Save article




India revises Country Chapter comments in UN Practical Manual on Transfer Pricing Issues for Developing Countries

Executive summary

The United Nations (UN) Tax Committee formed a subcommittee on transfer pricing (TP) at its fifth annual session in 2009 to meet the needs of developing countries in the area of TP. The Subcommittee was mandated to prepare a practical manual on TP for developing countries. Subsequent to the work of the Subcommittee, the UN Practical Manual on Transfer Pricing for Developing Countries (UN TP Manual) was adopted by the Committee in 2012.

Thereafter, the UN Committee of Experts in International Cooperation in Tax Matters formed a subcommittee to work on two different areas related to TP as follows:

  • Revision of the Commentary on Article 9 of the UN Model Convention
  • Update and enhancement of the UN TP Manual

The Subcommittee has now presented a proposed version of the updated UN TP Manual (2016 Draft) for the approval of the Committee, with a view to publish the revised UN TP Manual in 2017.

In carrying out its mandate, the Subcommittee gave due consideration to the outcome of the Organisation for Economic Co-operation and Development (OECD)/ G20 Action Plan on Base Erosion and Profit Shifting (BEPS) relating to TP. The 2016 Draft also includes chapters on the practices and positions of emerging countries like India, Mexico, China, South Africa and Brazil.

The Indian tax administration in the country specific Chapter in the 2016 Draft has revised and updated its comments on a number of emerging TP issues from an Indian perspective, including issues pertaining to comparability analysis, allocation of risk, use of multiple year data, location savings, intra-group services, and transactions involving transfer/use of intangibles. The India Chapter of the 2016 Draft also contains an acknowledgment of India’s endorsement of the recommendations contained in the final report on TP under Actions 8-10 (Aligning Transfer Pricing Outcomes with Value Creation) and Action 13 (Transfer pricing documentation and country-by-country reporting) of the OECD/ G20 Action Plan on BEPS. The revised India Chapter states that the guidance flowing from these final reports should be utilized by the Indian revenue authorities as well as taxpayers in situations of ambiguity in interpretation of the law. India has however not endorsed the guidance in the BEPS report under Action 10 pertaining to low-value adding intra-group services. The revisions to the Indian Chapter also reflect a refinement to some of the earlier comments made by India in the UN TP Manual on issues such as location savings, comparability adjustments and intangibles.

This Tax Alert summarizes India specific comments on some of the key TP issues.

Detailed discussion

India’s position on BEPS Reports on Actions 8-10 and Action 13

After having endorsed the final reports of the BEPS projects on Actions 8-10, the Indian tax administration has acknowledged that some of the TP issues as addressed in the BEPS reports are in conformity with the long standing views of the Indian tax administration, namely:

  1. The broad objective of “aligning TP outcomes with value creation”
  2. Giving importance to the Development, Enhancement, Maintenance, Protection and Exploitation (DEMPE) functions in respect of intangibles for remunerating the group entities of multinational enterprises (MNEs)
  3. Testing of contractual allocation or contractual assumption of risk on the parameters of exercising control over risk and/or the financial capacity to bear the risk, and disregarding such contractual allocation or assumption of risk
  4. Harmonizing contracts with the conduct of parties; identifying and accurately delineating the transaction by analyzing the economically relevant characteristics
  5. Preventing the “cash box” entities from contributing to base erosion or profit stripping
  6. Non-recognition of commercially irrational transactions that cannot be seen between independent parties

Accordingly, the Indian tax administration is of the view that the guidance flowing from the final report of the BEPS project on Actions 8-10 should be utilized by both the transfer pricing officers (TPOs) and taxpayers in situations of ambiguity in interpretation of the law. However, India has not endorsed the guidance in the BEPS report pertaining to low value adding intra group services under Action 10 and has not opted for the simplified approach. Further, India has endorsed the recommendations contained in the BEPS final report on Action 13, which supported the three-tiered documentation regime comprising a Local File, a Master File and a Country-by-Country Report and has already carried out legislative changes in its domestic law.

Key considerations for risks

BEPS Action Plans 8-10 provide detailed guidance on analyzing risks as an integral part of a functional analysis, including a new six step analytical framework. In view of the assumption that increased risk should be remunerated by an increase in expected return, it is critical to determine which risks are assumed, what functions are conducted in connection with the assumption or impact of risks and which party or parties assume these risks. The Action Plans provide that detailed guidance on risk does not mean that risks are more important than functions and assets, but arises from the practical difficulties introduced by risks. The Action Plans further state that if the associated enterprise (AE) contractually assuming the risk does not exercise control over the risk or does not have the financial capacity to assume the risk, then the risk should be allocated to the enterprise exercising control and having the financial capacity to assume the risk.

