n Circulars based on Rangachari panel?s suggestions to iron out differences with captive units of MNCs

The Central Board of Direct Taxes (CBDT) on Thursday approved the issuance of two rules aimed at reducing tax disputes with the local captive units of multinationals such as Microsoft, Accenture, Cognizant and Yahoo!, which do research and development work for their overseas parents.

CBDT stated that the two circulars it issued on Thursday would help in providing certainty to taxpayers on issues relating to transfer pricing of ‘development centres.’

?The government has now approved issue of circular on identification of contract R&D service provider with insignificant risk and on application of profit split method,? said the board. These are based on the recommendation of a committee headed by former Irda chairman N Rangachari, the board said.

The profitability of such development centres set up by global firms to do research work in India has been a major area of dispute between them and Indian tax authorities, which demand higher taxes by attributing higher profitability to such units. Rationalising the calculation of their profits for tax purposes is likely to bring relief to such entities. As per industry experts, the tax department has been attributing 30-40% profitability to such units while it was much less on the ground. They say the economic slowdown and competition from other emerging IT hubs have depressed their profit margins way below the government’s present estimate.

Accepting Rangachari panel’s recommendation is aimed at encouraging outsourcing of IT work by multinationals to their captive units in India.

The higher profit margin estimate so far used enabled the tax authorities to make upward adjustments to the value of the service rendered by the captive unit to its overseas parent, leading to a higher tax outgo for the Indian unit. Transfer pricing adjustments in India lead to double taxation of the global IT firm outsourcing business to Indian subsidiaries.

Tax authorities in the country where the MNC parent is located often allow deduction of business expenditure on the outsourced work only at the value of the transaction claimed by the Indian captive unit, not at the value upwardly adjusted by the Indian tax authorities.

The amount adjusted by the Indian tax department gets taxed twice.