luận văn thạc sĩ IMPROVING TAX MANAGEMENT OF TRANSFER PRICING ACTIVITIES OF MULTINATIONAL ENTERPRISES IN VIETNAM

IMPROVING TAX MANAGEMENT OF TRANSFER PRICING ACTIVITIES OF MULTINATIONAL ENTERPRISES IN VIETNAM Major: The master of International Trade Policy and Law Full name: Le Thi Thuong Ha Noi -

IMPROVING TAX MANAGEMENT OF TRANSFER PRICING ACTIVITIES OF MULTINATIONAL ENTERPRISES IN VIETNAM

Major: The master of International Trade Policy and Law

Full name: Le Thi Thuong

Ha Noi - 2017

Improving Tax Management Of Transfer Pricing Activities Of

Multinational Enterprises In Vietnam

Major: The master of International Trade Policy and Law

Full Name : Le Thi ThuongSUPERVISOR : Assoc Prof Ph.D Nguyen Viet Dung

I hereby certify that the thesis with the title: "Improving Tax Management of

Transfer Pricing Activities of Multinational Enterprises in Vietnam" is my own

research and does not reproduce any other materials The data indicated in the thesis

is clear, accurate and are collected from the confident sources of information

The Author

Le Thi Thuong

In order to complete this thesis, besides the efforts of myself, I have receivedthe help, encouragement and guidance of my teachers, friends, colleagues andfamily throughout the course as well as in the period of the thesis research

Special thanks to Assoc Prof Ph.D Nguyen Viet Dung, who was dedicated toguide and help me in the process of researching and writing this thesis

I am grateful to the teachers in the Council of Assessment who gave me thevaluable insights and comments, supporting me to complete the thesis

I am grateful to the teachers teaching at the Faculty of Postgraduate Education

of the Foreign Trade University for the interesting and useful lectures, for theenthusiastic transmission of the valuable knowledge and for the best conditionsoffering in the process of the course

I want to say many thanks to my colleagues working on tax department whosupport me with a lot of data and information related to tax management of transferpricing in Vietnam and other countries

I am grateful to my family and my colleagues for their encouragement andsupports during the course and the period of thesis research

This thesis studies on the tax management of transfer pricing – not a new but avery complicated issues required various knowledge, skills and practicalexperiences Thus, the thesis has the inevitable shortcomings and limitations I lookforward to receiving valuable comments for improving the thesis

Sincerely,

Hanoi 2017The Author

Le Thi Thuong

TABLE OF CONTENTS

LIST OF ABBREVIATIONS vi

INTRODUCTION 1

CHAPTER 1: THEORETICAL BASIS FOR TAX MANAGEMENT OF TRANSFER PRICING 8

1.1 Transfer Pricing 8

1.1.1 The concept of transfer pricing 8

1.1.2 Multinational enterprises and associated enterprises 10

1.1.2.1 Multinational enterprises 10

1.1.2.2 Associated enterprises 11

1.1.3 The arm’s length principle 12

1.1.4 Transfer pricing methods 13

1.1.5 Impact of transfer pricing 18

1.2 Tax management of transfer pricing 20

1.2.1 The concept of tax management of transfer pricing 20

1.2.2 History of tax management of transfer pricing in the world 20

1.2.3 Factors of tax management of transfer pricing 21

1.2.3.1 Managing entities 21

1.2.3.2 Managed objects 22

1.2.3.3 Management tools 22

1.3 Experience of Some Countries in Tax Management of Transfer Pricing.23 1.3.1 China 23

1.3.2 India 28

CHAPTER 2: PRACTICAL SITUATION OF TAX MANAGEMENT OF TRANSFER PRICING OF MULTINATIONAL ENTERPRISES IN VIETNAM 33

2.1 Transfer pricing of multinational enterprises in Vietnam 33

2.1.1 The establishment and operation of multinational enterprises in Vietnam 33

2.1.2 The motives for formation of transfer pricing in Vietnam 36

2.1.2.1 The tax policy and incentives for enterprises with foreign direct investment 36

2.1.2.2 The difference in the tax base between Vietnam and other countries.38 2.1.2.3 The Operation Purpose and Policy of Multinational Enterprises 39