According to the India Chapter of the 2016 Draft, the Indian practice has been to evaluate risks in conjunction with functions and assets and it is unfair to give undue importance to risk in determination of an arm’s length price (ALP) in comparison to the functions performed and assets employed. There is also reference to situations where research and development (R&D) functions are “controlled” by a related party situated outside India, while the actual R&D functions take place within India. The India Chapter states that the Indian tax administration disagrees with the notion that risk can be controlled remotely by (employees operating out of) the parent company and that the Indian entity engaged in core functions, such as carrying out R&D activities or providing services, can be risk free entities. According to the India Chapter, the Indian tax administration believes that in many cases core R&D functions which are located in India require important strategic decisions by management and employees of the Indian subsidiary and accordingly, in such cases, the Indian subsidiary exercises control over operational and other risks and the ability of the related party to exercise control over risks remotely is very limited.

Intangibles generated through R&D activities

Globalization has led many MNEs to establish information technology, R&D and back office operations in India in order to take advantage of savings inherent in its relatively moderate-cost labor market. Typically, the Indian affiliates providing services operate as “captive service providers” and are insulated from business risks and hence remunerated by providing a routine return for the functions performed.

The India Chapter of the 2016 Draft observes that India based R&D centers may take strategic decisions pertaining to the day to day activities and allocation of budgets to different streams of R&D activities. While funds for R&D activities are provided by the entity that bears the financial risk of the R&D activities, other important aspects of R&D activities, such as technically skilled manpower, know-how for R&D activities, etc. are developed and owned by the Indian subsidiaries. Accordingly, control over risks of R&D activities rests both with the AE and the Indian subsidiary, but the Indian subsidiary controlled more risks as compared to its AE. Therefore, the Indian tax administration is of the view that a routine cost plus return may not be appropriate in such cases and the Indian subsidiaries should be entitled to a suitable return for their functions (including strategic decision-making and monitoring of R&D activities), use of their tangible and intangible assets and exercising control over the risks.

It may be noted that BEPS Action Plans 8-10 provide that in identifying the ALP for transactions among AEs, the contributions of members of the group related to the creation of intangible value should be considered and appropriately rewarded. AEs performing and exercising control over the important value creating functions related to DEMPE of the intangibles can expect appropriate remuneration while a capital contributing entity without any functionality should get no more than a risk free return. With respect to R&D activities, the Action Plans suggest that a cost plus method may not always be appropriate and proposes the need for a detailed functional analysis prior to determining the appropriate TP methodology, including the consideration of options realistically available to parties. Given this, the India Chapter comments are broadly in alignment with the recommendations of Action 8-10.


BEPS Action Plans 8-10 contain revisions to Chapter VI of the OECD TP Guidelines on intangibles. The new version of Chapter VI contains guidance focused on ensuring that the profits associated with the transfer and use of intangibles are appropriately allocated in accordance with value creation, as well as a new approach to address transfer of hard-to-value intangibles. The guidance on pricing of transactions involving intangibles makes the following key points:

  • Due regard should be given to the perspectives of both parties to the transaction and a “one-sided” comparability analysis will generally be insufficient.
  • In using the Comparable Uncontrolled Price (CUP) method, caution should be taken with database comparables. It is important to assess whether there is sufficient information on database comparables to properly test their comparability to the tested transaction.

The India Chapter in the 2016 Draft does not contain any specific views or positions adopted by the Indian tax authorities on TP aspects of intangibles but states the complications and issues faced by the tax administration while dealing with intangibles. It makes the following points:

  • With regard to payment of royalties by Indian companies, the main challenge in determining the arm’s length rate is to find comparables in the public domain with sufficient information for comparability analysis. The use of the profit split method (PSM) as an alternative is generally not feasible due to lack of requisite information.
  • The royalty rate charged by an MNE company should also consider the cost borne by the Indian related party to promote the brand and trademark and to develop customer loyalty for the brand and the associated product.
  • Costs of activities, such as R&D activities which have contributed to enhancing the value of the know-how owned by the parent company, are generally considered by the Indian tax administration while determining the ALP of royalties for the use of technical know-how.
  • In case of co-branding of a new foreign brand with a popular Indian brand, the Indian entity should be entitled to an arm’s length remuneration for contributing to increasing the value of the little known foreign brand by co-branding it with a popular Indian brand and therefore increasing market recognition.

