the Indian tax authorities.

With the introduction of the new rules, along with the self-explanatory illustrations, the Indian transfer pricing regulations finally match up with globally followed best practices. The key highlights are:

• The final rules state that for the purpose of selecting/identifying comparables, if a company's current year is not available, one-year prior data can still be used for carrying out the benchmarking analysis. Further, while applying multiple-year data, such comparable company's one or two prior years' data can be selected for comparability analysis.

• The multiple-year concept and range concept can be applied to the methods shown in Table 1.

• The final rules state that if the price at which the international transaction or specified domestic transaction has taken place is within the permissible range of 35th – 65th percentile, the same will be concluded to be an arm's-length price. There is a slight deviation from the globally followed interquartile (25th – 75th) range.

• The range concept may be applied only if there is a minimum number of six comparable companies in the dataset. On this background, any stipulation of minimum number of comparable companies may still lead to uncertainty in the adoption of the range concept or arithmetic mean concept for the purpose of determination of an arm's-length price.

Table 1
Methods in which multiple-year data may be applied	Methods in which range concept may be applied
•  Resale Price Method •  Cost Plus Method •  Transactional Net Margin Method	•  Comparable Uncontrolled Price Method •  Resale Price Method •  Cost Plus Method •  Transactional Net Margin Method

Table 2 (Currency: RMB)
Year	TP Audit Cases Launched	TP Audit Cases Closed	Tax Income Adjustment (Currency unit: 100M)	EIT Adjustment (Currency unit: 100M)
2005	361	42	4.6
2006	257	177	58.8	6.8
2007	192	174	89.5	10
2008	174	152	157	12.4
2009	179	167	160.9	20.9
2010	178	178	164.9	26.6
2011	248	207	N/A	31
2012	233	175	N/A	46
2013	159	211	N/A	46
2014	272	257	N/A	79

The final rules, along with the illustrations on the application of multiple-year data and the 35th-65th range, are expected to substantially reduce litigation, as far as traditional transfer pricing conflicts are concerned.

Introduced in July 2012, the advance pricing agreement (APA) programme has become a game changer in the Indian transfer pricing regulations. Coupled with the positive approach and response of the Indian APA authorities during the pre- and post-filing of APA applications, the entire APA programme has become a catalyst in infusing confidence in foreign MNEs. Testimony to the same can be seen in the large number of applications: more than 585 APA applications filed by taxpayers in the last three years. Of those, one bilateral and 19 unilateral APAs (including one unilateral with rollback) have been concluded by the Indian APA Authorities. The 20 concluded APAs pertain to various sectors, ranging from telecommunications, oil exploration, pharmaceuticals, finance, banking, software development services, and ITeS (BPOs). Further, a good number of applications are on the verge of conclusion.

With this kind of response from both taxpayers and the APA authorities, it can be said that the APA scheme has struck the right chord in reducing transfer pricing conflicts and mitigating future uncertainty.

The recent resolution of pending Mutual Agreement Procedure (MAP) cases by arriving at a "framework agreement" has been a major breakthrough for US MNEs operating in India. Historically, pending MAP cases with Indian and US Competent Authorities have been a major concern for MNEs operating in India. However, from the beginning of financial year 2015, MAP has got a boost, with the Indian Finance Ministry announcing the resolution of about 35 India-US transfer pricing disputes, and with another 200 India–US cases expected to be concluded in this financial year. The positive approach of both countries' Competent Authorities can be witnessed by the fact that the negotiated margin under the decided cases has either deleted or reduced the transfer pricing adjustment substantially, in which case double tax relief is provided by the parent MNE's tax authorities. In addition to the US cases, there is an expectation of resolution of 15 MAP cases with Japan this financial year, which will bring relief of $1.5 billion to Japanese MNEs in India.

An analysis of the judgments by the Indian Income Tax Courts reveals that the majority of the rulings are in favour of the taxpayer. Out of approximately 1925 rulings pronounced by the Indian Income Tax Court, the High Court, and the Supreme Court to date, approximately 60% are in favour of the taxpayer. Therefore, based on this result, it may be concluded that taxpayers have benefitted from litigation.

