Recent transfer pricing decisions in India: The road ahead
Indian State Supreme Court (Bombay High Court) has issued two important verdicts concerning Vodafone and Shell.
Case one: Vodafone India Services (P.) Ltd. Vs Union of India [2014] (Bombay High Court)
Vodafone India issued certain equity shares to its Mauritius holding company at a premium of INR 8,509 ($134) per share.
It then filed its tax return and the transfer pricing accountant’s report (form 3CEB), with the issue price of the shares reported as arm’s-length. However, a note was appended to form 3CEB by the accountant making it clear that the issuance of equity shares did not affect the income of the taxpayer and was being reported only as a matter of abundant caution.
The revenue authority, however, said the equity shares should have been valued at INR 53,775, and made a corresponding primary and secondary adjustment.
In response, Vodafone challenged these adjustments via a writ petition. The High Court directed the Dispute Resolution Panel (DRP) to decide the taxpayer’s preliminary issue of jurisdiction. The DRP upheld the original order, causing the taxpayer to file a second writ petition before the Bombay High Court.
Vodafone contended that the issue of equity shares to its holding company did not give rise to any income, and therefore should not have been subject to the provisions of the transfer pricing code.
| It also said that its issue of shares to its holding company is a capital receipt under Indian regulations, as capital receipts cannot be taxed unless expressly legislated as taxable, and, therefore, that the orders of the revenue authority were completely without jurisdiction. |
| The Revenue contended that Vodafone had submitted itself to the jurisdiction of Chapter X by submitting Form 3CEB. Chapter X of the Act applies wherever the arm’s-length price (ALP) is to be determined by the tax officer. It is the hidden benefit in the transaction which is being charged to tax, and therefore the charging section is inherent in Chapter X of the Act.
Court’s ruling The arm’s-length principle was introduced to rectify transfer mis-pricing manipulation and abuse. Therefore, it is clear that Chapter X of the Act’s purpose is to ensure profits are not understated nor losses overstated by abuse of relationship. The Court rejected the contention of the revenue that the taxpayer itself had conceded jurisdiction by declaring the transaction in Form 3CEB. The Court accepted the contention of the taxpayer that the declaration was as a matter of ex abundanti cautela, denying any income arises from the international transaction. The Court held that the issue of shares at a premium by the taxpayer to its nonresident holding company did not give rise to any taxable income |
Case two: Shell India Markets (P.) Ltd. vs ACIT, LTU [2014] (Bombay High Court)
The taxpayer is an affiliate of the Shell group of companies which issued certain equity shares to two of its non-resident associated enterprises (AEs) at a face value of INR 10 per share. Along with its tax return, it filed Form 3CEB disclosing various international transactions with its AEs. However, it did not disclose the issue of equity shares to its non-resident AEs as it was believed that in the absence of income it was not a relevant transaction.
In view of the transfer pricing officer, the shares were allotted to the AEs at a price which was lower than the ALP of issue of shares, resulting in short receipt of consideration. Accordingly, an enhancement of the issue price of shares from INR 10 per share to INR 183.44 per share was made along with the secondary adjustment resulting in transfer pricing adjustment of US$2.53 billion. Aggrieved by the above, the taxpayer filed a writ petition before the High Court.
The taxpayer contended that Chapter X of the Act should not have applied, since the transaction of issue of equity shares to AEs did not give rise to any income as the transaction was on capital account, and that the issue was covered by the decision of the Bombay High Court in the case of Vodafone.
- The Revenue accepted that the issue raised is, in principle, covered by the Vodafone decision. However, it contended that there were certain distinguishing features in this case, as demonstrated in this table.
| Distinguishing feature | Revenue contentions | Court’s ruling |
| Availability of alternate remedy | The taxpayer had an alternative remedy to approach the Dispute Resolution Panel (‘DRP’). | The taxpayer has undertaken to withdraw its objection on the issue of jurisdiction before the DRP. Furthermore, in view of the fact that the Revenue does not dispute that the issue on merits stands covered by the decision of Vodafone, it would serve no useful purpose by directing the taxpayer to prosecute its objections before the DRP. |
| Non-disclosure of transaction in Transfer pricing Accountants Report | The taxpayer, in its Form 3CEB, had not disclosed the share issuance. This failure should have, by itself, disentitled the taxpayer to any relief from the High Court. | In the Vodafone decision, the Revenue contended that as the taxpayer therein had filed Form 3CEB in respect of issue of shares to AEs, that it had submitted to the jurisdiction of the Act and that it could not then contend that taxing the shortfall on capital account was without jurisdiction. In this case, an exactly opposite stand was being taken by the Revenue. |
The Court followed its earlier decision in Vodafone and it was held that transfer pricing provisions would not be applicable on alleged undervaluation of shares issued to foreign parent company.
Moving forward
The above decisions are landmarks in the context of Indian transfer pricing law, under which taxpayers are mandated to submit a transfer pricing accountant’s report (TPRA) on an annual basis summarizing the volume of AE transactions and their arm’s-length character.
The arguments taken by the Revenue Authority in both cases indicate that the revenue authority considers the TPRA as more than a mere compliance requirement but as an expert opinion issued on a contemporaneous basis under an attest standard.
In view of this, the taxpayers are advised to consider the following action:
- Focus on the quality of the disclosures and completeness of the said certificate. The firm certifying the report should be considered as independent from the taxpayer under local and applicable international standards.
- Wherever appropriate, ensure the tax positions which form the basis of the fixed TPRA are fully explained and documented in the report itself by way of appendages, notes. File a copy with the revenue authority promptly to avoid any claims of the same being post-dated.
Ensure the firm issuing the opinion has experience and resources available to do so with regard to the scale of the operations of the taxpayer.
