The 'Reform, perform, and Transform' is the success mantra of transforming India. Keeping this mantra of Prime Minister Narendra Modi at the centric, the Finance Minister, in Union Budget 2019, has emphasized on promoting digital economy, simplifying tax administration and bringing in better transparency.

On the Transfer Pricing Regulations front, the Finance Bill, 2019 (Bill) has primarily addressed some of the unanswered questions on secondary adjustment, whereas other proposed amendments relating to master file and Advance Pricing Agreement (APA) are more clarificatory in nature.

This article discusses the amendments / clarifications proposed in respect of secondary adjustment and other transfer pricing aspects along with certain nuances, which one could come across at the time of implementation.

Secondary Adjustment

India, for the first time, had introduced secondary adjustment provisions under Section 92CE of the Income Tax Act, 1961 ('the Act') vide Finance Act, 2017 that aligned with the international best practices. Countries viz. the USA, United Kingdom, Canada, France, South Africa, Korea, etc. were some of the earlier movers for implementing secondary adjustment provisions in their local regulations.

As per the current regulations, the taxpayer is required to carry out secondary adjustment if the taxpayer does not repatriate the amount of transfer pricing adjustment to India from its associated enterprise (AE), within prescribed time limit. The same is considered as a deemed advance and the taxpayer is required to pay taxes on deemed interest thereto. Since the time the rules were introduced, the taxpayers faced uncertainty in terms of interpreting the rules. Also, the mechanism provided for perpetual addition of interest and consequent tax thereon till the time the repatriation is not made.

In this context, it is worth mentioning OECD guidelines Organisation for Economic Cooperation and Development Transfer Pricing Guidelines (July 2017) which state that whenever any tax administration considers inclusion of secondary adjustment in its domestic law as a tax avoidance measure, it should frame the law taking into account the practical difficulties.

With an aim to effectively implement the regulations, some of the aspects have been addressed by the recent Budget proposal, and the same are discussed below:

Upfront tax payment - A practical solution?

The Finance Minister has proposed to provide an option to the taxpayers to make one-time payment of tax including surcharge on the amount of transfer pricing adjustment or part thereof, instead of tax on deemed interest every year in case the taxpayer does not repatriate money from its AE in India.

The Bill (with effect from 01 September 2019) proposes to provide an option to the taxpayer to pay additional tax @ 18% on excess money, which cannot be repatriated into India from the AE. The additional tax is proposed to be increased by a surcharge of 12%. This additional tax is required to be paid in addition to the existing requirement of tax on deemed interest till the date of payment of additional tax.

This provides an option to a taxpayer to opt for payment of taxes on primary adjustment thereby receiving upfront certainty. However, while opting this alternative, the taxpayer would need to note the following:

- the tax so paid shall be the final payment of tax and no credit shall be allowed in respect of the amount of tax so paid; and

- the deduction in respect of the amount on which such tax has been paid, shall not be allowed under any other provision of the Act.

Equating this with the internationally prevailing best practices, most of the countries having secondary adjustment in the local regulations do provide an opportunity to taxpayer to repatriate the money within the prescribed time frame; failing which a secondary adjustment is imposed. Similar to India, where the money is not repatriated, some countries consider it as deemed advance but some countries also consider this amount as deemed equity contribution or deemed dividend. Some of the countries having secondary adjustment in the form of constructive dividend include the USA, France, Canada and South Africa. Hence, in a way, the taxpayers have been provided an option to consider the secondary adjustment as deemed dividend (whereby the taxpayer can pay one-time additional tax and avoid repatriation) or to consider it as deemed advance till the time the money is repatriated into India. Thus, the proposed amendment is in line with the internationally accepted best practices.

The aforementioned option should be profoundly evaluated by taxpayers given that it safeguards MNE group from double taxation, provides certainty to taxpayer, reduces time and efforts towards repatriation of money and any unwarranted litigation towards secondary adjustment. However, while evaluating the option of repatriation versus upfront tax payment, a taxpayer may consider the following:

- AE's financial capability to repatriate excess money to India;

- in case the taxpayer is able to repatriate money only after a certain period of time, a cost benefit analysis may be undertaken i.e. mapping of tax outflow under existing secondary adjustment provisions vis-a-vis tax impact if taxpayer chooses the proposed option;

- prevailing tax regulations and deductibility of expense in the jurisdiction of the AE; and

- opportunity cost for AE and taxpayer with respect to excess money.

Thus, while this proposal is aimed to simplify the implementation of these provisions by giving one-time tax payment option, one will need to evaluate whether the proposed option is worth going for, or increases the tax burden of the taxpayer instead.

