TRANSFER PRICING - Comparable Uncontrolled Price

Presented by

Nilesh M KapadiaChartered Accountant

[email protected]

TRANSFER PRICING- Comparable Uncontrolled Price

Rule 10B stipulates the methods of determination of ALP.

Comparable Uncontrolled Price Method (‘CUP’)

Resale Price Method (‘RPM’);Cost Plus Method (‘CPM’);Profit Split Method (‘PSM’); Transactional Net Margin Method

(‘TNMM’).

2

Choice of Most Appropriate Method

26th October, 2012 (c) CA Nilesh Kapadia

CUPThe Comparable Uncontrolled Price (“CUP”)

method compares the price charged for property or services transferred in a controlled transaction to the price charged for property or services transferred in a comparable uncontrolled transaction in comparable circumstances.

The CUP method may also sometimes Be used to determine the arm’s length royalty for the use of an intangible asset.

CUPs may be based on either “internal” comparable transactions or on “external” comparable transactions. 26th October, 2012 (c) CA Nilesh Kapadia 3

Internal / External CUP

26th October, 2012 (c) CA Nilesh Kapadia 4

Comparability while applying CUP



Adjustments may be made forProduct comparability is of prime importanceBut other factors also important – i.e

Contractual terms e.g. FOB / CIF, credit termsEconomic conditions e.g. quantity , Product characteristics – e.g. off the shelf, or

customisedRisk allocation – inventory risk Vs credit riskGeographical differences – Europe market Vs

Asia market



Adjustments may be not be possible forFundamental product differencesBranded / unbranded products as effect of

brand on price may be difficult (impossible?) to quantify.

If such adjustments are necessary, but cant be done, CUP may not be relied upon, and other methods looked at


When to apply CUPWhen CUT is availableGenerally should be first choiceExternal comparables may be difficult to find

in practice unless the transactions involve a fairly common and homogeneous product or service. However, the advantages of the CUP method are great enough to warrant a significant effort to apply the method.

Generally applied when internal CUP is available (full data in-house)

Commodity type products26th October, 2012 (c) CA Nilesh Kapadia 8

Ideally suited for commodities which are subject matter of frequent trade;

In such cases market price may serve as benchmark;

However, difficulty in case of intermediate or capital goods, since information regarding market price may not be readily available.

Data compiled and maintained by other regulatory authorities may not be useful as it may not disclose key information.


Intra-Group Guarantees

10

Bank(3rd party)

Subsidiary State X(BBB-)

Parent State Y

(A-)

Libor + 120 bps

• Stand alone basis• No financial guarantee

• Under guarantee

Libor + 80 bps

Financial guaranteeGuarantee fee: full

40 bps (120 less 80); or part thereof? If part, how much?


CASE: VVF Ltd Vs DCIT {[ITAT Mumbai] [1 TTR 326] (Interest Free Loans)FactsThe taxpayer advanced interest free loans to

its AEs out of its own funds and determined the ALP as Nil

The TPO made an upward adjustment by adopting 14% p.a. (rate charged by Citibank on cash credit) paid by taxpayer as arm’s length interest



Taxpayer's contentionsLoan was granted to AEs out of the interest

free funds and since the taxpayer had sufficient interest free funds it was justified in not charging interest on the loans given to the AEs

Real income concept advocatedOn a without prejudice basis, the taxpayer

submitted that the TPO in subsequent assessment years had computed the arm’s length price of the international transaction of interest free loan at 4.5 percent per annum

The taxpayer submitted a letter from bank as external CUP

26th October, 2012 13

Tribunal Decision / ObservationsCost of funds is not relevant for

determining CUPNeed to see comparable transactions –

internal or externalCUP compares the price of an international

transaction with that of comparable uncontrolled transaction

Comparable transaction should be a forex loan

ITAT rejected the application of CUP by the TPO (rate on cash credit)

VVF Ltd. had availed the foreign currency loan from ICICI

Using interest rate charged thereof, confirmed the addition for interest

(c) CA Nilesh Kapadia

Tata Autocomp (52 SOT 48 (Mum ITAT)Whether transaction of granting

interest-free loan by assessee to its non-resident AE comes within ambit of international transaction and, thus, such a transaction can be subject-matter of test of arm's length price under section 92 - Held, yes - Whether mere fact that loan has RBI's approval does not put a seal of approval on true character of transaction from perspective of transfer pricing regulation as substance of transaction has to be judged as to whether transaction is at arms length or not


Tata Autocomp (21 taxmann.com 6 (Mum ITAT)Whether in case of loan advanced by

assessee-company to its AE located in Germany, EURIBOR based interest rate could be most appropriate comparable uncontrolled rate - Held, yes


Nimbus Communication Vs. Asst. CIT [132 TTJ 351] Interest on outstanding amount of AEFactsTaxpayer had recivables outstanding from

Aes for >180 daysTPO attributed interest on extended credit

and made adjustmentFor adjustment TPO used rate of interest

charged for inter-company loan

26th October, 2012 16(c) CA Nilesh Kapadia


Tribunal Decision / ObservationsTaxpayer has not charged interest on

delayed payments from third partiesTaxpayer has not paid interest on delayed

payments to its creditors TPO has not followed any of the methods in

making adjustmentLoans and trade credit are different and

not comparableITAT deleted adjustment on merits and law

Intel Asia Electronics Inc, India Branch Office Vs. ADIT [Bangalore ITAT] [ ITA No. 131/Bang/2010] [2011-TII-14-ITAT-BANG-TP]Transfer of AssetsFactsThe assessee is a foreign company having a

branch office in India.The Intel Technologies India Pvt. Ltd. is the

AE of the assesseeAssessee decided to close down the office in

India and transfer all its assets and liabilities to its AE as going concern



The consideration was determined as difference of value of assets and liabilities in the books of the Assessee.