Marketing intangibles

According to the India Chapter of the 2016 Draft, TP aspects of marketing intangibles have been a focus area for the Indian revenue authorities. The Chapter states that the marketing expenditure incurred by the Indian entities has been considered for adjustment by the Indian revenue authorities on the premise that the Indian taxpayers were incurring these expenses for and on behalf of the brand owner outside India. The Indian tax authorities are also of the view that these expenditures provide a direct and indirect benefit to the brand owner and therefore the Indian entity needs to be compensated for the same.

The guidance provided in BEPS Action Plans 8-10 on marketing intangibles contains a clear recognition of the implications of advertising, marketing and promotional (AMP) activities of the distributor on development and enhancement of marketing intangibles. The guidance states that returns should be earned on performance of DEMPE functions in relation to the marketing activities. A thorough functional analysis is required to determine whether the distributor should only be compensated for promotion and distribution or also for enhancing the value of the trademarks and other marketing intangibles. Where remuneration is required, it can be in the form of cost plus mark-up basis, reduction in royalty rates or share of profits associated with enhanced value of intangibles. Depending on the individual case, the PSM may be considered to eventually better reflect value contribution rather than a one-sided analysis like the transactional net margin method (TNMM).

Since the approach of the Indian tax authorities has been subject to judicial review in India, the India Chapter states that the present approach of the Indian tax administration for carrying out TP reviews is in line with the judicial rulings as well the recommendations contained in the BEPS Action Plans 8-10. The approach of the Indian tax authorities, as stated in the India Chapter, is to carry out a detailed functional analysis to identify all the functions of the taxpayer and the AEs pertaining to the international transactions as well as to determine the DEMPE functions.

Intra group services

In recent years, appropriate treatment of the intra-group provision of services has become a critical TP issue in India. The India Chapter of the 2016 Draft states that TP of intra-group services is considered a high risk area in India. Further, India considers the payment for such intra-group services to be base-eroding in nature and, accordingly, attaches a great importance to the TP of such payments. The Chapter sets forth the approach to be adopted for determining the arm’s length nature of these charges.

The Indian tax authorities believe that shareholder services, duplicate services and incidental benefit from group services do not qualify as intra-group services requiring arm’s length remuneration. The Chapter also identifies choice of allocation keys and treatment of pass through costs as key challenges. Further, the Chapter states even if an arm’s length result is achieved in respect of such payments from India, an additional protection in the form of an overall ceiling on the amount of such payments may be required. This may be justified because even an arm’s length payment might result in erosion of all the profits of the Indian entity or in enhancement of losses of the Indian entity, thereby making the arm’s length nature of such payments questionable. Thus, an overall ceiling on such payments in the form of a certain percentage of the sales or revenue of the Indian entity is being used in appropriate cases.

Action 10 of the OECD BEPS report on low value added services takes the form of a rewrite of chapter VII of the OECD TP guidelines on intra-group services. The updated guidance aims to achieve a balance between appropriate charges for low value adding services and head office expenses and the need to protect the tax base of payer countries. The final report also provides for a simplified approach for determining arm’s length charges for low value adding services. However, the India Chapter of the 2016 Draft states that India has not endorsed the guidance under Action 10 and therefore has not opted for the simplified approach.

Financial transactions

According to the India Chapter of the 2016 Draft, TP of intercompany loans and guarantees are increasingly being considered some of the most complex TP issues in India. The Chapter also acknowledges the challenges faced by the Indian tax administration due to non-availability of specialized databases and of comparable transfer prices for cases of complex intercompany loans and mergers and acquisitions that involve complex intercompany loan instruments as well as an implicit element of guarantee from the parent company in securing debt. Therefore, in most cases, interest rate quotes and guarantee rate quotes available from banking companies are taken as the benchmark rate to arrive at the ALP.

Comparability adjustment

On the need for undertaking comparability adjustments to eliminate the effect of differences between the tested party and the comparables, the India Chapter of the 2016 Draft states that while it is possible to provide capacity utilization and working capital adjustments, it is difficult to make risk adjustments in the absence of reliable, robust and internationally agreed methodology to provide for risk adjustment. While making the above comments, the India Chapter refines its earlier observation where it had specifically rejected the use of the Capital Asset Pricing Method (CAPM) for undertaking risk adjustment.

Location Savings

Features of the geographical market in which business operations occur can affect comparability and the ALP. Such issues may arise in connection with the consideration of cost savings attributed to operating in a particular market. Such savings are referred to as “location savings.” According to BEPS Action Plans 8-10, where the functional analysis shows that comparable entities and transactions in the local market can be identified, those local comparables will provide the most reliable indication regarding how the net location savings should be allocated among two or more AEs.

