International Taxation

International Taxation [Income Tax] Assessment Year 2016-17

Complete coverage of tax provisions for Income from Salary and Income from House Property in Question & Answer format with practical illustration Compilation of CMA Suggested Answers [December 13 to June 16] CA IPCC Suggested Answers [May 98 to May 16]

T K SRIDHAR _____________________________________________________________________ Direct Taxation

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20. INTERNATIONAL TAXATION S

Content Double Taxation Relief

90

Agreement with foreign countries [Government to Government]

90A

Adoption by Central Government of agreement between specified associations for double taxation relief

91

Countries with which no agreement exists [unilateral relief] [No DTAA] SPECIAL PROVISIONS RELATING TO AVOIDANCE OF TAX

92

Computation of income from international transaction having regard to arm’s length price.

92A

Meaning of associated enterprise.

92B

Meaning of international transaction.

92C

Computation of arm’s length price.

92CA

Reference to Transfer Pricing Officer

92D

Maintenance and keeping of information and document by persons entering into an international transaction.

92E

Report from an accountant to be furnished by persons entering into international transaction.

92F

Definitions of certain terms relevant to computation of arm’s length price, etc. In sections 92, 92A, 92B, 92C, 92D and 92E, unless the context otherwise requires,

[CMA INTER SY12, D14, 2 Marks] Question: What is cross border transaction service? State the statutes primarily regulating the cross border transactions. Answer: Cross border transaction services means services related to transaction which involve two or more countries. In India, there are two Acts which primarily seem to show the concern when a person undertakes cross border transaction. They are (a) Foreign Exchange Management Act, 199; (b) IncomeTax Act, 1961.

[CMA INTER D07, 8 Marks] Question: Write short note on double taxation relief under section 90A of the Income Tax Act, 1961. Question: Briefly explain about double taxation avoidance agreement with foreign countries, Answer: Double taxation relief, agreement with foreign countries [S. 90] Double Taxation Relief 90

Agreement with foreign countries

90(1)

The Centw2ral Government may enter into an agreement with the Government of any

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country outside India 90(1)(a)

for the granting of relief in respect of

90(1)(a)(i)

income on which have been paid both income-tax under Income Tax Act in India and income-tax in that country; or

90(1)(a)(ii)

income-tax chargeable under this Act and under the corresponding law in force in that country to promote mutual economic relations, trade and investment, or

90(1)(b)

for the avoidance of double taxation of income under this Act and under the corresponding law in force in that country, or

90(1)(c)

for exchange of information for the prevention of evasion or avoidance of income-tax chargeable under this Act or under the corresponding law in force in that country, or investigation of cases of such evasion or avoidance, or

90(1)(d)

for recovery of income-tax under this Act and under the corresponding law in force in that country, and may, by notification in the Official Gazette, make such provisions as may be necessary for implementing the agreement.

90(2)

Where the Central Government has entered into an agreement with the Government of any country outside India under sub-section (1) for granting relief of tax, or as the case may be, avoidance of double taxation, then, in relation to the assessee to whom such agreement applies, the provisions of this Act shall apply to the extent they are more beneficial to that assessee.

90(3)

Any term used but not defined in this Act or in the agreement referred to in sub-section (1) shall, unless the context otherwise requires, and is not inconsistent with the provisions of this Act or the agreement, have the same meaning as assigned to it in the notification issued by the Central Government in the Official Gazette in this behalf.

[CMA INTER D15, 4 Marks] Question: What are the objectives of a double taxation avoidance agreement? Answer: Objectives of Double Taxation Avoidance Agreement: 1. Elimination of double taxation. 2. Non-discrimination of nationals of other state. 3. Rational and equitable allocation of income tax between two countries. 4. Promotion of trade and investment between trading partners. 5. Exchange of information to combat tax avoidance/tax evasion.

[CMA INTER SY12, J15, 4 Marks] Question: Explain the purposes for which the Central Government enters into double taxation avoidance agreement with any foreign country as per section 90 of the Income-tax Act, 1961. Answer: Purposes for which the Central Government can enter into DTAA

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Under Section 90(1) the purposes for which the Central Government can enter into double taxation avoidance agreement with foreign country are: 1. Granting of double taxation relief, i.e., relief in respect of income on which income-tax has been paid in India and also in the foreign country or granting of relief in respect of income-tax chargeable under the income-tax Act and under the corresponding law in that country to promote mutual economic relations, trade and investment. 2. For avoidance of double taxation of income under the income-tax Act and under the corresponding law in force in that country or specified territory. 3. For exchange of information for the prevention of evasion or avoidance of Income tax chargeable under the Income-tax Act or under the corresponding Law in force in that country or specified territory or investigating of cases of such evasion or Avoidance. 4. For recovery of income-tax under the income-tax Act and under the corresponding law in force in that country or specified territory as the case may be.

90A

Adoption by Central Government of agreement between specified associations for double taxation relief

90A(1)

Any specified association in India may enter into an agreement with any specified association in the specified territory outside India and the Central Government may, by notification in the Official Gazette, make such provisions as may be necessary for adopting and implementing such agreement

90A(1)(a)

for the granting of relief in respect of

90A(1)(a)(i)

income on which have been paid both income-tax under this Act and income-tax in any specified territory outside India; or

90A(1)(a)(ii)

income-tax chargeable under this Act and under the corresponding law in force in that specified territory outside India to promote mutual economic relations, trade and investment, or

90A(1)(b)

for the avoidance of double taxation of income under this Act and under the corresponding law in force in that specified territory outside India, or

90A(1)(c)

for exchange of information for the prevention of evasion or avoidance of income-tax chargeable under this Act or under the corresponding law in force in that specified territory outside India, or investigation of cases of such evasion or avoidance, or

90A(1)(d)

for recovery of income-tax under this Act and under the corresponding law in force in that specified territory outside India.

90A(2)

Where a specified association in India has entered into an agreement with a specified association of any specified territory outside India under sub-section (1) and such agreement has been notified under that sub-section, for granting relief of tax, or as the case may be, avoidance of double taxation, then, in relation to the assessee to whom such agreement applies, the provisions of this Act shall apply to the extent they are more beneficial to that assessee.

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90A(3)

Any term used but not defined in this Act or in the agreement referred to in sub-section (1) shall, unless the context otherwise requires, and is not inconsistent with the provisions of this Act or the agreement, have the same meaning as assigned to it in the notification issued by the Central Government in the Official Gazette in this behalf. Explanation 1.—For the removal of doubts, it is hereby declared that the charge of tax in respect of a company incorporated in the specified territory outside India at a rate higher than the rate at which a domestic company is chargeable, shall not be regarded as less favourable charge or levy of tax in respect of such company. Explanation 2.—For the purposes of this section, the expressions— (a) ‚specified association‛ means any institution, association or body, whether incorporated or not, functioning under any law for the time being in force in India or the laws of the specified territory outside India and which may be notified as such by the Central Government for the purposes of this section; (b) ‚specified territory‛ means any area outside India which may be notified as such by the Central Government for the purposes of this section.

[CMA RTP J10] Question: Arif, a resident both in India and Malaysia in previous year 2015-2016, owns immoveable properties (including residential house) at Malaysia and India. He has earned income of ₹50 lakh from rubber estates in Malaysia during the financial year 2015-2016. He also sold some property in Malaysia resulting in short-term capital gain of ₹10 lakh during the year. Arif has no permanent establishment of business in India. However, he has derived rental income of ₹6 lakh from property let out in India and he has a house in Lucknow where he stays during his visit to India. The Article 4 of the Double Taxation Avoidance agreement between India and Malaysia provides that where an individual is a resident of both the contracting States, he shall be deemed to be resident of the Contracting State in which he has permanent home available to him. If he has permanent home in both the Contracting States, he shall be deemed to be a resident of the Contracting State with which his personal and economic relations are closer (centre of vital interests). You are required to state with reasons whether the business income of Arif arising in Malaysia and the capital gains in respect of sale of the property situated in Malaysia can be taxed in India. Answer: Where the Central Government has entered into an agreement with the government of any other country for granting relief to tax or for avoidance of double taxation, the provisions of the Income-tax Act, 1961 are applicable in such case to the extent they are more beneficial to the assessee. Arif has a residential house both in Malaysia and India. Thus, he has a permanent home in both the countries. However, he has no permanent establishment of business in India. The Double Taxation Avoidance Agreement (DTAA) with Malaysia provides that where an individual is a resident of both countries, he is deemed to be resident of that country in which he has a permanent home and if he has a permanent home in both the countries, he is deemed to be resident of that country, which is the centre of his vital interests, i.e. the country with which he has closer personal and economic relations. Arif owns rubber estates in Malaysia from which he derives business income. However, Arif has no permanent establishment of his

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business in India. Therefore, his personal and economic relations with Malaysia are closer, since Malaysia is the place where—(a) the property is located and (b) the permanent establishment (PE) has been set-up. Therefore, he is deemed to be resident of Malaysia for AY 2016-2017. So, in this case, Arif is not liable to income tax in India for assessment year 2013-2014 in respect of business income and capital gains arising in Malaysia.

Question: Write short note on deduction allowed [S. 91] from the Indian income tax payable where the income doubly taxed. 91

Countries with which no agreement exists [unilateral relief] [No DTAA]

91(1)

If any person who is resident in India in any previous year proves that, in respect of his income which accrued or arose during that previous year outside India (and which is not deemed to accrue or arise in India), he has paid in any country with which there is no agreement under section 90 for the relief or avoidance of double taxation, income-tax, by deduction or otherwise, under the law in force in that country, he shall be entitled to the deduction from the Indian income-tax payable by him of a sum calculated on such doubly taxed income at the Indian rate of tax or the rate of tax of the said country, whichever is the lower, or at the Indian rate of tax if both the rates are equal.

91(2)

If any person who is resident in India in any previous year proves that in respect of his income which accrued or arose to him during that previous year in Pakistan he has paid in that country, by deduction or otherwise, tax payable to the Government under any law for the time being in force in that country relating to taxation of agricultural income, he shall be entitled to a deduction from the Indian income-tax payable by him—

91(2)(a)

of the amount of the tax paid in Pakistan under any law aforesaid on such income which is liable to tax under this Act also; or

91(2)(b)

of a sum calculated on that income at the Indian rate of tax; whichever is less.

91(3)

If any non-resident person is assessed on his share in the income of a registered firm assessed as resident in India in any previous year and such share includes any income accruing or arising outside India during that previous year (and which is not deemed to accrue or arise in India) in a country with which there is no agreement under section 90 for the relief or avoidance of double taxation and he proves that he has paid income-tax by deduction or otherwise under the law in force in that country in respect of the income so included he shall be entitled to a deduction from the Indian income-tax payable by him of a sum calculated on such doubly taxed income so included at the Indian rate of tax or the rate of tax of the said country, whichever is the lower, or at the Indian rate of tax if both the rates are equal. Explanation.—In this section,— (i) the expression ‚Indian income-tax‛ means income-tax 10 charged in accordance with the provisions of this Act; (ii) the expression ‚Indian rate of tax‛ means the rate determined by dividing the amount of Indian income-tax after deduction of any relief due under the provisions of this Act but before

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deduction of any relief due under this 11[Chapter], by the total income; (iii) the expression ‚rate of tax of the said country‛ means income-tax and super-tax actually paid in the said country in accordance with the corresponding laws in force in the said country after deduction of all relief due, but before deduction of any relief due in the said country in respect of double taxation, divided by the whole amount of the income as assessed in the said country; (iv) the expression ‚income-tax‛ in relation to any country includes any excess profits tax or business profits tax charged on the profits by the Government of any part of that country or a local authority in that country.

