Introduction
We are pleased to present the latest edition of Tax Street – our newsletter that covers all the key developments and updates in the realm of taxation in India and across the globe for the month of March 2024.
- The 'Focus Point' explores crucial transfer pricing pointers that taxpayers need to consider at financial year end.
- Under the 'From the Judiciary' section, we provide in brief, the key rulings on important cases, and our take on the same.
- Our 'Tax Talk' provides key updates on the important tax-related news from India and across the globe.
- Under 'Compliance Calendar', we list down the important due dates with regard to direct tax, transfer pricing and indirect tax in the month.
We hope you find our newsletter useful and we look forward to your feedback.
You can write to us at taxstreet@nexdigm.com. We would be happy to hear your thoughts on what more can we include in our newsletter and incorporate your feedback in our future editions.
Focus Point
Financial year-end: Checkpoints from a Transfer Pricing perspective
As we approach the closure of accounts for FY 2023-24, it is crucial for the taxpayers to review the effective implementation of transfer pricing policies. This ensures alignment with these policies, compliance with the arm's length principle, and congruence with business objectives. Throughout the year, the taxpayers would have diligently monitored their intercompany transactions and assessed their adherence to arm's length standards. As the financial year ends, it is opportune for taxpayers to reflect and confirm their transfer pricing outcomes, considering the following key points:
- True-up/True-down Adjustment:Assess the actual year-end results and compare them to the predetermined margins outlined in the agreed Transfer Pricing policy. If there is a deviation (either shortfall or excess), the taxpayer can perform a true-up/true-down adjustment before closing the books for the year. The timing of this adjustment is crucial, considering its implications from both withholding tax and GST perspectives, wherever relevant.
- Segmental financials: Segmented financials are necessary for audited financials when certain criteria are met. From a transfer pricing perspective, they are essential when dealing with multiple revenue streams or transactions with related/unrelated parties (based on functions, activities, pricing policies, etc.). Preparing and analyzing these segmental financials before finalizing accounts is crucial to ensure compliance with arm's length criteria. If some segments do not meet these criteria, there's still room for true-up/true-down adjustments to align transactions appropriately. Moreover, while direct expenses can be allocated based on actual cost centers, identifying suitable allocation keys is essential for allocating indirect expenses.
- Losses incurred by distributors: Though seemingly simple, distribution business models often pose complexity to align with transfer pricing policies. Limited risk distributors must maintain guaranteed net operating margins, while normal risk distributors can incur net losses with a strong arm's length rationale. Losses incurred by normal risk distributors require robust documentation, analyzing whether they stem from market penetration strategies and are supported by realistic projections, as for third-party distributors, incurring losses or investing for another third party is unlikely unless they perceive a realistic chance of recouping past losses and achieving a fair market return on their investments. In cases of losses, evaluating subvention or credit notes from associated enterprises and adjusting pricing in future budgets becomes necessary, particularly for exceptional years. Complications arise, especially when distributors undertake significant marketing functions, which are highly litigated by Indian tax authorities.
- Deemed International Transactions (DIT): DIT, a concept in Indian transfer pricing regulations, applies when transactions between independent parties come under transfer pricing provisions and must adhere to the arm's length principle. Identifying DIT can be complex, with the taxpayer responsible for recognizing, reporting, and justifying such transactions from an arm's length perspective. It is crucial for taxpayers to review contractual arrangements with independent parties, determine DIT applicability, and communicate this to consultants to ensure compliance. Though true-up/true-down options are not available/limited with third-party transactions, early identification and risk analysis mitigate the risk of nonreporting.
- Need-benefit test for availing intragroup services: A significant area of dispute between tax authorities and Indian taxpayers stems from the receipt of intra-group services, often questioning the necessity and benefits received. Thus, maintaining thorough documentation is essential, including records of services provided, like emails, meeting minutes, internal memos, and timesheets. Additionally, it is crucial to include details of costs incurred by the associated enterprise, the basis for cost allocation, and benchmarking studies supporting hourly rates or markups charged. While such information is typically available, waiting until tax scrutiny to compile it poses challenges, especially if key employees have left or accessing historical data is difficult. This delay can result in the disallowance of charges, leading to tax, interest, and penalties. It is advisable to record and compile documents in real-time to mitigate such risks.
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The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.