FICCI-KPMG-Report-13-FRAMES

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The power of a billion: Realizing the Indian dream
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with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Conclusion
Given the overall set-up of the industry, it would be ideal for
the Government to consider the difficulties of the industry
players and issue guidelines that enable taxpayers to adopt
the newly introduced ‘Other method’ properly to support
their TP policies as well as enable them to explain the
economic dynamics of their industries that in many cases
would help explain the pricing and the results of transactions
entered into between related parties. Separately, it is
incumbent upon taxpayers to proactively undertake planning
analysis of their complex international transactions and
maintain robust documentation to support the arm’s length
price of their international transactions. The introduction of
APAs is a positive step for the taxpayers and can be explored
as an option in case of companies having complex/high value
transactions after conducting a proper cost benefit analysis,
as it would provide them with certainty and would help such
taxpayers to plan their strategies in a better manner.
• Judicial decision
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Transfer Pricing adjustment in relation to
advertisement, marketing and sales promotion
(AMP) expenditure is permissible
Recently, the Delhi Special Bench of the Income-tax
Appellate Tribunal (the Tribunal or Special Bench) in
the case of LG Electronics India Private Limited 9 (LG
India) held that Transfer Pricing adjustment in relation
to advertisement, marketing and sales promotion
(AMP) expenditure incurred by LG India for creating or
improving the marketing intangible for and on behalf of
the foreign Associated Enterprise (AE) is permissible.
It also held that the said function can be construed as
provision of service by LG India to the AE for which,
earning a mark-up in respect of AMP expenditure
incurred for and on behalf of the AE, is appropriate.
While arriving at the cost of the service, the Transfer
Pricing Officer (TPO) relied on AMP ratio of certain
comparable companies (Bright Line Test). The TPO
proposed to disallow the excess expenditure incurred
by the taxpayer over and above the bright-line. The
Dispute Resolution Panel (DRP) not only confirmed
the action of the TPO and also directed the Assessing
Officer (AO) to impute a mark-up on the costs
disallowed by the TPO.
The Special Bench of the Tribunal observed that –
• In the display of brand in the advertisements
coupled with proportionately higher AMP spend by
the taxpayer indicated an oral or tacit understanding
between LG India and its foreign AE regarding
brand promotion and therefore, the same was in
the nature of an ‘international transaction’.
• It further observed that by incurring excess
expenditure, LG India had provided services to its
AE which owned the brand, requiring justification of
arm’s length price thereof.
• The Tribunal also approved the use of mark-up on
the costs incurred for providing services by LG
India. In this regard, the Special Bench observed
that the Bright Line Test is simply a tool to ascertain
the cost of the international transaction of provision
of service and approved the use thereof.
• While dealing with the issue of the constituents of
the Bright Line, the Special Bench observed that the
09. LG Electronics India Private Limited vs. ACIT (ITA No. 5140/ Del/2011)
expenditure incurred directly ‘in connection with’
and not ‘for promotion of’ sales, should not be put
in the same basket as AMP expenditure. Therefore,
bonus/ commission paid to dealers/ sales agent
does not constitute AMP expenditure.
KPMG in India’s comments
The Special Bench ruling has laid down certain
guiding principles on the vexed issue of AMP
expenditure, though in view of dissenting order of
one of the Members of the Three Member Special
Bench, the scope for further litigation does not
seem to have reduced.
It would be worthwhile for the foreign broadcasting
companies operating through Indian AEs incurring
AMP expenses to have proper contractual
arrangements in place with detailed analysis and
proper segregation of the rights and obligations
of parties concerned. Further, it shall also be
necessary to demonstrate the consonance of the
functions carried out and the risks undertaken by
the counterparties with the contractual terms.
While the litigation on the matter of AMP spend
and consequent creation of marketing intangible
will most certainly continue, in light of the Special
Bench decision it would be advisable for the
Indian entities to proactively analyze not only the
quantum but also the nature of AMP expenses and
maintain details and documents in this regard.
Tax incentives and Tax planning:
——
Special Economic Zones (‘SEZ’)
The SEZ regime in the country allows tax breaks to
eligible entities on export earnings for a period of 15
years (in a phased manner). Hence, entities engaged
in content development, animation, etc. for exports
abroad, may explore setting up units in a SEZ to claim
tax holiday benefits. It is pertinent to note that with
effect from 1 April 2011, SEZ units are liable to pay
Minimum Alternate Tax at the rate of 18.5 percent
(excluding surcharge and education cess) on book
profits. Nonetheless, the income tax saving (the
difference between normal tax liability and MAT
liability), concessions in other indirect taxes, lower cost
of operations in SEZs, etc make the SEZ route an ideal
mode of doing business for export oriented entities.
——
Intellectual Property Rights
The possibility of tax planning by separating production
and distribution rights in films may be explored in
certain cases. An offshore special purpose vehicle
may retain and exploit the distribution rights (including
satellite broadcasting rights, audio and music
rights, video rights, etc.) overseas, in a tax effective
manner. Such planning would need to be carefully
evaluated depending upon the business model and in
compliance with the Transfer Pricing provisions as also
the Controlled Foreign Company (CFC) rules proposed
to be introduced in the Direct Taxes Code.