2.2 History of formation and development of tax management of transfer pricing in Vietnam 39

2.3 Practical situation of tax management of transfer pricing in Vietnam 42

2.3.1 Managing entities 42

2.3.2 Managed object 45

2.3.3 Management tools 47

2.3.3.1 Legal legislation 47

2.3.3.2 Tax examination and audit 53

2.3.3.3 Database used for transfer pricing analysis 57

2.3.3.4 Economic development and international cooperation on transfer pricing management 57

2.4 Tax Transfer Pricing Outstanding Cases in Vietnam 58

2.4.1 Keangnam Vina 58

2.4.2 Metro Cash & Carry 60

2.4.3 Coca-Cola Beverages Vietnam Co., Ltd 61

2.4.4 Hualon Corporation 62

2.5 Evaluation of tax management of transfer pricing in Vietnam 63

2.5.1 Achievements 63

2.5.1.1 Sufficient regulations on transfer pricing 63

2.5.1.2 Certain achievement in tax examination and audit 64

2.5.1.3 Training for tax officers 64

2.5.2 Limitations 66

2.5.2.1 Lack of comprehensive legal framework 66

2.5.2.2 Lack of comparables for determination of arm’s length price 67

2.5.2.3 Lack of knowledgeable and experienced human resources in tax authorities 68

2.5.2.4 Lack of database on prices and average profit margins for comparability analysis 69

2.5.2.5 Vietnam position in international arena 69

2.5.2.6 Insufficient application of arrangements on transfer pricing 70

CHAPTER 3: RECOMMENDATIONS FOR IMPROVING TAX MANAGEMENT OF TRANSFER PRICING OF MULTINATIONAL ENTERPRISES IN VIETNAM 71

3.1 Orientation for recommendations 71

3.2 Recommendations for Improving Tax Management of Transfer Pricing of Multinational Enterprises in Vietnam 73

3.2.1 Improving legal regulations on transfer pricing 73

3.2.2 Forming database for comparability analysis 75

3.2.3 Improving risk assessment in selecting enterprises subject to tax examination and audit 78

3.2.4 Establishing separate procedures for tax examination and audit of transfer pricing 79 3.2.5 Training for tax officers and tax experts on transfer pricing issues 81 3.2.6 Coordinating between related authorities in Vietnam 83 3.2.7 Enhancing dissemination of transfer pricing regulations to taxpayers 85 3.2.8 Participating in international organizations on transfer pricing management 87

CONCLUSION 89 REFERENCES 91

CPM Comparable Profits Method

CUP Comparable uncontrolled price method

GDT the General Department of Taxation of VietnamGSO General Statistics Office Of Vietnam

MNE Multinational Enterprise

MOF Ministry of Finance of Vietnam

OECD the Organization for Economic Co-operation and DevelopmentTNMM Transactional Net Margin Method

USD The United State Dollar

PWC PricewaterhouseCoopers

R&D Research and Development

I The necessity of the research

Globalization gives opportunities for domestic companies to trade and investinternationally It is also a prerequisite for the establishment of multinationalenterprises (MNEs) with business operation of increasing diversity and complexity.Taking advantages of preferential policies, especially tax incentives, of manycountries in attracting foreign investment, MNEs have performed a range of tricks

to maximize overall profits In which, transfer pricing (TP) is a trick of shiftingprofits among related parties of a MNE through associated transactions TP hasbecome popular in the world with growingly complex and sophisticated forms,causing tax losses and affecting the social-economic development As aconsequence, governments always pay special attention to TP management, notablytax management Tax management of TP is one of the hottest issues which havebeen discussed on regional and global forums International organizations,consisting of the Organization for Economic Co-operation and Development(OECD) and the United Nations (UN), have provided several publications likeguidelines or model tax conventions on this issue

