| IT industry not enthused by draft safe harbour provisions |
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New Delhi, 24 August The recently released draft rules on safe harbour provisions have not gone down well with the software and technology industry, which was hoping to gain the most from it. Experts say that in its current form, the rules, on which the finance ministry has invited stakeholder comments, may not find enough takers. This may also lead to an increase in litigations, going against its prime objective of reducing disputes around transfer pricing. Under safe harbour, revenue authorities accept the pricing of a transaction between the foreign and the Indian entities declared by the taxpayer without demur, based on a set of directives or guidance. The safe harbour rules were formulated based on the recommendations of the N Rangachary committee ( with some modifications), with an aim of reducing the complexities around transfer pricing. Transfer pricing refers to the practice of arm's length pricing for transactions between group companies based in different countries to ensure that a fair price is levied. According to the draft rules, transfer prices of entities assuming insignificant risks and having international transactions of not more than 100 crore would be accepted if their operating profit over operating expense is 20 per cent and 30 per cent or more, respectively. Industry experts point out that while this amount is high in itself, provisions such as different percentages for the business process outsourcing and knowledge process outsourcing industry will create more litigation instead of reducing it. Since the rules entail that transactions above ₹ 100 crore in case of software development services ( which excludes contract research and development, or R& D) will not be considered for safe harbour, this will leave several big companies benefitting out of it. According to Kunj Vaidya, partner and national transfer pricing dispute resolution lead at PwC, the government setting the percentage of 20 per cent for software development companies' transactions less than ₹ 100 crore could become a floor price of sorts for tax authorities even in cases which are not under safe harbour rules. "This could lead to more litigation," he said. The second condition, where a 30 per cent range has been set for companies carrying out R& D work in the information technology ( IT) segment with no monetary threshold, is too high, he said. "The cost benefit analysis goes against reducing litigation and could result in double taxation." Most of the large technology multinationals operating in India, including Microsoft and International Business Machines Corp, have been embroiled in transfer pricing litigation at some point of time. Vaidya said there was a certain premium for safe harbour and governments set slightly higher rates, as the idea is to avoid litigation and hassle. However, going for a higher mark- up in one country could prejudice their case in other countries. "My sense is, it will benefit smaller companies more and may lead to more companies opting for advance pricing agreements." PwC is currently readying its suggestions to be submitted to the finance ministry on these lines by 26 August. Another IT industry expert, who is also involved in discussions with various companies on the matter, said apart from the above mentioned issues, the government has done nothing to provide administrative relief to companies that wanted to opt for safe harbour. " One of the major objectives of safe harbour is to reduce documentation and compliance overheads, but they continue to be there in the latest rules. So, there is no respite there," the person added. Software industry body Nasscom said it was in the process of collecting views from various domestic and multinational technology companies located in different cities, and will soon formulate its suggestions. The industry body had earlier pointed out that the percentage set by the government seemed too high for the sector as it had recommended a range of 12- 14 per cent. In a note, BMR Advisors while welcoming the draft rules has said the high margins proposed by the draft rules, coupled with the inability of the tax payer to invoke mutual agreement procedure, could lead to double taxation of income. The note added that for many tax payers, the cost of this double taxation might be much more than the need to buy peace on their Indian tax litigation. SNAPSHOT OF THE DRAFT SAFE HARBOUR RULES: COMPILED BY PWC Eligible international transaction Proposed safe harbour Software development services* Operating profit ( OP)/ Operating expenses (OE) is 20% or more Information technology enabled services* As above Knowledge process outsourcing OP/ OE is 30% or more (KPO) services* Advancing of intra- group loans by The interest rate is equal to or greater than the Indian companies to their wholly base rate of State Bank of India as on 30th June owned subsidiaries of the relevant previous year plus [1]150 basis points ( Loan does not exceed ₹ 50 crore) [1]300 basis points ( Loan exceeds ₹ 50 crore) Provision of corporate guarantees The commission or fee is 2% or more per by Indian companies to their annum on the amount guaranteed whollyowned subsidiaries ( maximum maximum threshold ₹ 100 crore) Contract research and development Software development - OP/ OE is 30% or (R& D) services with insignificant risks more; Generic pharmaceutical drugs - OP/ OE is 29% or more Manufacture and export of auto Core auto components - OP/ OE is 12% or components more; Non- core auto components - OP/ OE is 8.5% or more Some key highlights |Applicable for Financial Years 2012- 13 and 2013- 14 |The safe harbour rules are voluntary; in case the same are not opted for, routine compliance and assessment procedures would apply, and the determination of arms length price shall be made without having regard to the Safe Harbour rules. |These rules do not cover specified domestic transactions ( domestic transfer pricing). |A taxpayer opting for safe harbour rules would not be entitled to invoke a mutual agreement procedure. These rules specifically exclude international transactions with no tax or low tax jurisdictions ( countries with maximum marginal tax rate less than 15%) and notified areas as provided under section 94A of the Act. *With insignificant risks & total annual value of such international transactions not exceeding ₹ 100 crore |
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