The Transfer Pricing provisions stipulate that related party transactions must meet the “market price” criterion, i.e., reflect the terms and remuneration established in comparable unrelated party transactions.
Conversely, applying this rule generates uncertainty. Thus, Transfer Pricing issues can often lead to tax litigation.
The Indian Income Tax Act of 1961 aims to provide certainty and consistency to taxpayers by using an advance pricing agreement. This agreement grants taxpayers the opportunity to enter into with the Income Tax Department to determine the market price or specify the determination for a set of international transactions over a fixed period.
Since its introduction in July 2012, the APA program in India has been working as a tool to mitigate Transfer Pricing issues, achieve certainty, prevent judicial overburdening, and resolve complex Transfer Pricing issues that might otherwise be subject to lengthy litigation.
The APA program, therefore, offers an excellent opportunity for foreign taxpayers and multinationals to mitigate Transfer Pricing disputes by agreeing beforehand with the Indian Income Tax Department on the market price or the determining method.
Annual APA Program Report 2024
The sixth annual APA Program report, recently released by the Central Board of Direct Taxes (CBDT), shows that, as of March 31, 2024, 641 APAs were successfully signed (resolving approximately 3,400 years of Transfer Pricing assessment), which resulted in finalizing the income taxation of roughly 250 thousand million Indian rupees (US$2.9 billion), which translates into a tax collection of approximately 75 thousand million rupees, litigation-free.
The fiscal year 2023-24 in India recorded 125 APA signatures, the highest number in a single year since the APA program’s inception, which includes 39 bilateral APAs with countries such as the United States, United Kingdom, Australia, Canada, Denmark, Japan, and Singapore.
While the law does not specify a timeframe to complete an APA, the average processing has typically been around four to five years. Ideally, this time should be reduced gradually.
APA’s Requirements
One of the most significant features of the APA program is its binding nature on both the taxpayer and the Indian Income Tax Department. It contributes to tax certainty by resolving Transfer Pricing issues, such as royalty/license fee payments and interest payments on loans, which could otherwise lead to protracted litigation, saving time, energy, and resources.
A taxpayer may enter into an APA for a maximum of five consecutive years. The program also provides a “look-back mechanism” that allows the APA to be applied to the same “international transactions” entered into by the taxpayer in the four years immediately preceding the period covered by the APA.
Therefore, an APA can provide certainty from a Transfer Pricing perspective for covered transactions for nine consecutive years.
Given India’s growth as a preferred destination for establishing global capacity centers, the APA program’s success could continue to increase.
Key Considerations for Multinationals
- Critical assumptions: Taxpayers should be aware of the “critical assumptions” concept in the APA program. These are defined as “fundamental and significant factors and assumptions that neither party entering into the agreement shall continue to be bound by if any of these factors or assumptions change.” Basically, these are the key APA aspects by which, if any thereof changes, APAs may lose their binding force.
- Processing period: Taxpayers should be aware of the processing time. As mentioned above, the average process for an APA has typically been four to five years.
- Bilateral agreements: Applicants should consider whether they wish to enter into an APA only with the Indian Income Tax Department or also with the tax authorities of other foreign jurisdictions. The number of bilateral APA signings has been increasing over time as they offer clarity in both tax jurisdictions involved in related party transactions.
Judicial Burden Reduction
In recent years, the Indian government has taken several steps to reduce the judicial burden, which include:
- Maintaining a minimum tax effect threshold for the Income Tax Department to file an appeal to the higher courts, set at different levels for the relevant court.
- Safe harbor rules: Specified scenarios where the transaction price reported by a taxpayer is accepted by the Income Tax Department.
- The concept of block Transfer Pricing assessment proposed in the recent Union Budget 2025 allows the taxpayer to determine the market price for three years when involving similar transactions.
Due to the accelerating increase in businesses and cross-border trading, Transfer Pricing disputes could increase. Tax certainty in a foreign jurisdiction is crucial to any investor or business group. Multinational companies may consider the APA framework to mitigate Transfer Pricing disputes.
Call to Action
For further information on APA’s benefits, please do not hesitate to contact TPC Group. Our experienced Transfer Pricing team is standing by to advise you every step of the process.
Source: Bloomberg Law