[CMA INTER SY12, D14, 2 Marks] Question: India has a Double Taxation Avoidance Agreement (DTAA) with USA. Mr. Murali, a resident Indian, has derived certain Income in USA. Assume that as per the DTAA the said income is taxable at the rate of 10%, whereas as per the provisions of the Income Tax Act, 1961, the same is taxable of 15%. Can Mr. Murali opt to be governed by the provisions of the DTAA, even though the DTAA deviates from the normal tax provisions? Will your answer be different, if Mr. Murali were a non-resident? Answer: As per section 90(1), India can enter DTAA with any country for granting tax reliefs. As per section 90(2), in relation to the assessee to whom such agreement applies, the provisions of the income-tax Act, 1961 shall apply to the extent they are more beneficial to that assessee. In other words, if the provisions of the DTAA are more favourable, the same shall apply. Section 90(2) uses the word ‚assessee‛ and not ‚resident assessee‛. Hence, the answer will remain the same, even where the assessee is a non-resident.

[CMA INTER J13, 5 Marks] Question: Mr. Basu is an actor deriving income from foreign contracts performed outside India, ₹1,00,000. Tax of ₹20,000 was deducted at source in the country where the performances were given. India does not have any agreement with that country for avoidance of double taxation. Assuming that Indian income of Mr. Basu is ₹3,00,000, what is the relief due to him under Sec. 91 for the assessment year 2016-2017. Answer: Computation of Total Income for the A.Y. 2016-17 (a)

(b)

Computation of total income:

₹

(i)

Indian income

3,00,000

(ii)

Foreign income

1,00,000

Gross Total Income or Total Income

4,00,000

Computation of Tax Liability:

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Income tax on total income: Less

15,000

Rebate u/s 87A

2,000 13,000

Add

(i)

Education cess @ 2%

260

(ii)

SHEC @ 1%

130 13,390

Double taxation relief under Sec. 91: ₹1,00,000 ×3.35%

Less

3,350

Tax payable

10,040

Note 1: Lower of the two will be the applicable rate for relief u/s 91 Average rate of tax in the foreign country = Average rate of tax in India =

= =

= 20%.

= 3.35%

[CMA INTER SY12, D14, 5 Marks] Question: Mr. Banerjee, a resident Indian and 56 years old, has derived the following income for the previous year relevant to the previous year 2015-2016. ₹

Particulars Income from business in India

3,80,000

Commission (gross) from a company in Hong Kong (tax paid in Hong Kong ₹40,000)

2,00,000

Dividend (gross) from a company in Hong Kong (tax paid in Hong Kong ₹22,500)

1,50,000

Interest on fixed deposit with banks in India

1,80,000

India has no DTAA with Hong Kong. Compute the income and tax payable by Mr. Banerjee for the assessment year 2016-17. Answer: Mr. Banerjee is entitled to relief under section 91. He is eligible for relief under section91, of a sum calculated on such doubly taxed income at the Indian rate of tax or at the Hong Kong rate of tax, whichever is lower, will be eligible for the relief.

Computation of Total Income Particulars

₹

Income from business in India

3,80,000

Commission received from a company in Hong Kong

2,00,000

Dividend received from a company in Hong Kong

1,50,000

Interest on fixed deposits with banks in India

1,80,000

Total Income

9,10,000

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Computation of tax liability ₹

Particulars Tax on ₹9,10,000 Add

1,07,000

Education cess and SAH cess @ 3%

3,210

Total tax liability before relief u/s 91 (a)

Average rate of income tax in India =

(b)

Average rate of income tax in Hong Kong =

1,10,210 = 12.11% = 17.86%

Relief u/s 91:Lower rate of (a) and (b) 12.11% of ₹3,50,000

42,385

Net Tax Liability

67,825

[CMA RTP D11] Question: Mr. Prasad, ordinarily resident in India, furnished the following particulars of his income/savings during the previous year 2015-2016. (i)

Income from foreign business (Including ₹2,00,000 from business

12,00,000

connection in India) accruing outside India (ii)

Loss from Indian business

–2,00,000

(iii)

Income from house property

(iv)

Dividends gross from Indian companies

60,000

(v)

Deposit in Public Provident Fund

70,000

(vi)

Tax paid in foreign country

4,00,000

2,50,000

There is no double taxation avoidance treaty. Compute the tax liability Answer: Computation of Total Income for the A.Y. 2016-17 Particulars 1.

Income from House Property

2.

Income from Business

(a)

Income from Indian business

(b)

(i) Income from foreign business accruing or arising outside India

₹ 4,00,000

(-) 2,00,000

(ii) Income from foreign business deemed to accrue or arise in India 3.

₹

(+) 10,00,000 (+) 2,00,000

10,00,000

Income from other sources Dividends from Indian companies exempt [Sec. 10(34)] Gross total income

Nil 14,00,000

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Less

Deduction for approved savings (Sec. 80C): PPF Deposits

70,000

Total income

13,30,000

Tax liability on total income

2,29,000

Add

Surcharge on income tax (assuming total income less than one crore)

Add

Education cess: 2% on the aggregate of income tax and surcharge

4,580

Add

SHEC @ 1%

2,290

Less

Nil

Tax liability

2,35,870

[S. 91] Double taxation relief on foreign business profits,

1,77,300

not deemed to accrue or arise in India [10,00,000 × 17.73%] Tax payable

58,570

Note 1: Lower of the two will be the applicable rate for relief u/s 91 Average rate of tax in the foreign country = Average rate of tax in India =

= =

= 17.73%.

= 20.833%

Note 2: The amount of doubly taxed income has been worked out as under: ₹ Income from foreign business, accruing outside India Less

Income from business connection deemed to accrue or arise in India

12,00,000 2,00,000

which is not entitled to double taxation relief. Doubly taxed income

10,00,000

Loss from Indian business has been set-off against profits from foreign business which is deemed to accrue or arise in India. The mode of set-off increases the amount of double taxation relief.

SPECIAL PROVISIONS RELATING TO AVOIDANCE OF TAX 92

Computation of income from international transaction having regard to arm’s length price.

92(1)

Any income arising from an international transaction shall be computed having regard to the arm’s length price. Explanation.—For the removal of doubts, it is hereby clarified that the allowance for any expense or interest arising from an international transaction shall also be determined having regard to the arm’s length price.

92(2)

Where in an international transaction, two or more associated enterprises enter into a mutual

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agreement or arrangement for the allocation or apportionment of, or any contribution to, any cost or expense incurred or to be incurred in connection with a benefit, service or facility provided or to be provided to any one or more of such enterprises, the cost or expense allocated or apportioned to, or, as the case may be, contributed by, any such enterprise shall be determined having regard to the arm’s length price of such benefit, service or facility, as the case may be. 92(3)

The provisions of this section shall not apply in a case where the computation of income under sub-section (1) or the determination of the allowance for any expense or interest under that subsection, or the determination of any cost or expense allocated or apportioned, or, as the case may be, contributed under subsection (2), has the effect of reducing the income chargeable to tax or increasing the loss, as the case may be, computed on the basis of entries made in the books of account in respect of the previous year in which the international transaction as entered into.]

Question: What are the conditions applicable for arm’s length price in the international transaction? Answer: Conditions for applicability of arm’s length price in the international transactions 1.

Two or more enterprises

2.

They are associated enterprises [92A(1)] or deemed associated enterprises [S 92A(2)]

3.

International transaction [S. 92B(1) or (20)] should be carried out by the associated enterprises

Question: What does an associated enterprise mean [S. 92A] and deemed to be an associated enterprise? Answer: 92A

Meaning of associated enterprise.

92A(1)

For the purposes of this section and sections 92, 92B, 92C, 92D, 92E and 92F, ‚associated enterprise‛, in relation to another enterprise, means an Enterprise

92A(1)(a)

which participates, directly or indirectly, or through one or more intermediaries, in the management or control or capital of the other enterprise; or

92A(1)(b)

in respect of which one or more persons who participate, directly or indirectly, or through one or more intermediaries, in its management or control or capital, are the same persons who participate, directly or indirectly, or through one or more intermediaries, in the management or control or capital of the other enterprise.

92A(2)

For the purposes of sub-section (1), two enterprises shall be deemed to be associated enterprises if, at any time during the previous year,

92A(2)(a)

one enterprise holds, directly or indirectly, shares carrying not less than twenty-six per cent of the voting power in the other enterprise; or

92A(2)(b)

any person or enterprise holds, directly or indirectly, shares carrying not less than twenty-six per cent of the voting power in each of such enterprises; or

92A(2)(c)

a loan advanced by one enterprise to the other enterprise constitutes not less than fifty-one per cent of the book value of the total assets of the other enterprise; or

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92A(2)(d)

one enterprise guarantees not less than ten per cent of the total borrowings of the other enterprise; or

92A(2)(e)

more than half of the board of directors or members of the governing board, or one or more executive directors or executive members of the governing board of one enterprise, are appointed by the other enterprise; or

92A(2)(f)

more than half of the directors or members of the governing board, or one or more of the executive directors or members of the governing board, of each of the two enterprises are appointed by the same person or persons; or

92A(2)(g)

the manufacture or processing of goods or articles or business carried out by one enterprise is wholly dependent on the use of knowhow, patents, copyrights, trade-marks, licences, franchises or any other business or commercial rights of similar nature, or any data, documentation, drawing or specification relating to any patent, invention, model, design, secret formula or process, of which the other enterprise is the owner or in respect of which the other enterprise has exclusive rights; or

92A(2)(h)

ninety per cent or more of the raw materials and consumables required for the manufacture or processing of goods or articles carried out by one enterprise, are supplied by the other enterprise, or by persons specified by the other enterprise, and the prices and other conditions relating to the supply are influenced by such other enterprise; or

92A(2)(i)

the goods or articles manufactured or processed by one enterprise, are sold to the other enterprise or to persons specified by the other enterprise, and the prices and other conditions relating thereto are influenced by such other enterprise; or

92A(2)(j)

where one enterprise is controlled by an individual, the other enterprise is also controlled by such individual or his relative or jointly by such individual and relative of such individual; or

92A(2)(k)

where one enterprise is controlled by a Hindu undivided family, the other enterprise is controlled by a member of such Hindu undivided family or by a relative of a member of such Hindu undivided family or jointly by such member and his relative; or

92A(2)(l)

where one enterprise is a firm, association of persons or body of individuals, the other enterprise holds not less than ten per cent interest in such firm, association of persons or body of individuals; or

92A(2)(m)

there exists between the two enterprises, any relationship of mutual interest, as may be prescribed.

[CMA INTER D15, 3 Marks] Question: Explain ‘associated enterprise’ in the context of taxation of income. Answer: An enterprise in relation to another enterprise shall be an associated enterprise: a) which participates, directly or indirectly, or through one or more intermediaries, in the management or control or capital of the other enterprise; or

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b) In respect of which one or more persons who participate, directly or indirectly, or through one or more intermediaries. In its management or control or capital, or the same persons who participate, directly or indirectly, or through one or more intermediaries, in the management or control or capital of the other enterprise.

