Long-drawn litigation may hopefully be a thing of the past
By Suchint Majmudar, Harsh Mohta & Madhumitha Ganesan
Recognising that MNEs are integral to the economy, India has been focusing on ensuring the ease of entry and growth of MNEs for doing business. A concern amongst most MNEs vis-a-vis Indian tax scenario is transfer pricing (TP) adjustments imposed by hawkish Revenue authorities. These involve large outflows in terms of tax, associated interest and potential penalties.
The fact-intensive nature of such disputes leads to protracted litigation, resulting in a backlog of cases at various appellate levels and a bureaucracy unequipped to handle the same.
To put it in perspective, there were 1,39,221 cases pertaining to direct tax pending across tribunals, high courts and the Supreme Court, involving `4,91,000 crore (as of June 2017). To ease the pressure on assessment authorities and judicial machinery, the CBDT has focused on making alternative routes of dispute resolution more accessible to MNEs.
Advance pricing agreement: Through Finance Act, 2012, India introduced APA as a mode of dispute resolution, wherein the CBDT would enter into an agreement with a taxpayer for predetermination of arm’s length price for five years. In 2014, to provide the benefit of APA for longer periods, the CBDT introduced ‘rollback’ options in APAs—meaning taxpayers could apply the benefit of negotiations under an APA for four years preceding the term of APA. The CBDT gave taxpayers the option to choose a unilateral, bilateral (negotiated with another country’s competent authority), or multilateral APA (negotiated with multiple competent authorities).
To make it easier, the CBDT removed the necessity of a correlative adjustment clause in the DTAA of negotiating country for a bilateral/multilateral APA, in 2017, achieving reasonable success (the number of bilateral APAs filed in FY18 increased over twofold from 23 in 2016-17 to 53 in 2017-18).
APAs met an overwhelming response with an increase in the number of applications filed, from 146 in FY13 to a cumulative 1,145 applications as of March 2019, with the CBDT concluding 271 APAs (including 31 bilateral APAs) and the remaining awaiting resolution. APAs concluded by the CBDT encompass a range of issues, such as royalties, intra-group services, guarantee fees, economic adjustments and so on. The US, the UK, Singapore, Australia and Germany are prominent counterparty jurisdictions wherein majority of APAs have been concluded.
The rate of conclusion of APAs has been slowly but surely rising, as APA authorities make the process easier on the taxpayer, as evidenced by the number of APAs concluded in a year rising from five in FY14 to 88 in FY17. But this number has decreased since, due to an increase in the duration of processing time per APA—from 29 months in 2016-17 to 32 months in 2017-18.
APAs have provided succour to MNEs and helped tax authorities focus on more complex areas such as the ‘most appropriate method’ and critical assumptions, and to not get bogged down in issues of comparables. The certainty and suspension of TP assessments, the truncated time frame for resolution, possibility of rollback, and transparency of negotiation process make APAs an attractive option for MNE taxpayers.
Mutual agreement procedure: If APA is the elixir of controversy prevention, MAP is the panacea of dispute resolution. In cases where a demand subsists due to TP adjustment, the taxpayer has MAP route open, wherein competent authorities of the two countries involved negotiate a settlement to avoid double taxation of the same income earned by an MNE.
MAP offers a faster and clearer route towards resolution of TP dispute when compared to domestic litigation. There is a possible suspension of collection of tax demand under certain treaties such as those with the US, the UK and Denmark. Further, tribunals and courts have lately displayed a tendency towards considering MAP conclusions as persuasive evidence in the event of domestic litigation for the same taxpayer. The correlative clause amendment in 2017 opened doors for many taxpayers to file MAP applications, who were hitherto barred from doing so.
But as the taxpayer needs to file application for MAP within a specified timeline, which is usually triggered after the intimation of demand, MAP may not prevent the initiation of litigation, although it is an effective way to resolve the same.
Over a period of three years up to 2017, competent authorities in India have concluded over 500 tax disputes with those in the US, the UK, Japan, China, the Netherlands and others, through consistent negotiation, with 646 cases pending resolution. In a notable instance, over 100 disputes were resolved in a single meeting with competent authorities of the US under a framework arrangement in November 2017.
Disrupters in domestic litigation: Another effort by the CBDT to loosen the bottleneck of TP litigation is risk-based assessments, to ensure that only cases that presented a high degree of TP risk were selected for TP assessment. These include non-filing of/incomplete disclosures in accountant’s report, high TP adjustments in previous years, qualifying remarks in accountant’s report, etc. This approach is a departure from the prior basis of quantum of transactions, a move towards emphasising quality of audits over quantity.
In July 2018, the CBDT increased tax impact thresholds to be satisfied for an appeal by Revenue authorities before appellate levels, resulting in withdrawal/dismissal of a significant number of cases.
The number of TP cases selected for scrutiny has grown manifold (from a little over 200 relating to 2005 to over 2,000 cases pertaining to 2014). But TP adjustments have reduced in intensity due to the availability of above alternatives, leading to a focus on litigation of more complicated issues, such as AMP expenditure. The verdicts of tribunals are promising, with over 60% of TP matters adjudicated in favour of the taxpayer. The learnings from APAs have also percolated down to audits.
That said, it is a matter of concern that the Dispute Resolution Panel, set up as a negotiation and settlement forum, has become merely a faster route for disputes to reach the tribunal. With the DRP regularly confirming the orders of lower authorities, a refocus on its objectives to make it a constructive intervening body is critical for effective resolution of TP disputes.
In current litigation landscape, MNEs in India and the CBDT are appreciative of the fact that the way out of disputes is conciliation, and not confrontation. Hence, there is a noticeable correlation between successful conclusion of alternate mechanisms and reduction of TP cases being referred for scrutiny—but there is a long way to go in this regard.
A case in point is that suspension of assessments during the pendency of APA would go a long way in preventing duplication of effort on the part of tax authorities as well as the taxpayer.
(Majmudar is partner, Mohta is deputy manager and Ganesan is assistant manager, Deloitte Haskins & Sells)