What is Transfer Pricing?
Transfer pricing refers to the pricing of goods, services, and intangible assets transferred between related entities (associated enterprises) within a multinational enterprise group. In India, transfer pricing regulations are governed by Sections 92 to 92F of the Income Tax Act, 1961, read with Income Tax Rules 10A to 10E.
The fundamental principle is the "Arm Length Price" (ALP) - the price at which a transaction would occur between independent parties under comparable circumstances. This prevents profit shifting to low-tax jurisdictions through manipulated pricing.
Key Objectives of Transfer Pricing
- • Prevent tax base erosion through artificial profit shifting
- • Ensure fair allocation of profits among jurisdictions
- • Provide certainty to taxpayers through APA mechanism
- • Align India's tax system with international best practices (OECD)
Who Needs to Comply?
Transfer pricing documentation and audit requirements apply to taxpayers who enter into specified domestic transactions (SDT) or international transactions with related parties.
International Transactions Threshold
| Transaction Type | Threshold | Compliance Required |
|---|---|---|
| Aggregate related party transactions | > ₹1 crore | Form 3CEB filing |
| Documentation requirements | > ₹20 crores | Detailed documentation |
| Master File requirement | > ₹500 crores (consolidated) | Master File submission |
| CbCR (Country-by-Country Reporting) | > ₹6,400 crores (consolidated) | CbCR filing |
Specified Domestic Transactions (SDT)
Domestic transfer pricing applies when:
- • Transactions with related domestic companies exceed ₹20 crores
- • Transaction with units having tax holidays (SEZ, STPI, etc.)
- • Transactions with firms/LLPs where partners are related
Transfer Pricing Methods
The Income Tax Act prescribes five methods for determining ALP, plus a sixth residual method:
1. Comparable Uncontrolled Price (CUP) Method
Compares price charged in controlled transaction with price charged in comparable uncontrolled transaction. Best for: commodity trading, royalty payments, interest on loans.
2. Resale Price Method (RPM)
Arm length price = Resale price to unrelated party - Normal gross profit margin. Best for: distributors, marketing companies without significant value addition.
3. Cost Plus Method (CP)
Arm length price = Cost of production + Normal gross profit markup. Best for: contract manufacturers, toll manufacturers, service providers.
4. Profit Split Method (PSM)
Splits combined profit between associated enterprises based on relative contribution. Best for: joint ventures, integrated operations, unique intangibles.
5. Transactional Net Margin Method (TNMM)
Compares net profit margin relative to appropriate base (costs, sales, assets). Most commonly used method in India. Best for: limited risk distributors, routine service providers.
Documentation Requirements
Transfer pricing documentation is three-tiered under BEPS Action Plan 13:
1. Master File
Required when consolidated group revenue > ₹500 crores. Contains:
- • Organizational structure and business description
- • Group's intangible property and R&D policy
- • Financial and tax positions
- • APAs and rulings affecting the group
Due date: By tax return filing date (November 30)
2. Local File
Required when aggregate transactions > ₹20 crores. Contains:
- • Local entity business description
- • Controlled transaction details
- • Functional, asset, and risk analysis
- • Economic analysis and comparables
Due date: By tax return filing date
3. Country-by-Country Report (CbCR)
Required when consolidated revenue > ₹6,400 crores. Contains:
- • Revenue, profit, and tax by jurisdiction
- • Employee count and asset values
- • List of constituent entities
- • Principal business activities
Due date: Within 12 months of reporting financial year end
Form 3CEB Filing
Every taxpayer entering into international transactions or specified domestic transactions must obtain a report from a Chartered Accountant in Form 3CEB.
Filing Requirements
- • Must be filed before filing income tax return
- • Due date: November 30 (October 31 for transfer pricing cases)
- • Electronically filed using DSC of CA
- • Separate form for each associated enterprise relationship
Information Required in Form 3CEB
- • Name and address of associated enterprise
- • Nature of relationship
- • Description of transactions
- • Total transaction value
- • Method used for ALP determination
- • Adjustments made, if any
- • Reasons for method selection
- • CA's opinion on compliance
Penalties for Non-Compliance
| Nature of Default | Penalty | Section |
|---|---|---|
| Non-filing of Form 3CEB | ₹1,00,000 per form | 271BA |
| Failure to maintain documentation | 2% of transaction value | 271AA |
| Non-furnishing of report/document | ₹5,00,000 | 271G |
| Concealment of income (TP adjustment) | 100% to 300% of tax on adjusted amount | 271(1)(c) |
| Under-reporting due to TP adjustment | 50% of tax payable on under-reported income | 270A |
Advance Pricing Agreements (APA)
An APA is an agreement between a taxpayer and the CBDT determining the ALP or manner of determination of ALP for future international transactions.
Unilateral APA
Between taxpayer and CBDT only
₹10-20L
Filing fee
Bilateral APA
Involves tax treaty partner country
₹15-30L
Filing fee
Multilateral APA
Multiple treaty countries involved
₹20-50L
Filing fee
APA Process Timeline
- 1. Pre-filing Consultation: Optional discussion with APA team (2-3 months)
- 2. Formal Application: Detailed submission with facts, analysis, and proposed methodology
- 3. Analysis & Negotiation: CBDT reviews and discusses terms (12-24 months)
- 4. Draft Agreement: Terms finalized and draft prepared
- 5. Final APA: Signed agreement valid for 5 years (9 rollback years allowed)
- 6. Annual Compliance: Compliance reports filed each year
Safe Harbour Rules
Safe Harbour provisions allow eligible taxpayers to opt for predetermined margins/ALP, reducing compliance burden and audit risk.
Eligible Sectors & Margins (FY 2023-24)
| Category | Safe Harbour Margin |
|---|---|
| IT/ITES exports | 18-22% on operating costs |
| Financial transactions (loans) | Base rate + 150-350 bps |
| Auto ancillary manufacturing | 10-12% on operating costs |
| Contract R&D services | 24-28% on operating costs |
Note: Once opted, Safe Harbour applies for 3 years. Withdrawal allowed only after 3 years.