[CMA INTER SY12, J15, 4 Marks] Question: When shall a transaction entered into with an unrelated person shall be deemed to be an international transaction with an associated enterprise? Answer: International transactions with an AE: As per section 92B as amended by the finance (no. 2) Act, 2014 a transaction entered into by an enterprise with a person other than an associated enterprises (i.e., ‚other person‛ shall be deemed to be an international transaction entered into between two associated enterprises in the following cases: 1. There exists a prior agreement in relation to the relevant transaction between the other person and the associated enterprise or, 2. Where the terms of the relevant transaction are determined in substance between such other person and the associated enterprise and 3. Either the enterprise or the associated enterprise or both of them are non-residents. It is immaterial whether such other person is a non-resident.

[CMA INTER D15, 3 Marks] Question: State whether the following transaction is international transaction between associated enterprises: A Co. Ltd. of Delhi has guaranteed a bank term loan of ₹25 crores (converted in Indian rupee) availed by Mckinsey inc. of Hong Kong. The loan guaranteed is 11% of the total borrowings of Mckinsey inc. Answer: When an assessee guarantees at least 10% of the borrowing of another entity, the relationship of associated enterprises is established. Since the guarantee for the loan exceeds 10% of the total borrowing A Co. Ltd. and Mckinsey Inc are associated enterprises. [CMA INTER D15, 3 Marks] Question: State whether the following transaction is international transaction between associated enterprises: Four partners of FA LLP of Mumbai are directors in Beta Co. Ltd. of UK. There are 9 directors in the governing board of Beta Co. Ltd. During the year FA LLP exported goods to Beta co. Ltd. for ₹20 crores, which is 80% of its total turnover. Answer: When more than half of the Board of Directors or memebers of the governing board of one enterprises are appointed by the other enterprises, the relationship of associated enterprises is established. Since the above condition does not apply, FA LLP and Beta Co. Ltd are not associated enterprises.

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[CMA INTER D15, 3 Marks] Question: State whether the following transaction is international transaction between associated enterprises: Ramesh & Co. a partnership firm located in Bangalore is 100% dependent on raw materials supplied by Abdul LLP of Singapore. There is no other investment or financial interest between these two entities. Answer: When 90% or more of the raw material to one enterprise is supplied by the other enterprises, the relationship of associated enterprises established. Since Ramesh & company is fully depended on Abdul LLP for supply of raw material, they are associated enterprises.

[CMA INTER SY12, J15, 1 Mark] Question: P. Ltd., a foreign company gave loan to Q. Limited., an Indian company. When shall P. Ltd. be deemed to the associated enterprise of Q. Ltd.? Answer: If loan obtained by Q. Limited from P. Limited constitutes at least 51% of the book value of the assets of Q. Limited, then P. Limited and Q. Limited shall be said to be associated enterprises.

[CMA INTER SY12, D14, 1 Marks] Question: State whether the following are associated enterprises. One of them being non-resident: X Co. Ltd. holds 12% partnership right in X Traders (firm). Answer: Since X. Co. Ltd. holds more than 10% interest in X trader (firm) the relationship between the X. Co. Ltd. and X traders is that of associated enterprises.

[CMA INTER SY12, D14, 1 Marks] Question: A Finance (non-corporate) guarantees loan taken by A & Co. (P) Ltd. for a term loan of ₹10 crores taken from a bank. A & Co. (P) Ltd. has a total borrowing of ₹20 crores. Answer: When an assessee guarantees at least 10% of the total borrowings of another entity, the relationship of associated enterprise is established. Since the guarantee for the loan exceeds 10% of the total borrowings A Finance and A & Co. (P) Ltd. are associated enterprises.

[CMA INTER SY12, D14, 1 Marks] Question: ABC Investments has advanced loan to DEF Ltd. which is more than 40% of book value of total assets of DEF Ltd. Answer: A loan advanced by one entity to another entity of at least 51% of book value of total assets would result in associated enterprise relationship. In this case, the loan advanced forms part of only 40% of book value of total assets of borrower DEF Ltd. Hence, they are not associated enterprises.

Question: What is international transaction?

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Answer: 92B

Meaning of international transaction.

92B(1)

For the purposes of this section and sections 92, 92C, 92D and 92E, ‚international transaction‛ means a transaction between two or more associated enterprises, either or both of whom are non-residents, in the nature of purchase, sale or lease of tangible or intangible property, or provision of services, or lending or borrowing money, or any other transaction having a bearing on the profits, income, losses or assets of such enterprises, and shall include a mutual agreement or arrangement between two or more associated enterprises for the allocation or apportionment of, or any contribution to, any cost or expense incurred or to be incurred in connection with a benefit, service or facility provided or to be provided to any one or more of such enterprises.

92B(2)

A transaction entered into by an enterprise with a person other than an associated enterprise shall, for the purposes of sub-section (1), be deemed to be a transaction entered into between two associated enterprises, if there exists a prior agreement in relation to the relevant transaction between such other person and the associated enterprise, or the terms of the relevant transaction are determined in substance between such other person and the associated enterprise.

[CMA INTER SY12, D14, 1 Mark] Question: What is international transaction? Answer: International transaction means a transaction between two are more associated enterprises, either or both of whom are non-residents, in the nature of purchase, sale or lease of tangible or intangible property or any other transaction as may be prescribed.

[CMA INTER D08, 4 Marks] Question: What are ‚International transactions‛ in the context of transfer pricing provisions? Answer: The term ‚International Transaction‛ covers a wide range of revenue and capital transactions between two or more associated enterprises where either or both are non-residents; The term also includes arrangements between associated enterprises for cost-sharing in connection with benefits, services or facilities provided to any of such enterprises. Additionally, another type of transaction is deemed to be an international transaction between two associated enterprises. This is when an enterprises, say X, has entered into a transaction with an unassociated person, say A Ltd. and there exists a prior agreement in relation to this transaction between A Ltd and Y Ltd. (an associated enterprise of X), or the term of this transaction are determined in substance between A ltd and Y Ltd.

[CMA INTER SY12, J14, 1 Mark] Question: What is ‚Arm’s Length Price‛? Answer: ‚Arm’s length price‛ means a price which is applied or proposed to be applied in a transaction between persons other than associated enterprises, in uncontrolled conditions.

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20.16

[CMA INTER SY12, D14, 1 Mark] Question: What is the basic object of ALP determination? The basic objective of determining ALP is to find out where any addition to income is warranted or not by way of (i) selling goods below arm’s length price; or (ii) buying goods at more than arm’s length price.

[CMA INTER J16, 5 Marks] Question: The first step in comparable arm’s length price study is selection of comparable companies. Once there is a selection of comparable companies, the next step it to filter these companies with the use of quantitative and qualitative filters. Name any ten filters which are commonly used. [CMA INTER SY12, D13 & D12, 6 & 1 Marks] Question: State any six / four filters which are used in computation of arm’s length price. Answer: (a) Turnover filter, (b) export filter, (c) related party filter, (d) employee cost filter (e) fixed asset filter, (f) R & D expense filter; (g) Income-tax filter; (h) diminishing loss filter (i) Different financial year filter; and (j) On site and off site filter

[CMA INTER SY12, D13, 3 Marks] Question: What is Berry ratio? Discuss its usefulness in computing ALP. Answer: Berry ratio is the ratio of gross profit to operating expenses. It measures the return on operating expenses. As the functions performed by the taxpayers are reflected in the operating expenses, this ratio determines the relationship of the income earned to the functions performed. This ratio helps in overcoming the difficulties in applying the RPM, which does not explain the creation of gross profit. This ratio is used in conducting on arm’s length analysis of service oriented industry such as limited risk distributor, advertising, marketing and engineering service. Berry ratio may be used to test whether service providers have earned enough mark up on their operating expenses. In essence, the Berry ratio implicitly assumes that there is the relationship between the level of operating expenses and the level of gross profits earned by routine distributors and service provides.

[CMA INTER SY12, D13, 3 Marks] Question: What is cost cover ratio and return on assets ratio?

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20.17

Answer: The cost cover ratio measures the ability of a company to cover its operating expenses through operating revenue. Given the limitation of financial information publicly available, the operating expenses of a selected comparable company are the sum of its operating revenue less EBIT. Return on assets ratio measures, the amount of EBIT per rupee of asset invested. This is a profitability ratio for measuring each company’s operational efficiency, is how efficiently the assets have been deployed by the company.

Question: Write a note on methods of computing arm’s length price. 92C Answer: 92C

Computation of arm’s length price.

92C(1)

The arm’s length price in relation to an international transaction shall be determined by any of the 6 methods, being the most appropriate method, having regard to the nature of transaction

92C(2)

Most appropriate method should be taken

92C(3)

Where during the course of any proceeding for the assessment of income, the Assessing Officer is, on the basis of material or information or document in his possession, of the opinion that—

92C(3)(a)

the price charged or paid in an international transaction has not been determined in accordance with sub-sections (1) and (2); or

92C(3)(b)

any information and document relating to an international transaction have not been kept and maintained by the assessee in accordance with the provisions contained in sub-section (1) of section 92D and the rules made in this behalf; or

92C(3)(c)

the information or data used in computation of the arm’s length price is not reliable or correct; or

92C(3)(d)

the assessee has failed to furnish, within the specified time, any information or document which he was required to furnish by a notice issued under sub-section (3) of section 92D, ‚Provided that where more than one price may be determined by the most appropriate method, the arm’s length price shall be taken to be the arithmetical mean of such prices.‛ the Assessing Officer may proceed to determine the arm’s length price in relation to the said international transaction in accordance with sub-sections (1) and (2), on the basis of such material or information or document available with him: Provided that an opportunity shall be given by the Assessing Officer by serving a notice calling upon the assessee to show cause, on a date and time to be specified in the notice, why the arm’s length price should not be so determined on the basis of material or information or document in the possession of the Assessing Officer.

92C(4)

Where an arm’s length price is determined by the Assessing Officer under subsection (3), the Assessing Officer may compute the total income of the assessee having regard to the arm’s length price so determined :

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20.18

Provided that no deduction under section 10A [or section 10AA] or section 10B or under Chapter VI-A shall be allowed in respect of the amount of income by which the total income of the assessee is enhanced after computation of income under this sub-section : Provided further that where the total income of an associated enterprise is computed under this sub-section on determination of the arm’s length price paid to another associated enterprise from which tax has been deducted [or was deductible] under the provisions of Chapter XVIIB, the income of the other associated enterprise shall not be recomputed by reason of such determination of arm’s length price in the case of the first mentioned enterprise.

Question: Write a note on most appropriate method for arm’s length price. *S. 92C(2)+ Answer: [S. 92C (2)] The most appropriate method referred to 92C(1) shall be applied, for determination of arm’s length price. Provided that where more than one price is determined by the most appropriate method, the arm’s length price shall be taken to be the arithmetical mean of such prices, or, at the option of the assessee, a price which may vary from the arithmetical mean by an amount not exceeding five per cent of such arithmetical mean.