In Vietnam, after approximately 30 years from “Doi Moi”, there are certainachievements in attracting foreign investment Registered and implemented capital

of FDI in 2016 reached USD 24.3 billion and 15.8 billion respectively, which arethe highest ever, with more than 2,500 new projects For the first seven months ofyear 2017, the sum of registered capital from new projects, additional funding andinvestment in the form of capital contribution and share purchasing reached USD21.93 billion, increasing 52 percent in comparison to the same period of 2016 Tothe date of 20 July 2017, there are 23,737 effective projects with total registeredcapital of USD 307.86 billion The accumulated implemented capital of foreigninvestment’s projects is estimated to reach USD 163.9 billion, equaling to 53.2percent of total effective registered capital Foreign invested sector also contributes

a large portion of imports and exports, accounting for more than 70 percent of total

export turnover and around 60 percent of total import turnover in the previous twoyears [MPI, 2017]

Although substantial amount of total invested capital, contribution of this area

to state budget is only a small proportion According to data from General StatisticsOffice of Vietnam (GSO), for the first four months of 2017, national revenue fromforeign invested sector (crude oil excluded) achieved VND 47.3 million billion,contributing to around 23.5 percent of estimation, while the figures for privatesector and state sector are VND 52.1 and 49.4 million billion In 2016, domesticincome from foreign invested enterprises is VND 147.7 million billion out of thetotal income of VND 744.9 million billion, accounting for around 19.83 percent.That of year 2015 is 19.06 percent [GSO, 2016] In addition, a large part of foreigninvested enterprises report losses over the past years but still expand their businessoperation Coca-Cola is one outstanding example Coca-Cola consistently reported aloss, as of the end of 2011, reaching VND 3,768 million, which exceed the totalinitial invested capital Despite such losses, its revenue gradually grew from 20 to

30 percent annually

This situation raises questions about the compliance of foreign enterpriseswith tax laws and regulations of Vietnam Vietnam government has given concerns

of tax management of foreign investment, especially TP, since the 1990s, but there

is no legal documents regulating this activity until the year 1997 At present, afterseveral times of amendments and supplements, Decree No 20/2017/ND-CP dated

24 February, 2017 and effected 1 May, 2017 (Decree 20) is the document withhighest legal effectiveness governing TP Based on such regulations and action planproposed by Ministry of Finance (MOF), tax examination and audit of TP havebeen seriously implemented in recent years In the year 2015, the GeneralDepartment of Taxation of Vietnam (GDT) established official Transfer Pricingaudit teams in the GDT and in four major provinces: Hanoi, Ho Chi Minh City,Binh Duong and Dong Nai in order to conduct specialized tax examination and taxaudit

However, up to now, legal regulations on TP have not yet completed with

many blind spots of policy Besides, tax examination and tax audit of TP are limiteddue to lack of practical experiences and qualifications

From the above-mentioned reasons, the author chooses the topic “Improving

Tax Management of Transfer Pricing Activities of Multinational Enterprises in Vietnam” for the research Starting from theoretical basis and actual situation of TP

tax management in Vietnam, the author shall make some necessaryrecommendations on policy and practical action aiming at efficient tax management

of TP, contributing to sustainable development of the country

II Research situation in the world and in Vietnam

Tax management of TP is not a new issue on the research of individuals andorganizations in the world

TP rules were introduced in domestic legislation by the United Kingdom in

1915 and by the United States (US) in 1917 The US developed TP regulations in

the Internal Revenue Code (IRC) in 1930 and TP law dated 1st July 1994 TheOECD and UN have also publications concerning this issue

The OECD first issued The OECD Transfer Pricing Guidelines for

Multinational Enterprises and Tax Administration (OECD guidelines) in 1995,

which was then amended and updated in 1979 and 1984 The guidelines not onlyrepresent a consensus among OECD members on dealing with TP issues, but also abasis for developing countries to establish their own TP regulation

“International Income Taxation and Developing Countries” in 1988 was the

first publication of the UN on TP, which followed by a report on Transfer Pricing ofThe United Nations Conference on Trade and Development (UNCTAD) in 1999

The guideline named the United Nations Practice Manual on Transfer Pricing for

developing countries (UN Manual) which was first introduced in 2013 and revised

in 2017 by the United Nations, is one of the most important publications whichupdates all TP guidance used for establishing TP regulations for countriesworldwide

