India Revises Transfer Pricing Safe Harbors Rules

India Revises Transfer Pricing Safe Harbors Providing Tax Relief to Multinationals Especially For IT Industry

[Eligible assessee can avail of SHR benefits in AY 2020-21, whereas in earlier SHR were applicable up to AY 2019-20]

India’s Central Board of Direct Taxes (CBDT) on 7 June added a new transfer pricing safe harbor for low-value adding intragroup services and has made important reductions to existing safe harbor margins for knowledge process outsourcing services, contract research and development services, and other services.

These new rules have effect from 1 April and are applicable to assessment year 2017–18 and for the two assessment years after that. Taxpayers may opt to apply either the earlier or revised rules.

The low-value adding intragroup services safe harbor applies to transactions that do not exceed INR 100 million (USD 1.5 million) including a mark-up not exceeding 5%.

The new rules specify that an accountant must certify the cost pooling method, exclusions of shareholder cost, duplicate costs, and the reasonableness of the allocation keys used.

The guidance also improves existing transfer pricing safe harbors by lowering margins. While transfer pricing safe harbor rules have been in effect in India since 2013, few taxpayers opted for them because the margins prescribed were so high.

With the intent that smaller taxpayers should benefit the most, the threshold to take advantage of the safe harbor is reduced from INR 5 billion (USD 7.5 million) in annual transactions to INR 1 billion (USD 1.5 million) annually.

Under the new rules, margins for software development services and IT enabled services have been pegged at 17–18%, depending upon the value of transactions. Earlier, the margins ranged from 20–22%.

The revised margins for knowledge process outsourcing services are now fixed between 18–24%, depending upon the value of transactions and employee cost in relation to operating expenses. Earlier, a single margin of 25% applied.

For contract research and development services the margin has been reduced significantly, dropping from 30% to 24%.

One positive effect of the CBDT’s action is that is should reduce the number of advance pricing agreement (APA) applications in coming years, and thus reduce APA backlogs because some taxpayers that are fence sitters will opt for the safe harbor rules.

However, it seems that the taxpayers who have already opted for an APA will be unable to take the advantage of new safe harbor since the rules are applicable for 3 years beginning assessment year 2017–18.

Heavy litigation in the field of transfer pricing and the high pendency of advance pricing agreements had led to negative impact in the MNEs. The introduction of these new “safer” safe harbor rules are thus welcome and should give a positive boost to the business environment of India. 

Further, the CBDT has issued Notification No. 25 of 2020 dated 20 May 2020, wherein it has notified the year of applicability of the ‘Safe Harbour Rules for International Transactions’ (SHR) for Assessment Year (AY) 2020-21, as the existing rules were applicable only up to AY 2019-20. The said notification are applicable from 1 April 2020. Click here to Notification - https://www.incometaxindia.gov.in/news/notification_25_2020.pdf

Notification insertion has been made so that the eligible assessee can avail of Safe Harbor Rule benefits in AY 2020-21, as the earlier SHR were applicable upto AY 2019-20 (AY 2017-18 and two AYs immediately following that AY). As a result, the rates and the circumstances mentioned in the table prescribed under sub-rule 10TD(2A) would be applicable.