[CMA INTER J09, 5 Marks] Question: Write a short note on Factors affecting determination of the most appropriate method in arriving at Arm’s Length Price in transfer pricing regulations. Answer: Factors Affecting Determination of the most Appropriate Method in Arriving at Arm’s Length Price in Transfer Price Regulations: The most appropriate method would be the one, which is best suited to the facts and circumstances of the international transaction, and which provides the most reliable measures of an arm’s length result in relation to the international transaction. The provisions enlist certain facts, which should be taken into account in selecting the most appropriate method: (a) The nature and class of the international transaction; (b) The class or classes of associated enterprises entering into the transaction and the function performed by them taking into account assets employed or to be employed and risks assumed by such enterprises; (c) The availability, coverage and reliability of data necessary for application of the method; (d) The degree of comparability existing between the international transaction and the uncontrolled transaction and between the enterprises entering into such transactions; (e) The extent to which reliable and accurate adjustment can be made to account for different, if any, between the international transaction and the comparable uncontrolled transaction or between the enterprises entering into such transactions; (f) The nature, extent and reliability of assumption required to be made in application of a method.

[CMA INTER SY12, D14, 2 Marks]

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20.19

Question: Can multi-year data be used for determination of ALP? Answer: Yes, as per rule 10B (4) the use of data relating to the financial year in which such international transaction has been entered into must be considered. Data of earlier years may also be used, if such date reveals acts which could on influence on the determination of transfer prices in relation to the transactions being compared.

[CMA INTER SY12, J14, J15 & J16, 1, 1 & 1 Mark] Question: What does ‚uncontrolled transaction‛ mean? Answer: ‚Uncontrolled transaction‛ means a transaction between enterprises other than associated enterprises, whether resident or non-resident.

[CMA INTER SY12, J14, 1 Mark] Question: Define ‚safe harbor‛. Answer: ‚Safe harbor‛ means circumstances in which the income tax authorities shall accept the transfer price declared by the assessee. The determination arm’s length price is subject to Safe Harbour Rules.

[CMA INTER SY12, D14, 1 Mark] Question: State the Form No. in which the accountant must certify the arm’s length price after audit. Answer: The arm’s length price upon computation under any of the methods shall be audited and certified Form No. 3 CEB vide rule 10E. [CMA INTER SY12, D13, 1 Mark] Question: Do you agree that arm’s length price determination is applicable when Indian importer imports goods / services from related party at a price more than the price supplied to unrelated parties by a foreign company? Answer: Yes. Arm’s length price determination is applicable when Indian importer imports goods / services from related party at a price more than the price supplied to unrelated parties by a foreign company.

[CMA INTER SY12, D13, 1 Mark] Question: Can the date of earlier year of comparable be used for determination of ALP? Answer: Yes. The same can be used provided such data reveals facts which could have influence on the determination of the ALP under the transaction which is being compared

[CMA INTER SY12, J15, 3 Marks] Question: What are the consequences (other than penalty) of adjustment made by the Assessing Officer to arm’s length price in international transactions entered into by the assessee resulting in increase in taxable income?

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20.20

Answer: Consequences of adjustments made to ALP In case the Assessing Officer makes adjustment to arm’s length price in on international transaction which results in taxable income of the assessee, the following consequences shall follow: 1. No deduction under section 10A/10B/10AA or under Chapter VI-A shall be allowed from the income so increased. 2. As a consequence, the total income of the assessee will go up by the amount of adjustment so made. 3. No corresponding adjustment would be made to the total income of the other associated enterprise (in respect of payment made by the assessee from which tax has been deducted or is deductible at source) on account of increase in the total income of the assessee on the basis of the arm’s length price so recomputed.

[CMA RTP J11] Question: What is Arm’s Length Principle? Answer: The arm’s length principle seeks to ensure that transfer prices between members of an MNE (‘controlled transactions’), which are the effect of special relationships between the enterprises, are either eliminated or reduced to a large extent. It requires that, for tax purposes, the transfer prices of controlled transactions should be similar to those of comparable transactions between independent parties in comparable circumstances (“uncontrolled transactions”). In other words, the arm’s length principle is based on the concept that prices in uncontrolled transactions are determined by market forces and, therefore, these are, by definition, at arm’s length. In practice, the “arm’s-length price” is also called“ market price’. Consequently, it provides a benchmark against which the controlled transaction can be compared. The Arm’s Length Principle is currently the most widely accepted guiding principle in arriving at an acceptable transfer price. As circulated in 1995 OECD guidelines, it requires that a transaction between two related parties is priced just as it would have been if they were unrelated. The need for such a condition arises from the premise that intra-group transactions are not governed by the market forces like those between two unrelated entities. The principle simply attempts to place uncontrolled and controlled transactions on an equal footing.

[CMA INTER D10, 5 Marks] Question: What is meant by ‚arm’s length price‛ in the context of transfer pricing provisions? Name the six methods used for computing the arm’s length price. [CMA INTER SY12, D13, 1 Mark] Question: State any two methods for determining arm’s length price. [CMA RTP J11, D11, J12 & D12] Question: What is arm’s length price? State the methods prescribed for its computation. Answer: Arm’s length price is a price which is applied or proposed to be applied in a transaction: 1.

Between persons other than associated enterprises;

2.

In uncontrolled conditions.

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20.21

The methods prescribed u/s 92C for computation of arm’s length price are: 92C

Computation of arm’s length price.

92C(1)

The arm’s length price in relation to an international transaction shall be determined by any of the following methods, being the most appropriate method, having regard to the nature of transaction or class of transaction or class of associated persons or functions performed by such persons or such other relevant factors as the Board may prescribe, namely :—

92C(1)(a)

comparable uncontrolled price method;

92C(1)(b)

resale price method;

92C(1)(c)

cost plus method;

92C(1)(d)

profit split method;

92C(1)(e)

transactional net margin method;

92C(1)(f)

such other method as may be prescribed by the Board.

[CMA INTER SY12, J14, 5 Marks] Question: What are the difficulties in applying arm’s length principle? Answer: Following difficulties are experienced in applying arm’s length principle: 1.

The most common problem is the requirement to find transactions between independent parties which can be said to be exactly comparable with controlled transaction.

2.

In a multinational environment enterprise system, a group first identifies the goal and then goes on to create the associated enterprise and finally, the transactions are entered into. This procedure is not applicable to independent enterprises. For this reason, there may be transactions within one multinational group, which may not be between independent enterprises.

3.

The reductionist approach of splitting a multinational group into it’s the benefits of economics of scale or integration between the parties, is not appropriately allocated between the multinational group.

4.

Application of arm’s length principle imposes a burden on business, as it may require the multinational group to do things that it would not have done otherwise, e.g., searching coparable transactions, robust documents, etc.,

5.

Arm’s length principle involves cost to the multinational group.

[CMA INTER SY12, D14, 3 Marks] Question: State the difficulties in ALP determination of intangibles. Answer: Where the transaction involves intangible assets, the following difficulties arise in transfer pricing determination: 1. Intangibles are seldom traded in the external market and it is very difficult to find comparables in the public domain. 2. Intangibles are often transferred and bundled along with tangible assets. 3. They are difficult to be detected.

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20.22

COMPUTATION OF ARM’S LENGTH PRICE Comparable Uncontrolled Price method (CUP): Step I: Identify the price charged/ paid for property transferred or services provided in a comparable uncontrolled transaction(s). Step II: Adjust the price derived in Step I above for differences, if any, which could materially affect the price in the open market. (a) between the international transaction and the comparable uncontrolled transactions, or (b) between the enterprises entering into such transactions. Step III: Arm’s Length Price = Step I Add/Less: Step II

[CMA INTER SY12, D13, 4 Marks] Question: A Co Ltd. of Chennai and Sky Inc. of Singapore are associate enterprises. A Co Ltd. Imported 1,000 television sets at ₹16,000 per set without any warranty period. A Co Ltd. also imports similar TV sets from unrelated party Sign Inc. of Japan. It is imported at ₹15,000 per set with warranty time of 2 years. The cost of warranty in respect of goods imported from Sky Inc. for a period of 2 years would cost ₹2,000. Compute arm’s length price and the amount of increase in total income of A Co Ltd., as per CUP method. Answer: Determination of the ALP under CUP method for A Co Ltd. Purchase price of television set per unit from Sign Inc. (unrelated party)

₹ 15,000

including warranty cost for 2 years Less

Adjustment for warranty cost to arrive at price without warranty cost

2,000

ALP

13,000

Purchase price of television set per unit from Sky Inc. without warranty

16,000

(a)

Excess differential price per unit , liable for ALP adjustment

3,000

(b)

No. of television sets involved

1,000

Reduction in purchase price, having an impact of increasing the total income ((a)×(b))

30,00,000

[CMA INTER SY12, J14, 6 Marks] Question: Zenith Inc., a US company holds 30% shares in Intech Ltd. an Indian company. Zenith Inc. sells its goods to Intech Ltd. Zenith Inc. also sells similar goods to Logitech Ltd., an Indian company which is not an associated enterprise. Zenith Inc. sells 50,000 units of ₹12,000 per unit to Intech Ltd and of ₹11,000 per unit for Logitech. The warranty in the case of sale of goods to Logitech Limited, Zenith Inc. is responsible for warranty for 6 months. Both Zenith Inc. and Intech Limited offer extended warranty at a standard rate of ₹1,000 per annum. Compute arm’s length price under CUP method and the amount of increase or decrease in total income of Intech Limited. Answer:

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20.23

Price charged by Zenith Ltd. to Logitech Ltd. Less

11000

Cost of warranty included in the price charged to Logitech Ltd. (₹1000 x 6/12)

500

Arm’s length price

10500

Price per unit charged to Intech Ltd.

12,000

Difference per unit

1,500

Number units supplied to Intech. Ltd.

50,000

Addition to be made in the computation of total income of Intech Ltd.

7,50,00,000

[CMA RTP J11] Question: J Inc., of Korea and CD Ltd., [an Indian Company] are associated enterprises. CD Ltd manufactures Cell Phones and sells them to J.K. & F Inc., a Company based at Nepal. During the year CD Ltd. supplied 2,50,000 Cellular Phones to J Inc. Korea at a price of ₹3,000 per unit and 35,000 units to JK & F Inc. at a price of ₹5,800 per unit. The transactions of CD Ltd with JK & F Inc. are comparable subject to the following considerations a.

Sales to J Inc. are on FOB basis, sales to JK &F Inc. are CIF basis. The freight and insurance paid by J Inc. for each unit @ ₹700.

b.

Sales to JK & F Inc. are under a free warranty for Two Years whereas sales to J Inc. are without any such warranty. The estimated cost of executing such warranty is ₹500.

c.

Since J Inc.'s order was huge in volume, quantity discount of ₹200 per unit was offered to it.

d. Compute the Arm's Length Price and the subsequent amount of increase in the Total Income of CD Ltd, if any. Answer: (a)

Computation of Arm's Length Price of Products sold to J Inc. Korea by CD Ltd Particulars

₹

₹

Price per Unit in a Comparable Uncontrolled Transaction

5,800

Less

Adjustment for Differences

(a)

Freight and Insurance Charges

700

(b)

Estimated Warranty Costs

500

(c)

Discount for Voluminous Purchase

200

(1,400)

Arms's Length Price for Cellular Phone sold to J Inc. Korea

(b)

Computation of Increase in Total Income of CD Ltd ₹

Particulars Arm's Length Price per Unit Less

4,400

Price at which actually sold to J Inc. Korea Increase in Price per Unit

4,400 (3,000) 1,400

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20.24

Number of Units sold to J Inc. Korea Increase in Total Income of CD Ltd (2,50,000 × ₹1,400)

2,50,000 ₹35 Crores

Resale Price Method (RPM) Step I: Identify the price at which property purchased or service obtained by the enterprise from an associated enterprise is resold or are provided to an unrelated enterprise. Step II: Reduce the normal GP margin accruing to the enterprise or to an unrelated enterprise from the purchase and resale of the same or similar property or from (II) obtaining and providing the same or similar services, in a comparable uncontrolled transaction (s). Step III: Reduce expenses incurred by the enterprise in connection with the purchase of property or obtaining of services. Step IV: Adjust for functional and other differences, including differences in accounting practices, if any, between the international transaction and the comparable uncontrolled transactions, or between the enterprises entering into such transactions, which could materially affect the amount of gross profit margin in the open market. Step V: Arm’s Length Price = Step I Less: Step II & III Add / Less Step IV.