The European Council (EC) also pay attention to this phenomenon, on 17 May

2011, they issued guidelines on low-value-adding intra-group services They areendorsed on the basis that their implementation should contribute to reducing taxdisputes

The European Commission adopts several measures which consist of thepossibility of a “common consolidated corporate tax base (CCTB)” and “home statetaxation”, using apportionment to calculate the amount of taxes to pay in oneoperating country of an MNE Apportionment would be followed an agreedformula, based upon some criteria of business activity such as some combination ofsales, payroll, and assets Recently, EU has also developed projects to enhance TPdispute resolution and harmonize TP documentation requirements In May 2011,

EC published some guidelines on low-value-adding intra-group services

The research of Hongren, Charles and partners in the book Cost Accounting:

A management Emphasis, 12th Edition in 2006 analyzed TP management of the IRS

as well as of competent authorities in Japan and Korea In 2013, Richardson,

Taylor and Lanis introduced the research Determinants of transfer pricing

aggressiveness: Empirical evidence from Australian firms which reported factors

affecting TP of Australian firms going online There are a lot of researchesregarding TP and related issues of Weicenrieder, Hatem Elsharawy, Duran Timmsand other authors

Besides, some large international independent auditing firms like KPMG,Earn&Young, Dellotte and PriceWaterHouseCooper provide analysis and review

on TP every year to update the actual situation and make forecast for the future

In Vietnam, the author Nguyen Van Phuong did the research “Kiểm soát nhà

nước đối với gian lận chuyển giá tại Việt Nam” (Control of State for transfer pricing fraud in Vietnam) in 2015 In which, the author specified the principles of

and factors contributing to controlling TP in associated enterprises, then gavesolutions to prevent TP in Vietnam In 2012, the author Nguyen Thi Phuong Hoa

did a ministerial research project called “Tăng cường kiểm soát nhà nước đối với

hoạt động chuyển giá trong doanh nghiệp trong điều kiện hội nhập kinh tế ở Việt Nam” (Strengthen the control of the State for transfer pricing activities of

enterprises in Vietnam in terms of economic integration) which systemized

theoretical basis of nature, meaning and content of state control of TP anddetermined directions and measures to strengthen state control of TP ininternational integration The researcher Phan Thi Thanh Duong chose the topic

“Pháp luật về kiểm soát chuyển giá ở Việt Nam” (Vietnam legislation of controlling transfer pricing) for her doctoral thesis, which analyzed and explained

the relationship between domestic law and international law in TP adjustment In

2011, the GDT introduced the book “Hướng dẫn kê khai giao dịch liên kết khi

quyết toán thuế TNDN và chống chuyển giá” (Guidance on declaration of the associated transactions in corporate income tax finalization and anti-transfer pricing) specifying expression of TP and guiding declaration on associated

transactions In addition, there are a wide range of books and articles of manyauthors regarding TP management

In short, there are various researches on TP management, specifically on taxmanagement, in Vietnam and in over the world However, there is no workanalyzing the determinants of tax management of TP of MNEs in a systematicmanner

III Object and scope of research

The object of research is tax management of TP of MNEs in Vietnam Taxmanagement of TP is constituted by managing entities, object of management andcontent of management

In Vietnam, managing entities of TP include Ministry of Planning andInvestment (MPI), the MOF, including the GDT and its branches, the State Bank ofVietnam, the State Audit Office of Vietnam, etc However, in this research, theauthor shall concentrate on the administration of the GDT and its branches on TP

TP is formed by associated transactions among related companies domestically orinternationally, but in this thesis, only international associated transactions forpurpose of tax avoidance are analyzed Management content in this research shall

be studied on three broad factors: legal regulations, tax examination and audit aswell as other factors

