Widening the ambit of international transactions

Ever since 2001, when transfer pricing regulations were introduced in India, the definition of “international transaction” has remained unchanged.

It was a broad exclusive definition covering purchase, sale or lease of tangible or intangible property or provision of services, or lending or borrowing money or any other transaction having a bearing on the profits, income, losses or assets of associated enterprises. As a result, what constitutes international transaction was open to doubt and interpretation.

Transactions relating to guarantees are an example, where even tax tribunals have ruled in the recent past that corporate guarantee does not fall within the definition of international transaction. Similar inconsistencies existed in case of transactions involving intangible properties (IP) in the absence of a more definitive definition of IP.

Further, in the case of certain business restructuring transactions, for example, where shares in an Indian company have been gifted by one foreign group company to another without consideration, judicial authorities have held that since the transfer is in the nature of a gift, neither capital gains tax nor TP provisions would apply.

The new definition

The Finance Minister has pointed out that the intention of the definition of international transactions has been defeated in part by resorting to interpretive nuances.

To remove ambiguity, the Finance Bill proposes to amend the definition of international transaction with retrospective effect. However, it also gives rise to a number of questions.

The new expanded definition of international transaction lists five broad types of transactions to be covered within its ambit, namely, transactions relating to tangible property, transactions relating to IP, financing transactions, provision of services and transactions relating to business restructuring.

Financing transactions, including long-term and short-term borrowing, lending or guarantees, purchase or sale of marketable securities or any type of advance, payments or deferred payment or receivable or any other debt arising during the course of business have been included in the definition of international transaction.

Apart from corporate guarantees now being covered within the ambit of TP, related party debtors and creditors may also come under the purview of TP — what was already being considered by some tax authorities in stray cases may soon become the norm.

Business restructuring

Business restructuring has been a widely discussed topic across the world of late. The OECD has published its paper on the TP aspects of business restructurings wherein it has dealt with the reallocation of profits within the entities undergoing restructuring.

However, the inclusion of transactions relating to business restructuring within the definition of international transactions does not seem to particularly toe the OECD line. Transactions relating to restructuring have been brought under the ambit of TP, more from a perspective of widening the tax base by enabling the tax authorities to determine the arm's length value of such transactions, irrespective of whether such transactions have any impact on profit, income, losses or assets of the entities involved in any year, that is, even if the transaction is undertaken without consideration or at nil value.

Further, under the new definition, IP includes marketing intangibles (like trademark, trade names, brand names), technology and engineering intangibles (like process and product patents, designs, knowhow), literary intangibles, proprietary software, software copyrights, customer intangibles (like customer lists, contracts, relationships), human capital (trained and organised workforce, employment agreement), locational rights, various types of goodwill, and so on.

With the detailed definition of IP, the question of exit charge for an Indian company in case of transfer of any IP out of India becomes more pronounced.

Companies looking to migrate customer lists or contracts will now need to pay attention to the valuation of such IP to determine an arm's length exit charge in India, a practice not extensively prevalent till date.

More questions

The new definition also raises some rather uncomfortable questions, especially in the case of companies sending trained employees to foreign group companies on secondment, whether accompanied by a transfer of payroll or not.

Questions may arise on whether a secondment involving trained workforce will tantamount to an international transaction; at what value should such transaction be disclosed in the tax payer's TP study; what method may be appropriate to justify such transaction, and so on. With changes in the definition of what forms the basis of TP, the Finance Minister has managed to widen the ambit of TP in addition to clarifying certain positions.

Whether the new definition will give rise to more number of question than it will help clarify, only time will tell. However, one thing is certain: With APAs being introduced and certain domestic transactions being brought within the purview of TP, the expansion of the definition of international transactions will add to the already piled up work of transfer pricing officers.