[CMA INTER SY12, D14, 5 Marks] Question: MNO Ltd. and Roxy Inc. of USA are associated enterprises. MNO Ltd. imported 3,000 motor bikes from Roxy Inc. at ₹50,000 per bike. These are sold in India at ₹55,000 per bike. Also, MNO Ltd. imported exactly similar motor bikes from Hold Inc. of Japan (unrelated party) and sold outside at a gross profit of 20% of sales. Roxy ltd. offered a quantity discount of ₹1500 per motor vehicle. Hold Inc., however, offered only ₹500 per bike as quantity discount. The freight and insurance from Roxy USA cost MNO Ltd. ₹1500 per bike whereas in respect of purchase form Hold Inc. MNO Ltd. had to pay ₹500 as freight charges and there was no insurance cost on the assessee. Determine arm’s length price and amount of increase in total income of MNO Ltd. Answer: Computation of arm’s length price of products bought from Roxy Inc. USA and MNO Ltd., India Particulars Resale price of goods purchased from Roxy Inc.

Amount (₹) 55,000

Less

Adjustments for differences

(a)

Normal Gross profit margin @ 20% of sale price = 20% of ₹55,000

(b)

Incremental quantity discount by Roxy Inc. (1,500 – 500)

1,000

(c)

Difference in purchase related expenses (1,500 – 500)

1,000

Arm’s length price

11,000

42,000

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20.25

Computation of Increase in total income of MNO Ltd. Particulars

Less

Amount (₹)

Price at which actually bought from Roxy Inc. of USA

50,000

Arm’s length price under resale price method

42,000

Decrease in purchase price per unit

8,000

Number of units purchased from Roxy Inc. = 3,000 Increase in total income (3,000 units x ₹8,000)

240 lakhs

Cost plus Method in determining ALP Step I: Determine the direct and indirect costs of production incurred by the enterprise in respect of property transferred or services provided to an associated enterprise. Step II: Determine the normal GP mark-up to such costs (computed under same accounting norms) arising from the transfer or provision of the same or similar property or services by the enterprise, or by an unrelated enterprise, in a comparable uncontrolled transaction(s). Step III: Adjust the normal gross profit mark-up referred to in Step II to take into account the functional and other differences, if any, between the international transaction and the comparable uncontrolled transactions, or between the enterprises entering into such transactions, which could materially affect such profit mark-up in the open market. Step IV: Arm’s Length Price = Step I Add Step III

[CMA INTER SY12, J14, 4 Marks] Question: State the possible cases in which cost plus method are used for determination of arm’s length price. Answer: Cost plus method is ordinarily used in the following cases: 1. Where raw materials or semi-finished products are sold. 2. Where joint facility agreements are involved. 3. Long-term buy and supply arrangements. 4. Provision of services.

[CMA INTER SY12, D13, 6 Marks] Question: Brain Inc. London has 35% equity in Salem Ltd. is engaged in development of software and maintenance of customers across the globe, which includes Brain Inc. During the year 2015-16, Salem Ltd. spent 2,000 man hours for developing and maintaining software for Brain Inc. and billed at ₹1,000 per hour. The cost incurred for executing maintenance work to Brain Inc. for Salem Ltd., amounts to ₹15,00,000. Similar such work was done for unrelated party Try Ltd. in which the profit was at 50%. Brain Inc. gives technical support to Salem Ltd., which can be valued at 8% gross profit. There is no such functional relationship with Try Ltd.

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20.26

Salem Ltd., gives credit period of 90 days the cost of which is 3% of the normal billing rate which is not given to other parties. Compute ALP under cost plus method in the hands of Salem Ltd., and the impact of the same on the total income. Answer: Salem Ltd. Computation of ALP under Cost plus method %

Particulars Normal gross profit mark up Less

50.0

Adjustment for differences (Technical support from Brain Inc.)

8.0 42.0

Add

Cost of credit to Brain Inc. 3% of normal bill (3% of 50)

1.5

Arm’s length gross profit mark up

43.5

Cost of services provided to Brain Inc. Arm’s length billed value ( Less

15,00,000 )(

–

Billed amount

)

26,54,867 20,00,000

Increase in total income of Salem Ltd.

6,54,867

[CMA RTP J10] Question: Branco Inc., French Company, holds 45% of Equity in the Indian Company Chirag Technologies Ltd (CTL). CTL is engaged in development of software and maintenance of the same for customers across the globe. Its clientele includes Branco Inc. During the year, CTL had spent 2,400 Man Hours for developing and maintaining software for Branco Inc, with each hour being billed at ₹1,300. Costs incurred by CTL for executing work for Branco Inc. amount to ₹20,00,000. CTL had also undertaken developing software for Harsha Industries Ltd for which CTL had billed at ₹2,700 per Man Hour. The persons working for Harsha Industries Ltd and Branco were part of the same team and were of matching credentials and caliber. CTL had made a Gross Profit of 60% on the Harsha Industries work. CTL’s transactions with Branco Inc. are comparable to the transactions with Harsha Industries, subject to the following differences: a) Branco gives technical knowhow support to CTL which can be valued at 8% of the Normal Gross Profit. Harsha Industries does not provide any such support. b) Since the work for Branco involved huge number of man hours, a quantity discount of 14% of Normal Gross Profits was given. c)

CTL had offered 90 Days credit to Branco the cost of which is measured at 2% of the Normal Billing Rate, No such discount was offered to Harsha Industries Ltd.

Compute ALP and the amount of increase in Total Income of Chirag Technologies Ltd.

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20.27

Answer: Computation of Arm’s Length Gross Profit Mark Up

(A)

Particulars

%

%

Normal GP Mark Up Less

60

Adjustment for Differences

(a)

Technical Support from Branco 8% of Normal GP [8% of 60%]

4.8

(b)

Quantity Discount 14% of Normal GP [14% of 60%]

8.4

(13.2) 46.8

Add

Cost of Credit to Branco 2% of Normal Bill [2% × GP 60%]

1.2

1.2

Arm’s Length Gross Profit Mark-up

(B)

48

Computation of Increase in Total Income of Branco Ltd Cost of services provided to CTL Arm’s length Billed Value =

Less

20,00,000 =

38,46,154

Billed amount [ 2,400 hours × ₹1,300 per hour]

31,20,000

Therefore, Increase in Total Income of Branco

7,26,154

Therefore, increase in Total Income of Branco

7,26,154

Profit Split Method (PSM) This method is mainly applicable in international transactions involving transfer of unique intangibles or in multiple international transactions which are so inter-related that they cannot be evaluated separately for the purpose of determining the Arm’s Length Price of any one transaction. Step I: Determine the combined net profit of the associated enterprises arising from the international transaction in which they are engaged. Step II: Determine the relative contribution made by each of the associated enterprises to the earning of such combined net profit. This is determined on the basis of the functions performed, assets employed and risks assumed by each enterprise and on the basis of reliable external market data which indicates how such contribution would be determined by unrelated enterprises performing comparable functions in similar circumstances. Step III: Split the combined net profit amongst the enterprises on the basis of reasonable returns and in proportion to their relative contributions, as determined in Step II. (See note below) Step IV: Arm’s Length Price - Profit apportioned to the assessee under Step III. Note: Combined Net Profit shall be split as under: III.A. First Split = Reasonable Return: Allocate an amount to each enterprise so as to provide it with a basic return appropriate for the type of international transaction with reference to market returns achieved in similar types of transactions by independent enterprises.

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20.28

III.B. Second Split = Contribution Ratio: Allocate the residual net profit amongst the enterprises in proportion to their relative contribution. III.C. Total Profit: Share of profit of each enterprise = Step III.A + III.B

[CMA INTER SY12, D13, 3 Marks] Question: Explain the term ‚tested party‛. Answer: This term has not been defined in Income Tax Act, 1961 but as per OCED guidelines, a tested party is an enterprise that offers a high degree of comparability or would require lesser adjustment with uncontrolled companies. Consequently, the enterprise that requires the least amount of adjustments as compared to potentially comparable companies should be the tested party. Hence in most cases, the tested party will be the least complex of the controlled taxpayers and will not own valuable intangible property or unique assets that distinguish it from potential uncontrolled comparable. (OCED – Organisation for economic Co-operation and development).

[CMA INTER SY12, D13 & D14, 4 & 2 Marks] Question: State possible cases in which Profit Split Method (PSM) is used for determination of ALP. Answer: In the following cases profit Split Method (PSM) could be applied – (a) Transactions involving transfer of unique intangibles. (b) Multiple inter-related international transactions which cannot be evaluated separately for determining the ALP of any one transaction. As per OCED guidelines, a transactional profit method that identifies the combined profit to be split between the associated enterprises from a controlled transaction is known as profits split method. The profits are split between the associated enterprises based upon on economically valid basis that approximates the division of profit that would have been anticipated and reflected in an agreement mode at arm’s length.

Question: NBR Medical Equipments Inc. (NBR) of Canada has received an order from a leading UK based Hospital for development of a hi-tech medical equipment which will integrate the best of software and latest medical examination tool to meet varied requirements. The order was for 3,00,000 Euros. To execute the order, NBR joined hands with its subsidiary Precision Components Inc. (PCI) of USA and Bioinformatics India Ltd (BIL), an Indian Company. PCI holds 30% of BIL. NBR paid to PCI and BIL Euro 90,000 and Euro 1,00,000 respectively and kept the balance for itself. In the entire transaction, a profit of Euro 1,00,000 is earned. Bioinformatics India Ltd incurred a Total Cost of Euro 80,000 in execution of its work in the above contract. The relative contribution of NBR, PCI and BIL may be taken at 30%, 30% and 40% respectively. Compute the Arm’s Length Price and the incremental Total Income of Bioinformatics India Ltd, if any due to adopting Arm’s Length Price determined here under:-

Particulars A

Euros *€ +

Share of each of the Associates in the Value of the Order

3,00,000

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value of the order:

B

Share of BIL (given)

1,00,000

Share of PCI (given)

90,000

Share of NBR [ Amount retained = 3,00,000 – 1,00,000 – 90,000]

1,10,000

Share of each of the Associates in the profit of the order

1,00,000

Combined Total Profits Share of BIL *Contribution of 40% × Total Profit € 1,00,000+

40,000

Share of PCI *Contribution of 30% × Total Profit € 1,00,000+

30,000

Share of NBR *Contribution of 30% × Total Profit € 1,00,000+

30,000

C. Computation of Incremental Total Income of BIL

Add

Total Cost to Bioinformatics India Ltd

80,000

Share in the Profit to BIL (from B above)

40,000

Revenue of BIL on the basis of Arm’s Length Price Less

Revenue Actually received by BIL Increase in Total Income of BIL

1,20,000 (1,00,000) 20,000

TRANSACTION NET MARGIN METHOD (TNMM) Step I: Compute the net profit margin realised by the enterprise from an international transaction entered into with an associated enterprise, in relation to costs incurred or sales effected or assets employed by enterprise or having regard to any other relevant base. Step II: Compute the net profit margin realised by the enterprise or by an unrelated enterprise from a comparable uncontrolled transaction (s), having regard to the same base as in Step I. Step III: Adjust the net profit margin as per Step II for differences, if any, which could materially affect amount of net profit margin in the open market: (a) between the international transaction and the comparable uncontrolled transactions, or (b) between the enterprises entering into such transactions. Step IV: Net Profit Margin for uncontrolled transactions = Step II Add/Less Step III. Step V: Arm’s Length Price = Transaction Value x Net Profit Margin as per Step IV above. Meaning of certain terms: For the computation of Arm’s Length Price 1.