These recent developments in the Indian transfer pricing arena have provided some relief to the international business community. A few further steps, such as rationalising the safe harbour rules and aligning audit practices with the APA/MAP approach would go a long way in addressing their concerns, and would further boost their confidence about doing business in India.

Japan's National Tax Agency issued its 2015 Annual Report in June 2015, in which it described the status of tax appeals and litigation generally (not limited to transfer pricing) for its 2014 business year, which commenced in July 2014 and ended June 30 2015. The NTA reported that, during that year, (a) 2,745 cases were disposed of through the Petition of Exception process, which involves an administrative appeal filed to the tax office that had made the assessment or determination, in which full or partial relief was granted to the taxpayer in 9.3% of the cases; (b) 2,980 cases were disposed of by the National Tax Tribunal, in which full or partial relief was granted to the taxpayer in 8% of the cases; and (c) 280 tax cases were resolved in the civil courts, in which full or partial relief was granted to the taxpayer in 6.8% of the cases.

This data indicates that taxpayers continue to face challenges generally when contesting tax dispositions in Japan (although some experts in the past have observed that the low success ratios to some extent may be attributed to large numbers of individual "tax protest" cases). There has been only a relatively small number of transfer pricing disputes taken to court in Japan (largely because MAP is typically invoked, when possible, in transfer pricing cases), but taxpayers have enjoyed some success in transfer pricing cases in the Japanese courts. Nevertheless, if an intercompany transaction is challenged based on Japan's domestic law donation rules (rather than the transfer pricing rules), the taxpayer might be denied access to MAP in Japan (based on the dubious argument that this is a domestic tax law assessment that is not contrary to the treaty), in which case it then will have to resort to the domestic appeals procedures for relief.

Fortunately, the time required and the domestic appeals procedures are gradually improving from the standpoint of taxpayers. The NTA has set three months in principle as the target period for resolving cases in the Petition of Exception process and, during the 2014 business year, achieved this goal in 96.9% of the cases. The National Tax Tribunal has set one year in principle as the target period for resolving cases brought to it and, during the 2014 business year, achieved this goal in 92.2% of the cases. Litigation in the courts is still time-consuming but even the courts are trying to process cases faster. Consequently, generally speaking, the tax appeals process is taking less time.

Significant changes are also being made to the tax appeals process, and these will go into effect upon the issuance of revised cabinet orders, which are expected in April 2015. As a result of these amendments, taxpayers will be allowed the election to file an appeal of a tax assessment or determination directly with the National Tax Tribunal, rather than always having to first file a Petition of Exception to the tax office making the assessment or determination. The Petition of Exception process is being renamed a "Request for Reexamination". The deadline for filing an appeal is being extended from two months to three months.

In addition, changes to procedures in the National Tax Tribunal will make appeals to the Tribunal much more effective and important than in the past. The right to inspect (etsuran) documents submitted by the assessing tax office in a Tribunal proceeding will be expanded to permit copying of such documents (in the past, this was not permitted). This right will also be expanded to cover documents obtained by the Tribunal review officers pursuant to their authority (in addition to documents submitted voluntarily by the assessing tax office). Taxpayers also will be permitted to submit questions to the assessing tax office (through the Tribunal). Other changes will be made to facilitate the Tribunal review procedures.

Furthermore, commencing in 2011, the Tribunal has adopted a new procedure called "douseki shuchou setsumei" (literally, "joint argument explanations") for particularly difficult cases, whereby (a) the Tribunal reviewing officers, the taxpayer and its advisers, and the assessing tax office representatives will gather in the same room, (b) the parties will orally present their arguments to the Tribunal, (c) the reviewing officers will ask additional questions to both sides, and (d) each side can directly hear the arguments and responses of the other side. This contrasts with the prior procedure in which written briefs, rebuttals, and surrebuttals are simply passed by the parties back and forth through the Tribunal. That procedure will continue, but the new procedure is a welcome addition to the process for taxpayers. Unfortunately, it is still not possible to take direct testimony (for example, by questioning tax officials responsible for the assessment) before the Tribunal.