As per the India Chapter of the 2016 Draft, the Indian tax administration is of the view that where comparable uncontrolled transactions are available, the comparability analysis and benchmarking by using the results/profit margins of such local comparable companies will determine the ALP of a transaction with a related party in a low-cost jurisdiction. If good local comparables are available, the benefits of location savings can be said to have been captured in the ALP so determined. However, if good local comparables are not available or where the overseas AE is chosen as the tested party, the problem of capturing the benefits of location savings would remain an issue in determining the ALP.

The above revision to the Indian Chapter better aligns with the position advocated in the BEPS Actions 8-10 report and significantly dilutes the earlier observation which had stated that price determined on the basis of local comparables does not adequately allocate location savings and it is possible to use the PSM for the same.

Other issues

  • Use of multiple year data

    Previously, the Indian TP rules provided that the data to be used in analyzing the comparability of uncontrolled transactions with related-party transactions must be the data relating to the financial year in which the related-party transaction was entered into. However, the data relating to two years prior to the relevant financial year could also be considered if such data has an influence on the determination of the transfer prices in the related-party transaction that is being compared.

    The Indian tax authorities are of the view that use of contemporaneous comparables provides a more accurate ALP in a particular year in the way that contemporaneous transactions reflect similar economic conditions. The India Chapter of the UN TP Manual provides that if the revenue authorities conduct an ex post facto analysis of TP studies (i.e., use data more contemporaneous than those used by the taxpayer to support the arm’s length nature of its transactions) that cannot be held as use of (prohibitive) hindsight by the revenue authorities. This position puts taxpayers at a disadvantage, as they would either need to update their comparable searches continuously which is costly or risk having “older” and non-contemporaneous data. This also led to significant litigation and TP disputes.

    With a view to minimizing litigation and to provide flexibility to taxpayers in defending their transfer pricing, the Indian tax administration issued rules which generally permit the use of multiple year data for undertaking a TP comparability analysis. This development has been incorporated in the India Chapter of the 2016 Draft. It may be noted that the Indian rules for use of multiple year data vary from internationally prevalent rules.

  • Arm’s length range

    The provisions on the computation of ALP under the Indian Tax Law provide that where more than one price is determined by the most appropriate method, the ALP shall be taken to be the arithmetic mean of such prices. Under the erstwhile provisions, the taxpayers were given the option to adopt a price which may vary from the arithmetical mean by an amount not exceeding 5%/3% of such arithmetical mean.

    In order to align the Indian transfer pricing laws to the best international practices, rules permitting the use of a “range” of results subject to certain conditions (for example - availability of at least six or more comparables) were issued in 2015. This development has been incorporated in the India Chapter of the 2016 Draft.

  • Dispute Resolution

    The India Chapter of the 2016 Draft provides an overview of the dispute resolution process in India including availability of options like the Mutual Agreement Procedure (MAP) and the Advance Pricing Agreement (APA) for managing TP controversy in India.


The 2016 Draft of the UN TP Manual is a response to the need expressed by developing countries to align the guidance with the OECD Guideline on BEPS Action Plans. The revisions made to the India Chapter of the 2016 Draft demonstrate India’s commitment to implementing a number of the BEPS recommendations relating to TP. The work of the OECD under Actions 8-10 is expected to result in changes to the OECD TP Guidelines. In India, OECD TP Guidelines are often referred to as a source of interpretation of the arm’s length principles by Courts, tax authorities and taxpayers, even though they are not binding and cannot contradict existing legislative rules. India’s endorsement of the BEPS Actions 8-10 (with the exception of the recommendations relating to low-value adding intra group services) can therefore be expected to have an immediate impact in terms of TP audits and enforcement. Further, as the reference to the BEPS reports and OECD TP guidelines could be “ambulatory,” this could impact existing intercompany pricing arrangements as well. MNEs with Indian operations must evaluate the implications on their TP practices, documentation and defense positions. In addition, enterprises should focus on the new reporting and TP documentation requirements in order to assess whether the necessary data is available, what must be done to gain access to such data in the required form, and how tax administrations are likely to interpret such data.

EYG no. 03873-161Gbl

Download this Tax Alert as a PDF file

Privacy  |  Cookies  |  BCR  |  Legal  |  Global Code of Conduct

EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young Global Limited, a UK company limited by guarantee, does not provide services to clients.



Font size

Tax topics >

No filter criteria selected.

Industries >

No filter criteria selected.

Countries >

No filter criteria selected.

 < Close


 < Close


 < Close

Tax topics

 < Close


 < Close


 < Close

0 articles have been saved