‚Transaction‛ includes a number of closely linked transactions.

2.

‚Uncontrolled Transaction‛ means a transaction between unrelated enterprises, whether resident or non-resident.

3.

‚Unrelated Enterprises‛: Enterprises are said to be unrelated, if they are not associated or deemed to be associated u/s 92A.

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4.

‚Uncontrolled conditions‛: Conditions which are not controlled or suppressed or moulded for achievement of pre-determined results are said to be uncontrolled conditions.

5.

‚Property‛ includes goods, articles or things, and intangible property.

6.

‚Services‛ include financial services.

Question: Fox Solutions Inc. a US Company, sells Laser Printer Cartridge Drums to its Indian Subsidiary Quality Printing Ltd at $20 per drum. Doc Solutions Inc. has other takers in India for its Cartridge Drums, for whom the price is $30 per drum. During the year, Fox Solutions had supplied 12,000 Cartridge Drums to Quality Printing Ltd. Determine the Arm’s Length Price and taxable income of Quality Printing Ltd if its income after considering the above is ₹45,00,000. Compliance with TDS provisions may be assumed and Rate per USD is ₹45. Also determine income of Doc Solutions Inc. Answer: Computation of Total Income of Quality Printing Ltd. ₹

Particulars Total Income before adjusting for differences due to Arm’s Length Price Add

45,00,000

Difference on account of adopting Arm’s Length price * 12,000 x $20 × ₹45] Amount actually paid to Doc Solutions [12,000 × $ 30 × ₹45]

1,08,00,000 (1,62,00,000)

Incremental Cost on adopting ALP [U/s 92(3), Taxable Income cannot be reduced on

54,00,000

applying ALP. Therefore, difference on account of ALP is ignored.] Total Income of Quality Printing Ltd

45,00,000

B. Computation of Total Income of Fox Solutions Inc. The provisions relating to taxing income of Fox Solutions Inc., on applying Arm’s Length Price for transactions entered into by a Foreign Company is given in Circular 23 dated 23.7.1969, which is as follows: i.

Transactions Not Taxable in India: Transactions will not be subject tax in India if transactions are on principal-to-principal basis and are entered into at ALP, and the subsidiary also carries on business on its own.

ii. Transactions Taxable in India if the Indian Subsidiary does not carry on any business on its own. The following are the other considerations in this regard i.

Adopting ALP does not affect the computation of taxable income of Fox Solutions Inc. if tax has been deducted at source or if tax is deductible.

ii. Where ALP is adopted for taxing income of the Parent Company, income of the recipient Company (i.e. Quality Printing Ltd) will not be recomputed.

Question: Khazana Ltd is an Indian Company engaged in the business of developing and manufacturing Industrial components. Its Canadian Subsidiary Techpro Inc. supplies technical information and offers technical support to Khazana for manufacturing goods, for a consideration of Euro 1,00,000 per year.

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Income of Khazana Ltd is ₹90 Lakhs. Determine the Taxable Income of Khazana Ltd if Techpro charges Euro 1,30,000 per year to other entities in India. What will be the answer if Techpro charges Euro 60,000 per year to other entitles. (Rate per Euro may be taken at ₹50)

Answer: Computation of Total Income of Khazana Ltd. Particulars When Price Charged for Comparable Uncontrolled Transaction Price actually paid by Khazana Ltd *€1,00,000 x 50] Less

1,00,000

50,000

50,00,000

50,00,000

Price charged in Rupees (under ALP) *€1,30,000 x 50+

65,00,000

*€50,000 x 50+

30,00,000

Incremental Profit on adopting ALP [A] Total Income before adjusting for differences due to Arm’s Length Price Add

Difference on account of adopting Arm’s Length Price * if (A) is positive+ Total Income of Khazana Ltd

(15,00,000)

20,00,000

90,00,000

90,00,000

Nil

20,00,000

90,00,000

1,10,00,000

Note: U/s 92(3), Taxable Income cannot be reduced on applying ALP. Therefore, difference on account of ALP which reduces the Taxable Income is ignored.

[CMA INTER SY12, J15, 2 Marks] Question: What is residuary method of determination of arm’s length price as per Rule 10AB of the Income-tax Rules? Answer: Residuary method of determination of ALP: As per Rule 10AB, for the purpose of section 92C(1)(f), the residuary or other method for determination of the arm’s length price in relation to an international transaction or specified domestic transaction shall be any method which takes into account the price which has been charged or paid, or would have been charged or paid, for the same or similar uncontrolled transaction, with or between non-associated enterprises, under similar circumstances, considering all material facts.

92CA

Reference to Transfer Pricing Officer

92CA(1)

Where any person, being the assessee, has entered into an international transaction in any previous year, and the Assessing Officer considers it necessary or expedient so to do, he may, with the previous approval of the Commissioner, refer the computation of the arm’s length price in relation to the said international transaction under section 92C to the Transfer Pricing Officer.

92CA(2)

Where a reference is made under sub-section (1), the Transfer Pricing Officer shall serve a notice on the assessee requiring him to produce or cause to be produced on a date to be

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specified therein, any evidence on which the assessee may rely in support of the computation made by him of the arm’s length price in relation to the international transaction referred to in sub-section (1). 92CA(3)

On the date specified in the notice under sub-section (2), or as soon thereafter as may be, after hearing such evidence as the assessee may produce, including any information or documents referred to in sub-section (3) of section 92D and after considering such evidence as the Transfer Pricing Officer may require on any specified points and after taking into account all relevant materials which he has gathered, the Transfer Pricing Officer shall, by order in writing, determine the arm’s length price in relation to the international transaction in accordance with sub-section (3) of section 92C and send a copy of his order to the Assessing Officer and to the assessee.

92CA(3A)

Where a reference was made under sub-section (1) before the 1st day of June, 2007 but the order under sub-section (3) has not been made by the Transfer Pricing Officer before the said date, or a reference under sub-section (1) is made on or after the 1st day of June, 2007, an order under sub-section (3) may be made at any time before sixty days prior to the date on which the period of limitation referred to in section 153, or as the case may be, in section 153B for making the order of assessment or reassessment or recomputation or fresh assessment, as the case may be, expires.]

92CA(4)

On receipt of the order under sub-section (3), the Assessing Officer shall proceed to compute the total income of the assessee under sub-section (4) of section 92C in conformity with the arm’s length price as so determined by the Transfer Pricing Officer.+

92CA(5)

With a view to rectifying any mistake apparent from the record, the Transfer Pricing Officer may amend any order passed by him under sub-section (3), and the provisions of section 154 shall, so far as may be, apply accordingly.

92CA(6)

Where any amendment is made by the Transfer Pricing Officer under subsection (5), he shall send a copy of his order to the Assessing Officer who shall thereafter proceed to amend the order of assessment in conformity with such order of the Transfer Pricing Officer.

92CA(7)

The Transfer Pricing Officer may, for the purposes of determining the arm’s length price under this section, exercise all or any of the powers specified in clauses (a) to (d) of subsection (1) of section 131 or sub-section (6) of section 133. Explanation.—For the purposes of this section, ‚Transfer Pricing Officer‛ means a Joint Commissioner or Deputy Commissioner or Assistant Commissioner authorised by the Board23 to perform all or any of the functions of an Assessing Officer specified in sections 92C and 92D in respect of any person or class of persons.]

Question: A Ltd., an Indian company, is a subsidiary company of B Inc., a company registered in the USA. It purchases raw material from B Inc. Purchase prices of raw material determined by the most appropriate methods are ₹9,800 and ₹10,200 per unit. A Ltd., however, pays (1) ₹10,200, (2) ₹10,300, (3) ₹10,400 (4) ₹9,600 (5) ₹9,700 and (6) ₹9,800. Determine the arm’s length price in the six situations. Answer:

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Situations

1

2

3

4

5

6

1

Arithmetic mean of two prices

10,000

10,000

10,000

10,000

10,000

10,000

2

Actual transaction price

10,200

10,300

10,400

9,600

9,700

9,800

3

Difference [1 - 2]

200

300

400

400

300

200

4

3% of arithmetic mean

300

300

300

300

300

300

5

Arm’s length price

10,200

10,300

10,000

9,600

9,700

9,800

[CMA INTER J14, 6 Marks] Question: P Limited, an Indian company bought goods from its associated enterprise Q Limited of UK at ₹3,050 per unit. Using Resale Price method, which is found to be the most appropriate method, the arm’s length prices determined are ₹3,000, ₹3,050, ₹2,900 and 2,950. 1. Compute the arm’s length price assuming tolerance variation notified by the Central Government to be 3%. 2. Will your answer be different, if Q Limited paid ₹3,080 per unit to P. Limited?

Answer: Arithmetical mean =

=

= 2,975

3% of Arithmetical mean = 89.25 1.

ALP can be taken as ₹3,050

2.

If Q Ltd. paid ₹3080, ALP would be taken as ₹2,975.

[CMA RTP J11] Question: What is Transfer Pricing? Answer: Transfer pricing means pricing of goods and services supplied to associated enterprises that belong to the same business group. It concerns prices charged by an enterprise for transfer of goods and services to its related enterprise. The Organization of Economic Cooperation and Development (OECD) defines“ Transfer prices as prices at which an enterprise transfers physical goods and intangibles or provides services to associated enterprises.

[CMA INTER D08, 2 Marks] Question: What is the binding nature of the arm’s length price determined by the Transfer Pricing Officer upon a reference made to him by the Assessing Officer? Answer: The TPO shall determine the ALP following the prescribed process and send a written copy of the same to the AO and the taxpayer. The ALP determined by the TPO shall be binding upon the AO.

Question: What are the documents or information to be kept or maintained by the persons entering into an international transaction? [S. 92D]

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Answer: 92D

Maintenance and keeping of information and document by persons entering into an international transaction.

92D(1)

Every person who has entered into an international transaction shall keep and maintain such information and document in respect thereof, as may be prescribed

92D(2)

Without prejudice to the provisions contained in sub-section (1), the Board may prescribe the period for which the information and document shall be kept and maintained under that subsection.

92D(3)

The Assessing Officer or the Commissioner (Appeals) may, in the course of any proceeding under this Act, require any person who has entered into an international transaction to furnish any information or document in respect thereof, as may be prescribed under sub-section (1), within a period of thirty days from the date of receipt of a notice issued in this regard: Provided that the Assessing Officer or the Commissioner (Appeals) may, on an application made by such person, extend the period of thirty days by a further period not exceeding thirty days.

