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Risk-based Audits for Transfer Pricing
In view of the serious risk faced by the Indian exchequer on account of illicit financial outflows via transfer mispricing practices by multinational corporation–affiliated firms, an appropriate tax policy path shall be oriented towards a more thorough and stricter scrutiny of their transactions in future. The current policy approach of minimising the tax audits faced by these firms based on initial risk assessment should ensure careful profiling of risks and strategic audit design considering various risk factors.
The discussion is a part of an ICSSR-sponsored research project “Understanding FDI-linked Trade Through Related Party Transactions: A Study of Manufacturing Foreign Subsidiaries in India” conducted at the Institute for Studies in Industrial Development, New Delhi.
The authors are thankful to the anonymous referee for feedback on an earlier draft.
In line with the “United Nations Practical Manual on Transfer Pricing for Developing Countries (2017)” (UN 2017) and Organisation for Economic Co-operation and Development’s (OECD 2013) “Draft Handbook on Transfer Pricing Risk Assessment” emphasising the development of risk assessment procedures to select cases for transfer pricing scrutiny, the Central Board of Direct Taxes (CBDT), in March 2016, introduced a series of measures. This was as part of the new guidelines to be followed by the revenue department in inspecting transfer pricing audits with respect to cross-border transactions. These fresh set of protocols fundamentally replaced the earlier set of guidelines issued in 2003 regarding the manual selection of similar cases by field officers.
Apart from the broader objective of effective initial risk identification and assessment for focused and more strategic audit as well as judicious deployment of available enforcement resources, the new policy reform is principally aimed at reducing the number of litigations on the transfer pricing front so as to promote the image of the economy as a non-adversarial tax regime, especially for the multinational companies. The investor sentiments are thought to be harmed by the numerous pending litigations and high tax adjustments around transfer pricing that several multinational enterprise (MNE)-affiliated companies have faced in India recently. This situation has arisen particularly due to the various complexities involved in reviewing these cases that the tax authorities and the judiciary have to deal with. The new series of guidelines are expected to remove the fear of onerous taxation and unreasonable litigation burden from the mindset of MNEs operating in India.
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