Do transfer pricing rules apply to Indian entities?

By Ajit Tolani and Ashish Bhatnagar, Economic Laws Practice

Since India’s transfer pricing regulations were introduced in 2001, taxpayers have completed seven rounds of audits. In the past three audits, 44% to 52% of the cases selected for scrutiny were subjected to an adjustment with the quantum of adjustment jumping to as high as ₹445 billion (US$8.3 billion).

Ajit Tolani
Ajit Tolani

Recent developments

In recent times, transfer pricing authorities have started attempting to apply regulations for international transactions even to transactions between domestic taxpayers, or in joint venture cases. These issues came up for consideration before the Hyderabad Income Tax Appellate Tribunal (ITAT) in the case of M/s Swarnandhra IJMII Integrated Township Development Company Pvt Ltd v DCIT. Here, ruling the case in the appellant’s favour, the ITAT held transfer pricing to be inapplicable on transactions between domestic entities.

The ITAT’s observations had some interesting postulates which helped clarify the issues.

Analysis of the provisions

Section 92B(2) of the Income Tax Act, 1961, deals with deeming provisions when “transactions are entered into by an enterprise with a person other than an associated enterprise if there exists a prior agreement in relation to the relevant transaction between such other person and the associated enterprise, or the terms of the relevant transaction are determined in substance between such other person and the associated enterprise”. The revenue authorities tend to interpret “transactions” as including transactions between Indian entities.

Given the confusion over the applicability itself, it is pertinent to look carefully into the definition of transactions and verify if this can be used to explain international transactions as well. The explanatory circular No. 14 to the Finance Act, 2001, stated that the basic intention of the transfer pricing regulations was to prevent shifting profits out of India by way of transactions between associated enterprises (AEs) either or both of which are non-residents by manipulating prices charged or paid in international transactions, thereby eroding the country’s tax base.

Thus before invoking the deeming provisions, the basic premise of the transaction involving a non-resident must be satisfied.

Assessment of scope

An assessment of the manner in which deeming fictions ought to be enforced reveals that while the same is limited to the parameters of management, control or capital under the main section 92A(2) of the act, the scope is larger under section 92B(2) of the act. However, that does not permit the revenue authorities to arbitrarily adjudge any transaction undertaken by a taxpayer under the arm’s length principle.

Ashish Bhatnagar
Ashish Bhatnagar

The transfer pricing regulations themselves postulate a difference in the definition of AEs under section 92A and section 92B(2) of the act. Thus, under section 92A, once enterprises have been determined to be AEs, they remain so for the entire financial year, without change in their relationship for different transactions, i.e. they will remain AEs even if they do not have any transaction during the previous year. In contrast, under section 92B(2), a transaction between an enterprise and another person can be deemed to be a transaction between AEs only in respect of specified transactions. Thus, this fiction is understood to be transaction specific.

Examination of intent

A further analysis of the intent behind having deeming fictions under different sections of the act reveals that section 92B(2) was enacted to look at cases where two associated enterprises intend to have an international transaction but seek to avoid transfer pricing provisions by interposing a third party as an intermediary. Thus, this section is more to enforce the law of substance over form albeit not by disregarding the existence of the intermediary but by deeming the transaction with the intermediary itself to be one with an AE.

It is important to understand that the legal fiction created in respect of the specified transaction can be used only for the purpose of examining whether the transaction constitutes an “international transaction” under section 92B(1). In a case where section 92B(1) is not attracted, the fiction under section 92B(2) ceases to operate.


Taxpayers ought to undertake a thorough check of the grounds that the revenue authorities may adopt in imposing an adjustment to their cases. Very often, simple checks may reveal that the authorities have transgressed their authority on legality itself in which case the outcome would not be sustainable and would be liable to be dismissed.

Economic Laws Practice is a full-service law firm with headquarters in Mumbai and offices in New Delhi, Pune and Ahmedabad. Ajit Tolani is a partner at the firm and Ashish Bhatnagar is a senior associate.


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