Question: Write a note on the report to be furnished by persons entering into international transaction? [S. 92E] Answer: Every person who has entered into an international transaction during a previous year shall obtain a report from an accountant and furnish such report on or before the specified date in the prescribed form duly signed and verified in the prescribed manner by such accountant and setting forth such particulars as may be prescribed.

[CMA INTER SY12, J14, 2 Marks] Question: What is the period for which an assessee has to keep and maintain the information and records relating to international transactions/ specified domestic transactions? Answer: The information and records relating to international transactions / specified domestic transactions shall be kept and maintained for a period of 8 years from the end of the relevant assessment year.

Question: Definitions of certain terms relevant to computation of arm’s length price, etc. *S.92F+ Answer: Definitions of certain terms relevant to computation of arm’s length price, etc. In sections 92, 92A, 92B, 92C, 92D and 92E, unless the context otherwise requires,

92F(i)

‚accountant‛ shall have the same meaning as in the Explanation in S. 288(2)

92F(ii)

‚arm’s length price‛ means a price which is applied or proposed to be applied in a transaction between persons other than associated enterprises, in uncontrolled conditions;

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92F(iii)

‚enterprise‛ means a person (including a permanent establishment of such person) who is, or has been, or is proposed to be, engaged in any activity, relating to the production, storage, supply, distribution, acquisition or control of articles or goods, or know-how, patents, copyrights, trade-marks, licences, franchises or any other business or commercial rights of similar nature, or any data, documentation, drawing or specification relating to any patent, invention, model, design, secret formula or process, of which the other enterprise is the owner or in respect of which the other enterprise has exclusive rights, or the provision of services of any kind, 26[or in carrying out any work in pursuance of a contract,] or in investment, or providing loan or in the business of acquiring, holding, underwriting or dealing with shares, debentures or other securities of any other body corporate, whether such activity or business is carried on, directly or through one or more of its units or divisions or subsidiaries, or whether such unit or division or subsidiary is located at the same place where the enterprise is located or at a different place or places;

92F(iiia)

‚permanent establishment‛, referred to in clause (iii), includes a fixed place of business through which the business of the enterprise is wholly or partly carried on;

92F(iv)

‚specified date‛ shall have the same meaning as assigned to ‚due date‛ in Explanation 2 below sub-section (1) of section 139;

92F(v)

‚transaction‛ includes an arrangement, understanding or action in concert,— (A) whether or not such arrangement, understanding or action is formal or in writing; or (B) whether or not such arrangement, understanding or action is intended to be enforceable by legal proceeding.]

[CMA INTER SY12, D13, 1 Mark] Question: State any two types of permanent establishments. Answer: There are three types of permanent establishment. (a) Basic rule PE – a fixed place of business, office, branch, installation etc. (b) Service PE – Presence of employees (c) Agency PE – Presence of dependent agent.

[CMA INTER SY08, D14 1 Mark] Question: Fill up the blanks: The provisions of specified domestic transfer pricing are attracted when the transaction between two related enterprises exceeds ₹_____1 [CMA INTER SY12, J14, 3 Marks] Question: During the previous year 2015-16 ABC Associates, an Indian partnership firm made payment of ₹6 Crores for purchase of raw materials from Mr. D., who is a close relative of Mr. A, a partner of the

1

Answer: 5 crore

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firm. Both Mr. D and Mr. A are residents in India. Explain whether transfer pricing provision is applicable to the said transaction. Answer: Where the assessee incurs any expenditure for which payment has been made or is to be made to person referred to in section 40A(2), such transaction is a specified domestic transaction under section 92BA, Relative of a partner is related person to the firm within the meaning of section 40A(2). Disallowance under section 40A(2) is made by the Assessing Officer, if such payment is excessive or unreasonable having regard to the fair market value of goods or services received. However, such disallowance is not be made, if such transaction is of arm’s length price in accordance with section 92F. In view of above provisions transfer pricing provisions shall apply to the instant transaction of purchase of raw materials for sum exceeding ₹5 crores from relative of the partner. [CMA INTER J16, 5 Marks] Question: State any five items covered within the scope of the term ‚specified domestic transaction‛ as per section 92BA. [CMA INTER D8, 4 Marks] Question: what are the specified domestic transactions which are liable for transfer price adjustments? Answer: Specified domestic transactions which are liable for transfer price adjustment: 1. Any expenditure incurred between related parties. 2. International transactions between various units/undertakings of the associate in respect of goods or services. 3. Transactions of tax holding undertakings. 4. Any other transactions as may be prescribed. [CMA INTER SY12, D13 & D14, 4 & 5 Marks] Question: What is ‚impermissible avoidance arrangement‛ and state the four tests applied for deciding the same. Answer: Impermissible avoidance agreement An agreement whose main purpose or one of the main purposes is to obtain a tax benefit and which also satisfies at least one of the four tests can be declared as an ‚impermissible avoidance agreement‛. The four tests applied for deciding the same are— 1. The arrangement creates rights and obligations, which are not normally created between parties dealing at arm’s length. 2. It results in misuse or abuse of the provisions of tax laws. 3. It lacks commercial substance or is deemed to lack commercial substance. 4. It is carried out in a manner, which is normally not employed for bona fide purpose.

[CMA INTER SY12, J15, 3 Marks]

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Question: Is it possible to apply advance pricing agreement entered into in a previous year to international transactions entered into in preceding previous years as well? Answer: Applicability of ALP to earlier year As per section 92CC (9A) inserted by the finance (no. 2) act, 2014 advance pricing agreement may provide for determining the arm’s length price or specify the manner in which arm’s length price shall be determined in relation to international transaction entered into by the person during maximum four previous years preceding the first of the previous years for which such agreement is entered into and the arm’s length price shall be determined in accordance with the said agreement.

[CMA INTER SY12, D13 & D14, 1 &1 Mark] Question: Who can apply for advance pricing agreement and state the time limit for its withdrawal? Answer: Any person (i) who has undertaken on international transaction or (ii) who is contemplating to undertake on international transaction is eligible to apply for Advance Pricing Agreement (APA). The applicant may withdraw the application for agreement in Form No. 3 CEE at any time before the finalization of the terms of the agreement. The fee paid shall not be refunded on withdrawal of application by the applicant.

[CMA INTER SY12, D13, 4 Marks] Question: Narrate the procedures relating to pre-filling consultation of advance pricing agreement. Answer: Every person proposing to enter into APA must file an application in writing making a request for pre-filing consultation. On the receipt of request in Form No. 3CEC, the team shall hold consultation with the person referred to in rule 10G (i.e. a person who has undertaken or contemplating to undertake international transaction). The competent authority in India or his representative shall be associated in pre-filling consultation involving bilateral or multilateral agreement. The pre-filling consultation shall include – a) determining the scope of agreement; b) identify transfer pricing issues; c) determine the suitability of international transaction for the agreement; and d) discuss the broad terms of the agreement. The pre-consultation agreement will not bind the Board or the person to enter into an agreement or initiate the agreement process. It shall not deemed to mean that the person has applied for entering into an agreement. [CMA INTER SY12, D13, 3 Marks] Question: Can the application for advance pricing agreement be amended‛ If so, state the conditions. Answer: Yes, The application may request in writing for an amendment to the application of any stage before the finalization of the terms of the agreement. The DGIT for unilateral agreement or the competent authority in India for bilateral or multilateral agreement may allow the amendment if it does not have the effect of altering the nature of application

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originally filed. An amendment is possible only if it is accompanied by the additional fee, if any, necessitated by such amendment in accordance with rule 10-1.

[CMA INTER SY12, J14 & J15, 1 & 1 Mark] Question: What is the maximum period for which advance pricing agreement shall remain valid? Answer: An advance pricing agreement shall remain valid for such period not exceeding 5 consecutive previous years as may be specified in the agreement.

[CMA INTER D15 SY12, J14, 3 & 1 Marks] Question: When an advance pricing agreement may be declared void abinitio? What are consequences in such situation? Answer: As per section 92CC(7), the CBDT may, with the approval of the Central Government, by an order declare an advance pricing agreement void abinitio, if it finds that the agreement has been obtained by the person by fraud or misrepresentation of facts. As per section 92CC(8) upon declaring the agreement void ab-initito: All the provisions of the Act shall apply to the person as it such agreement had never been entered into; and Notwithstanding anything contained in the Act, for the purpose of computing any period of limitation under the Act, the period beginning with the date of such agreement and ending on the date of order under section 92CC(7) shall be excluded.

[CMA INTER SY12, J14, 4 Marks] Question: State the reasons for cancellation of advance pricing agreement. Answer: Reason for cancellation of Advance Pricing Agrreement: 1. The compliance audit referred to in rule 10P has resulted in the finding of failure on the part of the assessee to comply with the terms of the agreement; 2. The assessee has failed to file the annual compliance report in time; 3. The annual compliance report furnished by the assessee contains material errors; or 4. The agreement is to be cancelled under sub-rule (4) of rule 10Q.

[CMA INTER SY12, J14, 4 Marks] Question: Narrate the procedure for furnishing Annual Compliance Report by the assessee, where advance pricing agreement has been entered into. Answer: Furnishing of annual Compliance Report: 1. The assessee shall furnish an annual compliance report to Director General of Income Tax (International Taxation) for each year covered in the agreement. 2. The annual compliance report shall be in Form 3CEF. 3. The annual compliance report shall be furnished in quadruplicate, for each of the years covered in the agreement, within thirty days ninety days of entering into an agreement, whichever is later. 4. The Director General of Income Tax (International Taxation) shall send one copy of annual compliance report to the competent authority in India, one copy of annual compliance report to the competent

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authority in India, one copy to the Commission of Income Tax who has the jurisdiction over the income-tax assessment of the assessee and one copy to the Transfer Pricing Officer having the jurisdiction over the assessee.

[CMA INTER SY12, J14, 3 Marks] Question: In case an advance pricing agreement is entered into, does it have any effect on the return of Income of the assessee? Answer: As per section 92CD, where any person has entered into advance pricing agreement, and he has already furnished return of income under section 139 for any assessment year to which such agreement applies, such person shall furnish a modified return of income within a period of 3 months from the end of the month in which the said agreement was entered into in a accordance with and limited to the agreement.

[CMA INTER SY12, J15, 3 Marks] Question: Explain binding nature of advance pricing agreement. Answer: Binding nature of APA. As per section 92CC(4) the advance pricing agreement entered into shall be binding— 1. On the person in whose case, and in respect of the transaction in relation to which, the agreement has been entered into, and 2. On the principal commissioner or and the income-tax authorities subordinate to him, in respect of the said person and the said transaction. However, the agreement shall not be binding if there is a change in law for facts having bearing on the agreement so entered.

[CMA INTER SY12, J15, 3 Marks] Question: A person resident in India seeks to remit certain amount liable to tax in India to a company incorporated in a notified jurisdictional area. At what rate should the tax be deducted a source from such payment? [CMA INTER SY12, J14, 4 Marks] Question: X Limited, an Indian company has borrowed certain sum from a financial institution, a resident of a Non Jurisdictional Area (NJA) notified by the Central Government. During the previous year, X Limited paid interest of ₹10 lacs to the financial institution. What authorization is to be furnished by X Limited? At what rate tax is required to be deducted source by X Limited from payment of such interest? Answer: As per section 94A(3) X Ltd. has to furnish authorization in the prescribed form authorizing the CBDT or any other income tax authority acting on its behalf to seek relevant information from the financial institution located in notified jurisdictional area on behalf of X. Ltd. otherwise , deduction shall not be allowed in respect of interest on loan.