Cumulatively, these changes will make the tax appeals process before litigation in the courts much more meaningful. The taxpayer's ability to engage in effective discovery in the courts in Japan is still quite limited and is subject to wide discretion of the presiding judge. Consequently, it can be difficult or impossible to obtain internal documents or testimony from the assessing tax office. However, asking for a "reexamination" first and then taking the case to the National Tax Tribunal offers significant opportunities to learn more about the basis of the tax assessment and, in particular, the internal decision-making process within the assessing tax office that led to the assessment. Even if the taxpayer is not successful in the reexamination stage, its chances for success at the Tribunal stage may be increased due to its ability to obtain such information and develop enhanced arguments at the Tribunal. Finally, even if the taxpayer is not successful at the Tribunal, such information would assist it to prepare arguments for litigation in court. Consequently, although in the past many advisers would suggest that the pre-litigation tax appeals procedures are of little value (largely due to the low statistical chance of success), in this new environment, it clearly makes sense to carefully evaluate the potential strategic benefits of pursuing such procedures, even if the chances of success in those forums may remain relatively low.

In regard to transfer pricing examination activity, the NTA 2015 Annual Report disclosed that for the year ended June 30 2014 (the most recent year for which data were available as of June 2015), 170 transfer pricing assessments had been made, resulting in 53.7 billion yen in income adjustments.

In October 2015, the NTA also released its 2015 MAP Report, which provides details of the numbers of MAP cases and bilateral advance pricing arrangement (BAPA) cases received and resolved during the 2014 business year (ending June 30, 2015). According to this report, during that year, the NTA received 187 MAP requests, of which 140 were for BAPA and 35 for transfer pricing assessments. This compares with 197 MAP cases (including 152 BAPA cases and 37 for transfer pricing assessments) received in the previous year.

The number of MAP cases closed was 141, of which 121 were BAPA cases and 13 were transfer pricing assessments. This compares with 174 MAP cases and 121 BAPA cases closed in the previous year. "Closed cases" include both cases in which agreement was reached and cases that were withdrawn by the taxpayer.

The average processing time in a MAP case closed that year was 22.4 months, while the average processing time for a BAPA case was 22.2 months. The year-end inventory of cases as of June 30 2015, was 425 MAP cases, of which 330 were BAPA cases and 84 were transfer pricing assessment cases. By region, the year-end inventories were 139 MAP cases (including 129 BAPA cases) for the Americas, 168 MAP cases (including 115 BAPA cases) for Asia/ Oceania, and 72 MAP cases (including 58 BAPA cases) for Europe.

By country, the treaty partners with which the NTA has the largest year-end inventories were (in order) the US, China, South Korea, India, and the UK. The NTA also reported that non-OECD economies accounted for 21% of the overall MAP requests received and 31% of the overall year-end inventories. Nineteen MAP cases (including 12 BAPA cases) were closed with non-OECD economies during the year. "Non-OECD economies" refers to China, Hong Kong, India, Indonesia, Singapore, Thailand, Malaysia, and Vietnam.

This information demonstrates that the MAP and BAPA programmes in Japan remain quite active, not only with OECD countries but also with non-OECD economies.

In practice, the Chinese tax authorities have continued their anti-tax avoidance efforts at the central and local levels through restructuring their teams and work mechanism. The number of anti-tax avoidance human resources at China's SAT has doubled, and are now divided into two separate teams focusing on different tasks, although the headcount number is still limited, considering the long waiting list for MAPs and bilateral APAs. Furthermore, China's SAT has standardised its internal work procedures and intends to continue enforcing the so-called "panel review" mechanism, whereby a panel is composed of transfer pricing auditors from different levels of tax authorities across China for major transfer pricing cases.

Procedure-wise, the local tax authorities must file on record all transfer pricing investigation cases with the SAT at the central level, while the initiation and conclusion of a transfer pricing investigation requires the approval of the central SAT officials, who will supervise and support local tax officials at various levels and locations to directly conduct audits, in order to enhance the quality and consistency of transfer pricing audits. Moreover, the Chinese tax authorities have developed a "profit level monitoring" system that utilises a few hundred indicators of risk to identify potential audit targets, leveraging the information and data collected through historical transfer pricing documentation and tax returns. In recent years, it has been observed that the Chinese tax authorities have been encouraging taxpayers to make voluntary "self-adjustments" before conducting formal transfer pricing investigations and imposing adjustment on taxpayers.

