The Delhi Income-tax Appellate Tribunal (Tribunal), in a ruling in the case of M/s. Bharti Airtel Limited (Taxpayer) has adjudicated on transfer pricing (TP) issues arising from the issuance of a corporate guarantee, loans to associated enterprise (AEs) and contribution to share capital. The Taxpayer, an Indian company, provided a guarantee to a third party bank on behalf of its foreign subsidiary for which the Taxpayer did not charge a fee. The Taxpayer contended as it did not incur any costs in providing the guarantee, there was no requirement for it to charge a fee to the subsidiary under the transfer pricing provisions. During audit proceedings, the Transfer Pricing Officer (TPO) imputed an arm’s length guarantee fee by applying the Comparable Uncontrolled Price (CUP) method and considered the commission charged by independent banks as a benchmark. The Tribunal, considering the facts of the case, held that the corporate guarantee provided by the Taxpayer, which does not involve cost to the Taxpayer, does not have a bearing on profits, incomes, losses or assets of the Taxpayer and hence the transaction does not fall within the definition of “international transaction” as provided in the Indian Tax Law (ITL). The Tribunal accordingly ruled that under the facts of the case, transfer pricing provisions do not apply to the provision of the guarantee and therefore the TP adjustment imputing an arm’s length guarantee fee is not warranted.
With regard to interest on the loan provided by the Taxpayer to its AEs, the Tribunal rejected the TPO’s approach of determining the arm’s length interest rate. The Tribunal ruled that the arm’s length interest rate should be determined based on rates prevailing with respect to currency in which the loans are made.
Further, with regard to the capital contribution made by the Taxpayer to its AEs, the Tribunal rejected the TPO’s approach of determining the arm’s length interest rate by treating these payments partly as that of an interest free loan. The Tribunal ruled that an arm’s length price adjustment based on that hypothesis was not legally sustainable on merits as the TPO has not brought on record anything to show that an unrelated share applicant was to be paid any interest for the period between making the share application payment and allotment of shares.
One of the fundamental fact patterns in the evolution of international transfer pricing concepts and rules involves an enterprise’s use of a financial resource belonging to an associated enterprise. Although the OECD Transfer Pricing Guidelines, 2010 acknowledge the role of the use of money in transfer pricing matters, they do not yet provide specific guidelines regarding how such issues are to be addressed and resolved. Nonetheless, the elements that are typically important in evaluating transfer pricing issues involving the use of money within multinational enterprise groups can be outlined by drawing on general arm’s-length principles.
Intercompany lending and related financial transactions are being more intensively audited by the Indian revenue authorities. Transfer pricing of intercompany loans and guarantees are increasingly being considered some of the most complex transfer pricing issues in India, according to the India Country specific chapter of the UN Practical Manual on Transfer Pricing for Developing Countries. The chapter suggests that the Indian tax administration may consider the interest rates prevailing at the situs of the lender/ guarantor when determining the arm’s length interest rate or guarantee fee.
Guarantee transactions are difficult to characterize for transfer pricing purposes because they may involve an analysis of mixed elements of the time value of money and shareholder activity. Guarantee transactions may further raise the question of whether the facility confers a specific benefit on the recipient or a general benefit to the entire controlled group of companies. Accordingly, the issue of whether a charge should be imposed for provision of a guarantee is primarily a factual inquiry. Taxpayers should undertake a factual review of their intercompany guarantee arrangements to determine which conclusion can be applied to their fact pattern.
In determining an arm’s-length rate of interest, all relevant factors concerning the controlled and uncontrolled transactions should be taken into account, including the principal amount and duration of the loan, the security involved, the borrower’s credit standing, and the interest rate prevailing at the situs of the lender or creditor for comparable loans between unrelated parties. This ruling recognizes the relevance of interest rates prevailing in the international markets as being an important factor in determining an arm’s length interest rate.
With regard to interest on the loan provided by the Taxpayer to its AEs, the Tribunal rejected the TPO’s approach of determining the arm’s length interest rate. The Tribunal ruled that the arm’s length interest rate should be determined based on rates prevailing with respect to currency in which the loans are made.
Further, with regard to the capital contribution made by the Taxpayer to its AEs, the Tribunal rejected the TPO’s approach of determining the arm’s length interest rate by treating these payments partly as that of an interest free loan. The Tribunal ruled that an arm’s length price adjustment based on that hypothesis was not legally sustainable on merits as the TPO has not brought on record anything to show that an unrelated share applicant was to be paid any interest for the period between making the share application payment and allotment of shares.
One of the fundamental fact patterns in the evolution of international transfer pricing concepts and rules involves an enterprise’s use of a financial resource belonging to an associated enterprise. Although the OECD Transfer Pricing Guidelines, 2010 acknowledge the role of the use of money in transfer pricing matters, they do not yet provide specific guidelines regarding how such issues are to be addressed and resolved. Nonetheless, the elements that are typically important in evaluating transfer pricing issues involving the use of money within multinational enterprise groups can be outlined by drawing on general arm’s-length principles.
Intercompany lending and related financial transactions are being more intensively audited by the Indian revenue authorities. Transfer pricing of intercompany loans and guarantees are increasingly being considered some of the most complex transfer pricing issues in India, according to the India Country specific chapter of the UN Practical Manual on Transfer Pricing for Developing Countries. The chapter suggests that the Indian tax administration may consider the interest rates prevailing at the situs of the lender/ guarantor when determining the arm’s length interest rate or guarantee fee.
Guarantee transactions are difficult to characterize for transfer pricing purposes because they may involve an analysis of mixed elements of the time value of money and shareholder activity. Guarantee transactions may further raise the question of whether the facility confers a specific benefit on the recipient or a general benefit to the entire controlled group of companies. Accordingly, the issue of whether a charge should be imposed for provision of a guarantee is primarily a factual inquiry. Taxpayers should undertake a factual review of their intercompany guarantee arrangements to determine which conclusion can be applied to their fact pattern.
In determining an arm’s-length rate of interest, all relevant factors concerning the controlled and uncontrolled transactions should be taken into account, including the principal amount and duration of the loan, the security involved, the borrower’s credit standing, and the interest rate prevailing at the situs of the lender or creditor for comparable loans between unrelated parties. This ruling recognizes the relevance of interest rates prevailing in the international markets as being an important factor in determining an arm’s length interest rate.
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