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Under section 94A(5) X, Ltd. is required to deduct tax at source from such interest of the highest of the following three rates 1. Rate or rates in force; 2. Rate specified in the relevant provisions of the Income-tax Act; 3. 30%

[CMA INTER D15, 3 Marks] Question: Write short note on Tax Residency Certificate (TRC) Answer: Tax Residency certificate is a certificate produced by a non- resident to avail tax benefits. In the Finance Act, 2012, Indian Government made it mandatory for non- residents to produce a TRC from the home country revenue authority when seeking to avail themselves of tax benefits. Provision of tax residency certificate (TRC) require specified people to obtain this certificate from their home country for claiming relief under the double taxation avoidance agreement (DTAA) that India has entered into with the country. [CMA INTER J16, 1 Marks] Question: Where a foreign company receives royalty from an Indian company in pursuance of agreement dated 1st July, 2012, what is the rate of tax on such royalty?

[CMA INTER J16, 1 Marks] Question: When a resident-assessee has income from a foreign source, what is the time limit for reopening the assessement?

[CMA INTER J16, 1 Marks] Question: At what rate long-term capital gain arising to foreign institutional investors (FII) is chargeable to tax?

[CMA INTER J16, 1 Marks] Question: What is the time limit available to the Dispute Resolution Panel for issue of direction to the Assessing Officer to complete the assessment? [CMA INTER J16, 5 Marks] Question: State the requirements of section 92 relating to computation of income from international transactions, having regard to arm’s length price. [CMA INTER J09, 2 Marks] Question: Janak Ltd., is an associated enterprises of Takoya Inc., Tokyo; the latter has a permanent establishment in India. This company rendered service to Janak Ltd., for which tax was deducted at

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source and remitted. The Arm’s Length Price of Takoya Inc. was recomputed during the course of transfer pricing assessment. Janak Ltd. wants to know whether there will be a corresponding recomputation in its hands also. Advice. Answer: No Adjustment to Associated Enterprise’s Income: In cases where the total income of a taxpayer is recomputed after determination of the arm’s length price paid to another associated enterprises from which tax has been deducted or was deductible at source, the income of the other associated enterprises shall not be recomputed by reasons of such determination of arm’s length price in the case of the taxpayer. As a consequence, there will be no recomputation in Janak Ltd’s hands. [CMA INTER D15, 4 Marks] Question: Richard Shipping Co. of Australia is engaged in shipping business. It received ₹600 lakhs towards carriage of goods from the port of Kolkata to Sydney during the year 2015-16. The net tonnage of the ship exceeded 25,000 and the total quantum of goods carried was 6,000 tonnes. The assessee wants to offer income on presumptive basis. Compute the income and state the procedure for tax compliance. Note: Presumptive income for a qualifying ship exceeding 25,000 net tonnage is ₹11,770 plus ₹29 for each 100 tonnes exceeding 25 tonnes. Answer: Computation of tonnage income u/s 115VG First,1,000 tons

1,000 ×

700

Next 9,000 tons

9,000 ×

4,770

Next 15,000 tons

15,000 ×

6,300

Balance 35,000 tons

35,000 ×

10,150 2,19,200

Tonnage income = 2, 19,200 × 365 days = 37, 16,526 (Assuming Shipping days are 365 days) As per section 115 VF the tonnage income computed under section 115VA would be deemed to be the profit chargeable under head ‚profit and gain of business‛. The following conditions to be fulfilled by the company for applicability of the tonnage tax scheme. (i) An option to get assessed under chapter X11G has to be filed by the company. (ii) The company is required to credit to a reserve account tonnage tax reserve account, at least 20% of the book derived from its core and incidental activities to be utilized before the expiry of 8 years for acquisition of a new ship for the purpose of the business of the company until the acquisition of a new ship, the amount can be utilized for the purpose of the business of operating qualifying ship. However the amount should not be used for distribution of dividend or profit or for remittance outside India. As profit or for creation of assets outside India. [CMA INTER D15, 2 Marks]

__________________________________________________________________________ International Taxation

20.42

Question: A branch office of a foreign company in India has loss of ₹20 lakhs after charging head office expenses of ₹50 lakhs. Explain with reasons the amount of income chargeable to tax in the hands of the branch for the assessment year 2016-17. Answer: Section 44C restricts the quantum of expenditure relating to head office to the extent of the actual expenditure or 5% of the adjusted total income whichever is less. The adjusted total income means the total income before deducting head office expenditure. The adjusted total income in this case is ₹30 lakhs (₹20lakhs + ₹50lakhs). The amount eligible for deduction under section 44C is 5% of ₹30 lakhs being ₹1.50 lakhs. Hence the total income liable to tax is ₹28.50 lakhs (₹30 lakhs less 5%). [CMA INTER J16, 8 Marks] Question: Mike Hussey, a non-resident and cricket player of Australia came to India in January 2016 and earned following incomes in India till 31.03.2016. 1. Income from participation in matches ₹7,00,000. 2. Appearance fee for advertisement for a tyre manufacturer ₹10,00,000. 3. Income from newspaper for writing articles on T20 world cup ₹5,00,000. 4. Income from horse race ₹2,00,000. Compute his total income and tax liability for the assessment year 2016-17. [CMA INTER D11, 8 Marks] Question: ANJU, an individual resident retired employee of the All India Radio aged 60 years is a well-known dramatist deriving income of ₹1,10,000 from theatrical works played abroad. Tax of ₹11,000 was deducted in the country where the plays were performed. India does not have any Double Tax Avoidance Agreement under Section 90 of the Income-tax Act, 1961, with that country. Her income in India amounted to ₹5,10,000. In view of tax planning she has deposited ₹70,000 in Public Provident Fund and paid contribution to approved Pension Fund of LIC ₹32,000 along with subscription to notified long-term infrastructure bonds ₹25,000. She also contributed ₹18,000 to Central Government Health Scheme during the previous year and gave payment of medical insurance premium of ₹21,000 to insure the health of her father, a non-resident aged 76 years, who is not depedent on her. Compute the tax liability of ANJU for the Assessment year 2016-17. Answer: Computation of tax liability of Anju for the A.Y. 2016-17 ₹

Particulars

Less

Amount in ₹

Indian Income

5,10,000

Foreign Income

1,10,000

Deductions Deposit in PPF (section 80C)

70,000

Contribution to approved Pension Fund of LIC (Section 80CCC)

32,000

Section 80D Central Government Health Scheme

18,000

_____________________________________________________________________ Direct Taxation

20.43

Medical insurance Premium

21,000 39,000

But restricted to

30,000

Total Income

4,88,000

Tax on Total Income on first 3,00,000 On balance 1,88,000 @10%

Nil 18,800

Rebate u/s 87A

2,000 16,800

Add

Education cess @ 2%

336

Add

SHEC @ 1%

168

17,304

Average rate of tax in india (i.e. 17,304/4,88,000 × 100)3.55% Average rate of tax in foreign country 10% (I,e. 11,000/1,10,000 × 100) Less

Rebate under Section 91 on ₹1,10,000 @ 3.55% Tax payable in India

3,905 13,399

[CMA INTER J16, 7 Marks] Question: Hrikesh Patel, a resident Indian aged 24, earned a sum o ₹5, 00,000 for playing football match in a nation with which India does not have a double taxation avoidance agreement. In that nation, Income-tax at 15% was levied on such income. In India, he has received match fees of ₹9, 75,000 for playing football matches. He has paid life insurance premium of ₹1, 60,000 and mediclaim insurance premium of ₹28,000 Compute his income-tax liability for the assessment year 2016-17.

__________________________________________________________________________ International Taxation

20.44

Additional CMA Exam Questions [CMA INTER SY12, J15, 4 Marks] Question: Ayush is a musician who derived income of ₹1,25,000 during the previous year 2015-16 from a concert performed in a country with which India has no double taxation avoidance agreement. Tax of ₹31,250 was deducted at source in the said country. His income from profession in India during the previous year 2015-16 amounted to ₹3,00,000. Compute tax payable by Ayush for Assessment Year 201617. Answer: Computation of tax payable by Ayush for Assessment year 2016-17 Particulars

Amount (₹)

Income in the foreign country

1,25,000

Income in India

3,00,000

Total income

4,25,000

Tax on total income (4,25,000 – 2,50,000) × 10% Less

17,500

Rebate u/s 87A

2,000 15,500

EC & SHEC at 3%

465

Total

15,965

Average Rate of tax in India (

3.756%

)

Average Rate of tax in Foreign Country (

)

Doubly taxed income Less

25% 1,25,000

Amount of relief U/s 91 ( ₹1,25,000×3.756%)(lower of a & b) Tax payable (15,965 – 4,695)

4,695 11,270

[CMA INTER SY12, J15, 4 Marks] Question: P. Ltd., an Indian company, sold steel rods to its holding company. Q. Ltd., USA of US Dollar 200 (FOB) per MT during previous year 2015-16. P. Ltd. also sold identical product to an independent company in USA. R. Ltd. at US Dollar 400 (CIF) per MT. Insurance and freight amounts to ₹200 per MT. Determine whether the transaction between P. Ltd. and Q. Ltd. satisfies the arm’s length test. Answer: As P. Ltd. holds more than 26% shares in Q. Ltd., P. Ltd. and Q. Ltd. are deemed to be associated enterprises. As P. Ltd., supplied similar product to R. Ltd. an unrelated entity in USA, the transaction between P. Ltd. and R. Ltd. is comparable uncontrolled transaction for determining arm’s length price. Comparable uncontrolled price (CUP) method for determining ALP is applicable.

_____________________________________________________________________ Direct Taxation

20.45

US$

Less

Price per MT of steel rods to R. Ltd.

400

Cost of insurance and freight

200

Arm’s length price

200

Since the price charged from Q. Ltd. is equal to ALP, the transaction between P. Ltd. and Q. Ltd. satisfies the arm’s length test. [CMA INTER D15, 4 Marks] Question: LV Ltd., an Indian company supplied textile articles to its holding company BB Ltd., Spain during the same product to another Spain based company VX Ltd., an unrelated party. During the year, it supplied 10,000 units to BB Ltd. at Euro 100 per unit. It supplied 4,000 units to VX Ltd. at Euro 110 per unit. It gave 3 months credit time to BB ltd. and whereas to VX Ltd. it supplied against payment i.e. no credit time was given. The cost of capital may be taken as 12% per annum. Compute the arm’s length price for the transaction with BB Ltd. 1Euro = ₹80. Answer: LV ltd. supplied goods to its foreign holding company BB Ltd. at Euro 100 per unit with a credit time of 3 months. To the unrelated party VX Ltd. it supplied at Euro 110 per unit with no credit time. The cost of capital is given as 12% per annum which means 1% per month. The supply to unrelated party with no credit time and to the related party with 3 months credit period show that the cost of capital at 3% for the extended credit time of 3 months. Particulars

In Euro

Price per unit supplied to related party Add

Cost of capital for 3 months

100 3

Adjusted price per unit to the related party

103

Price charged to unrelated party

110

Under price for related party No. of units supplied 10,000 × 7

7 70,000

Arm’s length price to related party to be adjusted 70,000 × 80 = ₹56laksh

__________________________________________________________________________ International Taxation

20.46