How intra-group services hold transfer pricing lessons

Recently, the Indian tribunals have rendered three key rulings on intra-group management charges. The first decision, from a transfer pricing perspective, was pronounced by the Bangalore Tribunal, in the case of Gemplus India Pvt. Ltd.which was held against the taxpayer.

The tribunal in this case observed that, where no evidence was submitted by the taxpayer and commensurate benefits was not established, the transfer pricing officer (TPO) was justified in making the disallowance. Subsequent decisions pronounced by Mumbai and Delhi Tribunal, in the cases of Dresser-Rand India Pvt. Ltd.and McCann Erickson India Pvt. Ltd. respectively, which also upheld the necessity to substantiate with evidence the receipt of services. However, in these cases the tribunal held in favour of the taxpayer because they had furnished supporting documents / information .

Transfer pricing audits are required to be completed by revenue authorities within 46 months from the end of the relevant financial year, with the request for information etcetera, gaining momentum in the last few months. Because collating and retrieving details nearly four years after the relevant previous year could be a challenging task, it is necessary to ensure that a standard operating manual is created to collate evidences contemporaneously.

Further, it is interesting to note, in the case of Gemplus India Pvt. Ltd., the Bangalore Tribunal observed that allocation of costs ought to be based on actual services provided and not on any allocation key or mutually agreed basis.

Conversely, the Mumbai Tribunal, in the case of Dresser-Rand India Pvt. Ltd., upheld the allocation of costs on the basis of average headcount and sales. This divergence in positions adopted by the tribunal might create some confusion for the taxpayers as even the OECD and UN transfer pricing guidelines have observed that direct charge method may not be easily identifiable and cost apportionment methods may be used as a basis for calculating the arm’s-length charge. Therefore, it would be useful to the taxpayer and the tax authorities if the Central Board of Direct Taxes (CBDT) issues specific guidance on this matter.

Lastly, on the vexing requirement to demonstrate the need for availing services, both Mumbai and Delhi tribunals have rightfully held that the TPO cannot question the commercial wisdom of the taxpayer in deciding the necessity for availing services from its associated enterprise and should restrict itself to determining whether the price paid by the taxpayer was at arm’s-length or not.

The above decisions clearly bring out the significance and relevance of underlying documentation to prove actual receipt of services, benefits received etcetera, which remains an important message for all taxpayers having such transactions.

By Samir Gandhi (sagandhi@deloitte.com), Manisha Gupta (manishagupta@deloitte.com) and Viswanathan Subramaniam (vissubramaniam@deloitte.com) of Deloitte India