IV Research objectives

The objectives of the thesis is building the rationale for TP management,analyzing the practical situation of TP tax management in Vietnam anddetermining all factors which affect tax management of TP in Vietnam Fromabove analysis and synthesis, the thesis shall make several appropriaterecommendations for improvement of tax management of TP in Vietnam Toachieve the objectives of the thesis, following specific task shall be performed: Specifying the rationale of transfer pricing to determine the scope and object

of transfer pricing, classify different methods of TP as well as recognize its impacts

in reality

Studying the situation of TP management in the world, categorizing the factorswhich affect TP management and analyzing how such factors have impacts on TPmanagement

Investigating the practical situation of TP in Vietnam, from that evaluating theachievement and limitations of TP management in Vietnam

Making recommendations to enhance the achievements and overcome thelimitations of TP management in Vietnam

TP cases in Vietnam

VI Expected results

The research is expected to make several contributions to theoretical andpractical basis as follows:

- Generating theoretical base for tax management of TP of MNEs

- Determining factors contributing to tax management of TP of MNEs

- Analyzing TP activities of MNEs in Vietnam

- Analyzing and evaluating practical tax management on TP of MNEs in Vietnam

- Making recommendations on improving tax management of TP of MNEs inVietnam

VII Structure of the research

A part from the Introduction and the Conclusion, the research is divided intothree chapters as follows:

Chapter 1: Theoretical basis for Tax Management of Transfer Pricing

Chapter 2: Practical situation of Tax Management of Transfer Pricing ofMNEs in Vietnam

Chapter 3: Recommendations for Improving Tax Management of TransferPricing of MNEs in Vietnam

CHAPTER 1: THEORETICAL BASIS FOR TAX MANAGEMENT OF TRANSFER PRICING

1.1 Transfer Pricing

1.1.1 The concept of transfer pricing

International trade and investment are formed and developed on the basis ofcomparative advantage A country shall specialize in producing and exporting onlythose goods and services which it can produce more efficiently or, in other word, atlower opportunity cost than other goods and services which it should import.Comparative advantage results from different endowments of the factors ofproduction such as capital, land, labor) entrepreneurial skill, power resources,technology, etc This is the base for domestic companies eager to invest and runbusiness internationally

Globalization creates opportunity for international trade and for companies toexpand its business operation by investing to other countries Such companies oftenestablished legal structures such as subsidiaries, branches, joint ventures orpartnerships to operate in the recipient countries and conduct transactions with oneanother and with the parent company All legal structures as well as the parentcompany are separately called associated party and together called an MNE andtransactions between them are called intra-group transactions

According to the statistic of OECD, around sixty percent of world trade takesplace within MNEs, consisting of international transfers of goods and services,capital and intangibles [OECD, 2012] Those transfers are not only governed bymarket forces but also by operation forces of the MNE Therefore, in many cases,the transfer prices of transactions between associated parties of MNEs are differentfrom prices set up in transactions between independent companies

There is no official concept of TP, but several definitions are given by somespecialists and organizations In the book of The International Taxation System byAndrew Lymer and John Hasseldine, TP were defined as the pricing policies and

practices that are established when physical goods as well as services and intangibleproperty are charged between associated business entities [Andrew Lymer and JohnHasseldine, 2012, page 159]

According to Dezan Shira & Associates, TP referred to all types and manners

of inter-company pricing arrangements between related business organizations,generally across international borders These include transfers of intellectualproperty, tangible goods, services, loans, and other financial transactions [DezanShira & Associates, 2010]

In the view of the UN, TP is the general term for the pricing of cross-border,intra-firm transactions between related parties TP therefor refers to the setting ofprices at which transactions occur involving the transfer of property or servicesbetween associated enterprises, forming part of an MNE [UN, 2013]

The OECD has not given the definition of TP, however they provide thedefinition of a transfer price as a price, adopted for book- keeping purposes, which

is used to value transactions between affiliated enterprises integrated under the samemanagement at artificially high or low levels in order to effect an unspecifiedincome payment or capital transfer between those enterprises

The OECD guidelines make it clear that the concept of TP should not beconfused with tax fraud, or tax avoidance, even though TP transactions may be usedfor such purposes [Michelle Markham, 2004]

In the scope of research in this thesis, the Author supposes that: “Transfer

pricing activities or transfer pricing (transfer pricing) is the establishment of transfer prices for properties, regardless of tangibles or intangibles, which are different from market prices of such properties, between associated enterprises of

an MNE for the purposes of tax avoidance, which contributes to maximum the overall profits.”