China's SAT and local-level tax bureaus are becoming more aggressive and adopting more sophisticated means to evaluate and challenge the transfer pricing arrangements of both foreign MNEs' China affiliates and China-headquartered MNEs:

• Transactions: Extending from traditional tangible goods transactions to intangible, equity transfers, and intragroup services, among others;

• Industries: Extending from traditional industries to the commodities industry, financial services, or other services industries;

• Locations: Extending from Eastern/Southern China to Central/Western China; and

• Industry-wide/nationwide audits: China's SAT has continued to strengthen its focus on nationwide or industry audits. An industry-wide audit focuses on taxpayers in the same industry, whereas companies within the same multinational groups are under investigation simultaneously during a nationwide audit.

In addition to the above, China's SAT already applies location-specific advantages (LSAs) concepts, including location savings and market premium, with the goal of claiming a larger portion of the profit for local contribution, which may sometimes end up with the profit split method for transfer pricing adjustments, if external comparable data do not take LSAs into consideration. It is worth noting that some local in-charge authorities have disregarded or proposed adjustments to transfer pricing policies globally implemented, because, from the standpoint of some Chinese local tax authorities, the existence of a globally consistent policy may provide further justification to modify the policy to account for China's local market attributes.

Apart from LSAs, the Chinese tax authorities have shown increasing interest on local intangible issues, by examining the economic substance – primarily the location of people, functions, and associated asset, as well as the actual control over risk – to scrutinise the potential creation of local intangibles by Chinese taxpayers and demand a greater portion of the residual profit attributable to China. Particularly in the spotlight are Chinese entities conducting activities that are viewed by the Chinese tax authorities as creating non-routine value (for example, certain R&D, brand-building, or market-penetrating activities), but that are compensated with a routine return. Evidence of China's SAT's effort to determine Chinese taxpayers' profit appropriately is the introduction of the value creation method as an example of other methods in the recent revised transfer pricing rules draft.

The historical statistics of transfer pricing audit cases reveal that the Chinese tax authorities have continued the trend of focusing on larger intercompany transactions for transfer pricing audits, rather than conducting as many transfer pricing audits as possible. This focus on "quality over quantity" has resulted in a significant increase in cases with larger adjustments, and the average adjustment to tax payable per case has increased dramatically since 2005, as shown in Table 2.

In response to the OECD/G20 BEPS recommendations, China's SAT is currently in the process of revising the transfer pricing rules stipulated in Guoshuifa [2009] No.2 ("Circular 2") – "Implementation Measures on Special Tax Adjustments (Trial version)," which is expected to be finalised soon. Considering the increased transparency in information disclosure, especially on overseas affiliates' data, as well as the systematic monitoring of profit levels of taxpayers under the new China transfer pricing regime, it will come as no surprise that Chinese taxpayers will be subject to higher transfer pricing risks, whilst more targeted transfer pricing audits and disputes could be anticipated on a prospective basis.

With the growing importance of economies in the Asian region for MNEs, both from the demand and supply side in their global trade, the introduction and implementation of policies in these geographies is expected to be followed by MNEs with increased interest. Given the BEPS recommendations, MNEs may expect more changes in the future, and the impact of such changes may be seen in the form of increased transfer pricing scrutiny and exchanges of information and cooperation between the tax administrations of different countries. Tax policies that provide certainty and reduce litigation will go a long way to make doing business in this region easier for MNEs.

