Transfer Pricing Study & Documentation

What is a transfer pricing study?

Transfer pricing is the pricing of transactions between related parties — for example, an Indian subsidiary providing software services to its foreign parent, buying products from a group company, or paying royalties or management fees. India requires these 'international transactions' with associated enterprises to be at arm's length: the price unrelated parties would agree.

A transfer pricing study analyses the transactions, the functions performed, assets used, and risks assumed by each party, selects a method, benchmarks against comparable independent companies, and documents why the price is arm's length. Businesses above the threshold must keep this documentation every year.

The key terms

The building blocks of transfer pricing:

Associated enterprise

A related party, typically through shareholding, control, or management, as defined in the Act.

International transaction

A transaction between associated enterprises where at least one is a non-resident — services, goods, royalties, loans, guarantees, and cost allocations.

Specified domestic transaction

Certain transactions between related domestic parties above a threshold, also subject to transfer pricing.

FAR analysis

An analysis of the Functions performed, Assets used, and Risks assumed by each party, which drives the method and benchmarking.

Methods

Comparable uncontrolled price, resale price, cost plus, profit split, transactional net margin (TNMM), and other methods. TNMM is the most commonly used.

Arm's length range

Where there are enough comparables, the price is tested against a range based on percentiles of comparable results.

Documentation threshold

Detailed documentation must be maintained where the aggregate value of international transactions exceeds ₹1 crore.

Why it matters

Transfer pricing is one of the most litigated areas of Indian tax:

Adjustments

If the price isn't at arm's length, the tax officer can adjust income upwards, with tax and interest.

Penalties

Failure to keep documentation, or to report transactions, attracts significant penalties.

Scrutiny focus

Transfer pricing cases are selected for detailed examination by specialist officers.

Accountant's report

Transactions must be reported annually in a CA's report, which depends on the study.

Double taxation

An Indian adjustment can mean the same profit is taxed in two countries unless relief is obtained.

Business credibility

Groups need defensible pricing in every country they operate in.

Planning

Setting prices right at the start is far cheaper than defending them later.

Who is this for?

Safe harbour rules offer certainty for some transactions if prescribed margins are accepted — worth considering for routine services.

Common transfer pricing methods

Choosing the most appropriate method:

What we'll need from you

Group structure

The group chart and relationships with associated enterprises.

Intercompany agreements

Agreements for each type of transaction.

Transaction data

Values of each international transaction for the year.

Financial statements

The Indian entity's accounts, and segmental data where relevant.

Functional information

Interviews with management about functions, assets, and risks.

Group policies

The group's transfer pricing policy and any master file.

Fees depend on the number and types of transactions and whether it's a first-year study or an update.

How a TP study is built

Each year's documentation follows these steps:

1. 1

   Identify transactions

   All international and specified domestic transactions are identified and valued.

2. 2

   FAR analysis

   Functions, assets, and risks are analysed through interviews and documents.

3. 3

   Select the method

   The most appropriate method is chosen and justified.

4. 4

   Benchmark

   Comparable independent companies or transactions are searched and screened.

5. 5

   Test and conclude

   The price is tested against the arm's length range.

6. 6

   Document and report

   The study is prepared, and the CA's report on transactions filed.

Keeping transfer pricing on track

TP is annual work:

Year-end true-ups

Adjust prices before year end if results fall outside the range.

Update comparables

Refresh benchmarking every year.

Keep agreements current

Update intercompany agreements when arrangements change.

File the accountant's report

File the CA's report on transactions by the due date.

Consider an APA

For certainty over future years, consider an Advance Pricing Agreement.

Keep documentation

Keep the study and support for the retention period.

Benefits and responsibilities