More Information… More Intense Transfer Pricing Disputes?
The Central Board of Direct Taxes has recently issued guidance on the appropriate use of the ‘Country-by-Country Report’. The CbC filing was introduced as a result of the OECD/G20 Base Erosion and Profit Shifting project. India also introduced the requirement to file CbC reporting recently with the completion of the first filing in March 2018.
What Is A Country-by-Country Report?
Simply put, a CbC Report contains a geographical (country-by-country) view of a multinational enterprise’s allocation of global revenue, income, taxes and other economic indicators such as assets and employees. It provides an overview of what is happening within a multinational group that may not be available, or not easily available, from existing transfer pricing report and tax information.
The CbC Report is filed by a multinational enterprise in the jurisdiction of the tax residence of its ultimate parent. The jurisdiction will share such reports with other jurisdictions where the multinational operates. For example, while India-headquartered companies have filed the report with the prescribed authorities in India, the Indian revenue authorities can obtain a CbC report for multinational groups headquartered outside India from other jurisdictions if the group has operations in India.
The CBCR provisions will enable tax authorities worldwide to collect and share detailed information on all large multinationals doing business in their country. The year 2018 is the first year when tax authorities around the globe have received or will receive such information.
What’s In The CBDT Guidance?
There was a concern among taxpayers on the inappropriate usage of, and the confidentiality of the information in, the CbC Report.
The OECD clarified that the information in the report can be used only for high-level risk assessment and not for making transfer pricing adjustment.
To allay the concerns of multinational enterprises, the CBDT has issued guidance to ensure that the Indian tax authorities use the information only for the prescribed purpose and that confidentiality of such information is maintained. The guidance is broadly in line with the OECD guidance on the usage of the CbC Report. The guidance reiterates that the usage of the report will be limited to the following:
- High-level transfer pricing risk assessment: for planning tax audit and for making further inquiries on multinational groups’ transfer pricing arrangements;
- Assessment of other BEPS related risks: for identifying possible tax risks not related to transfer pricing; and
- Economic and statistical analysis.
The guidance further clarifies that the CbC Report shall be accessed by the competent authority in India and the Director General of Risk Assessment in accordance with the provisions of tax treaties and the Income Tax Act.
The guidance also provides that once the case of an entity in India has been picked up for scrutiny based on risk assessment, the jurisdictional transfer pricing officer will have access to the report after following the standard operating procedure.
Consistent with the OECD guidance, the CBDT has clarified that the report information should not be used as a substitute for a detailed transfer pricing analysis.
Further, the CbC Report information should not be used as the ‘only material’ for proposing transfer pricing adjustment. This clarification should put multinational enterprises’ concern on inappropriate usage to rest.
One of the concerns raised by multinationals was around confidentiality of the information in the report. The CBDT has specified that the report will be subject to the requirements of confidentiality under treaties or the Income Tax Act.
To further allay concerns around the usage of the information in the report, the guidance provides that the use of information by the transfer pricing officer in transfer pricing audits will be monitored by jurisdictional Commissioner of Income Tax (Transfer Pricing).
The guidance also empowers the taxpayers to bring misuse of information to the notice of the jurisdictional Commissioner of Income Tax or the competent authority, if it remains unresolved.
So, what do taxpayers need to do now?
Transfer pricing has already been a litigious issue in India. With more information available with the transfer pricing officers via the report, there’s likely to be more intense scrutiny of multinational group transfer pricing policy and its value chain.
As highlighted by the CBDT guidance, revenue officials will review the report for identifying potential tax/transfer pricing risks. What are those risks? Well, one can take a cue from the OECD’s Handbook on Effective Tax Risk Assessment on the types of risks that can be identified by the review of the CbC Report. The handbook provides a list of 19 tax risk indicators including the following:
- Jurisdictions showing significant activity but low levels of profits (or losses);
- Jurisdictions with significant profits and low tax rate but little economic activity;
- Results in a jurisdiction not reflecting market trends;
- Multinational groups having marketing entities located in jurisdictions outside key markets;
- A multinational group having procurement entities in jurisdictions outside its key manufacturing locations;
- A high proportion of related party revenues in a particular jurisdiction.
Based on these indicators multinational enterprises should proactively review their value chain and the CbC report to identify potential areas of focus by the revenue authorities in future audits.
Multinationals in India will need to devote more effort to highlight the contribution of the relevant entities in and outside India.
Time To Think Beyond Traditional Dispute Resolution Approaches
This is an opportune time for taxpayers to think beyond traditional dispute resolution approaches and explore alternative dispute resolution mechanisms particularly advance pricing agreements to attain tax certainty. Where there are complex business models or significant sums involved, it would be worth considering an APA as a way of managing the uncertainties involved rather than choosing the long litigation route in India.