Vishweshwar Mudigonda Deloitte India Deloitte Centre, Anchorage II, 100/2, Richmond Road, 560 025 Bangalore mvishweshar@deloitte.com www.deloitte.com Mudigonda Vishweshwar (Vish) is a partner in the Bangalore office of Deloitte India. He leads Deloitte's transfer pricing practice in India. Vish has broad experience, with 23 years of experience in the fields of direct taxes, international taxation, and transfer pricing. Vish's practice caters to the transfer pricing requirements of some of the largest clients of the Bangalore office, both multinationals and large Indian corporates, and coordinates matters with the other offices in India and the global transfer pricing group. He specialises in the information technology and business process outsourcing industry, and serves some of the largest Indian and foreign multinational companies in this sector. Vish has considerable experience advising companies across a broad spectrum of industries, including manufacturing, pharmaceuticals, financial services, automobiles, information technology, and fast-moving consumer goods sectors, in planning and documenting their transfer prices. He has successfully defended several clients before the Indian tax and appellate authorities on a range of transfer pricing issues. Vish has contributed several articles on transfer pricing and international taxation to tax publications and financial dailies. Vish has presented various papers on transfer pricing at seminars and conferences. Vish works closely with industry representatives such as NASSCOM, holds regular discussions with policy makers, and presents before India's law-making authorities regarding transfer pricing guidelines.

Eunice Kuo Deloitte China 28/F Bund Center 222 Yan An Road East Shanghai 200002 Tel: +86 21 6141 1308 eunicekuo@deloitte.com.cn www.deloitte.com Eunice Kuo is a tax partner with Deloitte China, and the national leader for transfer pricing service in charge of transfer pricing, business model optimisation, and tax structuring services. Eunice has 28 years of experience providing tax service. Before joining Deloitte China in 2010, she was the tax leader of Deloitte Taiwan, where she led the transfer pricing and international tax practice. Eunice has been providing transfer pricing services for many years. She started up the Deloitte Taiwan transfer pricing practice. She has worked in the preparation of transfer pricing reports, planning for cross-border transactions, mitigation of transfer pricing risks in related-party transactions, negotiating advance pricing agreements and tax adjustments, and tax planning related to cross-border supply chain management. Eunice is experienced in serving multinational companies' inbound activities, as well as China- and Taiwan-based multinational companies' outbound transactions. She is also experienced in providing negotiation strategies for discussions about APAs and audit defence. Eunice is a Taiwanese certified public accountant (CPA) as well as a Chinese CPA. She has been named a leading transfer pricing adviser by Euromoney/Legal Media consistently. She was also named as a Best of the Best transfer pricing adviser in 2013-2014 by International Tax Review.

Gary Thomas Deloitte Tohmatsu Tax Shin-Tokyo Building, 5F 3-3-1 Marunouchi Chiyoda-ku, Tokyo 100-8305 Tel: +81 3 6213 1139 gary.thomas@tohmatsu.co.jp www.deloitte.com Gary Thomas is a partner in the transfer pricing group of Deloitte Tohmatsu Tax based in Tokyo. He is registered as a Japanese zeirishi (licensed tax attorney), fully qualified to practice before the National Tax Agency and the National Tax Tribunal. Before joining Deloitte in 2014, he worked in Japan for more than 30 years as a partner in two global law firms. Gary advises European, Japanese, and US companies in connection with tax planning and defence and resolution of tax controversies in audits, domestic appeals, and governmental bilateral consultations under tax treaties. He is well known as an authority in transfer pricing planning and documentation, audits, competent authority procedures, and advance pricing arrangements (APAs) involving Japan and a variety of other countries, including, for example, Canada, France, Germany, Hong Kong, Malaysia, Singapore, Switzerland, and the US. He also has handled matters involving permanent establishment and withholding tax issues in Japan for foreign firms. His practice covers many industries, including pharmaceuticals, medical products, consumer goods, luxury goods, computer hardware and software, electronic equipment, semiconductors, online businesses, digital goods and services, and entertainment. Gary was the chair of the Taxation Committee of the American Chamber of Commerce in Japan (ACCJ) from 2000 through 2002. He was deeply involved in the effort to encourage the governments of the United States and Japan to negotiate a new US-Japan income tax treaty, which was finally ratified in March 2004. Gary has written and lectured extensively (in both Japanese and English) on transfer pricing, international tax planning, and dispute resolution. He is the author of the Japanese transfer pricing chapter in BNA Tax Management's Foreign Income Portfolio series. Gary is fluent in spoken and written Japanese. He received a BA degree in political science and Japanese language from the University of Washington (1973), a JD degree from Harvard Law School (1977), and a MA in Japanese law (taxation) degree (1989) and a MBA (accounting) degree (1994) from Asia University in Tokyo, Japan.