Besides above, the Bill also proposes the following clarifications (retrospectively from assessment year 2018-19 and subsequent assessment years) for effective implementation of secondary adjustment provisions:

Applicability: On a plain reading of current law, a view could be taken that the provisions will apply to cases where the primary adjustment is greater than INR 1 crore even if the same pertains to AY 2016-17 or any prior year. Also, the provisions will apply to cases pertaining to AY 2017-18 and onwards even where the primary adjustment is less than INR 1 crore. This led to uncertainty as to applicability of these provisions.

In order to remove the ambiguity in law, the proposed Bill has clarified that the condition of the threshold of INR 1 crore and of the primary adjustment upto AY 2016-17 are alternate conditions. Consequently, secondary adjustment provisions would not be applicable in case primary adjustment is made for AY 2016-17 or prior years irrespective of the amount of primary adjustment. Further, for AY 2017-18 and onwards, it will not be applicable in case the amount of primary adjustment does not exceed INR 1 crore.

Part payment of excess money: The provisions require a taxpayer to pay taxes on interest on deemed advance, if not repatriated to India within the prescribed time limit. There was an ambiguity with respect to calculation of interest amount in cases where part amount has been repatriated. It is, now, clarified that in case, part of the amount is pending to be repatriated, the interest is to be calculated on balance outstanding with AE (after considering part repatriation already made).

AEs which can repatriate: The condition of repatriating money into India raised issues in certain situations e.g. cessation of AE relationship, non-existence of AE at the time of secondary adjustment, primary adjustment relate to multiple AEs, AE faces financial difficulties in repatriating the money etc. This led to undue hardship to taxpayers in fulfilling the conditions laid under these provisions.

Towards this, the Bill proposes to provide an option to get excess money repatriated into India from any of its AEs, which is not resident in India. The issue, which MNEs may practically come across, is the deductibility in the hands of the AE making repatriation, which was not the party to the primary transaction. For example, in case the Indian taxpayer has a transaction with AE based in say, country A, however, due to some reason, the AE is unable to repatriate money, and the group decides that the AE based in say country B would repatriate the money into India. In that case, the AE based in Country B may not be able to avail deduction of such sum if the same does not meet with arm's length standard, thus, causing double taxation.

APA: Another clarification proposed by the Bill is that secondary adjustment provisions shall only be applicable to APAs, which have been signed on or after 1 April 2017; however, no refund of the taxes already paid till date under the pre amended section would be allowed.

Other TP Amendments

In addition to the above, the Bill has also proposed following other clarifications in the transfer pricing space:

- APA - Taxpayers had apprehension that tax officers would recompute/ reassess the entire income of a taxpayer who files a modified return of income pursuant to entering into an APA. The Bill proposes to clarify that in cases where assessment or reassessment has already been completed and modified return of income is filed by the taxpayer, tax officers shall pass an order of the assessment or reassessment to only modify the total income of the taxpayer to the extent of terms of APA.

- Country-by-Country Report (CbCR) - The term 'accounting year' in cases where a group has designated an alternate reporting entity (ARE), resident in India, raised ambiguity as to whether it refers the Indian entity's year end or parent entity's year end. To address such concern and bring clarity in law, the Bill proposes that in case of ARE, the reporting accounting year shall be considered as that of the parent entity.

- Maintenance and keeping of information and documentation - On plain reading of the current regulations, there was an interpretational issue as to whether a person not having any international transaction is required to comply with the maintenance of master file part A of Form No. 3CEAA or not. It has, now, been proposed that every constituent entity of an international group would be required to prepare and maintain master file (including filing of required form) even when there is no international transaction undertaken by such constituent entity. This amendment is more clarificatory in nature as it intended to remove the above anomaly. With this amendment, the constituent entities will be required to file Part A of Form No. 3CEAA even if there are no international transactions.

Further, it is proposed that the Assessing officer and Commissioner (Appeals) shall not have the power to call for the master file and the access to the same will only be given to prescribed authority. This would certainty provide a sigh of relief to the taxpayer regarding confidentiality and usage of data.

The proposed amendment shall take effect from 01 April 2020 or AY 2020-21 and subsequent years.

Conclusion

Most of the proposed amendments are indeed a welcome move for taxpayers in providing certainty for various aspects in transfer pricing space. The Bill has provided clarifications on many open questions on issues like secondary adjustment, CbCR, and APA. Overall, the proposed amendments have intended to provide clarifications aiming at practical and better implementation of the regulations.

Information for the editor for reference purposes only

(Shuchi Ray is Partner, Nimisha Parikh is Senior Manager, and Vipul Verma is Manager, with Deloitte Haskins and Sells LLP.)