The Value of assets was determined in accordance to the certificate of Chartered Engineer and Registered Valuer

TPO disregarded the valuation certificate on the ground that the valuer has charged depreciation arbitrarily and applied net book value method for determining ALP of transfer of PE business

CIT(A) upheld the order by TPO and AO

Agility Logistics (52 SOT 81)Assessee was logistics services provider and

had employed CUP as primary method for benchmarking its international transactions - According to assessee it was corporate policy of AEs all over world that after payment of costs, profits were shared equally between AEs that had participated in transaction - TPO rejected CUP method and proposed adjustment in ALP on ground that application of CUP using data of companies operating in different geographical locations could not provide realistic measure because of differences in economic conditions and policies of Government 26th October, 2012 (c) CA Nilesh Kapadia 20

Agility Logistics (52 SOT 81) However, facts in issue for year under appeal

were identical with facts of assessment years 2004-05 and 2005-06, in which Tribunal had allowed appeals of assessee - Whether following said decisions, appeal filed by assessee was to be allowed and addition on account adjustment in ALP was to be rejected - Held, yes



Tribunal Decision / ObservationRejection of Valuation report is upheld –

Assets should be valued using IT depreciation rates

Therefore the matter is set aside to the file of AO with direction to determined the ALP using IT rates of depreciation.

Genesys Int (26 taxmann.com 101)It was also stated that the rate charged to its

AEs are same to the rates charged to independent third party who operate in the same geographical region availing similar services. It is observed that assessee furnished details of the said working to the TPO.

Moreover, the Commissioner (Appeals) has also tabulated in its order the details of comparable services and rates charged by the assessee from its AEs and Non-AEs in the relevant financial year and observed that assessee charged higher rate from its AEs than what it charged from third party. 26th October, 2012 (c) CA Nilesh Kapadia 23

Genesys Int (26 taxmann.com 101)• The department has also not brought any

evidence on record to controvert the submissions of assessee that the services rendered to the AEs and third parties are of similar type and operate in the same geographical region.

The geographical consideration has to be kept in mind while considering the rates and to determine the ALP while applying CUP method.


Trimex Industries (25 taxmann.com 19 Chennai ITAT)The assessee has compared its sale price to

the AE with that of the export rate of the competitor, IBC Ltd. In the case of Barite Powder, the export price by IBC Ltd. was US$51.65 per MT, whereas the price realized by the assessee for the shipment made in April 2005 was US$ 48.50 per MT and US$54.50 per MT for the shipment made in September, 2005. The average price realized by the assessee on export of minerals to its AE is very much comparable to the price reflected in the transactions made by its competitor, IBC Ltd.


Trimex Industries (25 taxmann.com 19 Chennai ITAT)The assessee is operating in a very limited

sphere. The assessee and its competitor, few in number, have obtained licences from State Government undertaking of Andhra Pradesh on the basis of public auction. The dealers in this field are few in numbers. and as pointed out by the assessee, there cannot be a large number of cases available for comparison.


Trimex Industries (25 taxmann.com 19 Chennai ITAT)The most important point is that in the case

of assessment of IBC Ltd., the authorities have made a comparison with sale price recorded by the assessee and that comparison was found reasonable and no addition was made in the case of IBC Ltd. This is a sure case of double standard. The TPO has made a fundamental omission in not comparing the rate declared by IBC Ltd. while proposing the additions in the hands of the assessee company.


Trimex Industries (25 taxmann.com 19 Chennai ITAT)Then what is the method of comparison

adopted by the TPO? This is apparent in the case of Bentonite Lumps. The TPO has adjusted the price reflected in the sale of 40 MT Bentonite Lumps made to non-AE. The TPO summarily rejected the sale price reflected in the case of a sale of 23500 MT made to its AE. Is it fair to say that the export price of 23500 MT would be exactly that of a sale of 40 MT? In every trade, the volume of the consignment is a very important factor. The price offered to its Dubai AE will be influenced by volume, frequency and other vital aspects of the trade.


Trimex Industries (25 taxmann.com 19 Chennai ITAT) The sale of 40 MT made to non-AE was an

occasional sale, where the assessee was not constrained by such considerations as applicable in the case of its AE. Therefore, it is evident that the TPO has erred in comparing the mountain with a mole hill.


Genom Biotech (21 taxmann.com 315 (Mum ITAT)The TPO in his Order has not given any

reason as to why he is rejecting the CUP method adopted by the assessee for determining the arm's length price for reimbursement of business promotion expenses by the assessee to the AEs. It was well settled that no method can be rejected without giving cogent reasons. The TPO has to state why CUP method is not applicable in this case. After assigning reasons, then the TPO has to state as to how 'TNMM' is the most appropriate method, to be applied on the facts and circumstances of this case. This is not done,


Genom Biotech (21 taxmann.com 315 (Mum ITAT)There is no whisper on these issues in the

order of the TPO. Without giving any reasons for the rejection of 'CUP' method, the TPO, applied the mean of percentage of expenditure incurred by 17 pharmaceutical companies on advertisement and marketing and termed the same as arm's length price arrived by using 'TNMM'


Questions???Thank You


Documents

TRANSFER PRICING - Comparable Uncontrolled Price