From the above definition, TP is occurred in case of (i) transactions betweenassociated enterprises of an MNE, (ii) transfer price different from market price,and (iii) for the purpose of tax avoidance

TP can be occurred in the transactions between associated enterprises of anMNE, this is because such transactions are governed by both market force andMNE operation force, in which operation force is outweigh the market force.

One of the bases for evaluating the TP of associated enterprises is marketprice, also called AL price Transfer price in TP is different from market price, itmay be lower or higher than market price Establishment of such prices shallsignificantly reduce tax liability in country with higher tax rate but marginallyincrease tax liability in other country with lower tax rate This leads to substantialdecrease in overall payable tax amount of MNE In some cases, maybe the transferprice set up within an MNE is in accordance with AL price In such cases, the MNE

is considered as not doing TP and their transactions are not included in the scope ofthis research

1.1.2 Multinational enterprises and associated enterprises

1.1.2.1 Multinational enterprises

According to the OECD in the publication “OECD transfer pricing guidelinesfor Multinational enterprises and Tax administrations”, MNE is a group of two ormore associated parties operating in more than one law jurisdiction [OECD, 2010]

Why MNEs implement transfer pricing

Since the relationship between associated parties comes from overall interests,the concern of an MNE is overall benefit but not separate benefit of each associatedparties By utilization advantages of operation in different countries, MNE is able torelocate the revenue and cost for all associated parties to minimize overall taxliability, or in other words, maximize gross profit of the group The adjustment ofrevenue and cost results in the establishment of intra-group prices for transactionsbetween associated parties which are not priced on the demand and supply basis.Further, thank to operating in different countries, MNEs can detect thecountries with favorable business environment, policy incentives, especiallyincentives on taxes In addition, each entity has its right to freely make decision onany matter of business operation within legal framework Therefore, they can decide

the transacted price of products or services with the others in certain transactions.The establishment of price policy within the group keeps the overall interestsunchanged, but it may alter their overall tax liability Through pricing arrangement,tax liability is moved from the countries with higher tax burden to that with lowertax burden Based on specific social – economic policy, the tax policy and taxincentives for enterprise with foreign capital are often different.

Another motive for MNE can do TP is the transfer of intangible properties.The intellectual properties such as the monopoly of technology or know-how of themother company are secured while expanding its business to different countries It

is better to transfer its business secrets within the group than to another independentcompany With the aim of expansion, other intellectual rights, for example, the use

of license, trademark, trade name, consultancy, are also transferred to associatedparties It is difficult to estimate the real value of such transferred property.Therefore, an MNE can change the transferred value of intangibles to shift profitsfrom one party to others to achieve the goals of increasing gross profit

of two enterprises in different countries

There is no specific common guidance on associated enterprises both in theCommentaries on Article 9 in the UN and OECD Models and in the OECDguidelines This is mainly because TP issues are relevant only if special conditionshave been made or imposed between two parties

Management, operating or capital contribution factors are conditions which

1 Longman Dictionary

affect the harmony of interests of those enterprises and also the basis fordetermining the associated relationship Thus, associated enterprises can be formed

in the same country or maybe in many different countries From there, TP is notonly taking place in international transactions that can both in domestictransactions In fact, the transfer of interest rates is usually assessed for internationaltransactions due to significant differences in tax policies between countries.Meanwhile, because all companies have to comply with national treatment, the taxliability resulting from domestic transactions is almost the same

In the scope of this thesis, TP is researched in international transactionsbetween associated parties of an MNE

The definition of an “associated enterprise” is based on domesticcircumstances and hence the concept of one country differs from, to some extent,the concept of other countries However, all of them are established under therelationship of capital, management or control

Associated transactions are understood as transactions which are concluded byassociated enterprises

1.1.3 The arm’s length principle

The arm’s length (AL) principle is promulgated by the OECD in Article 9 ofThe OECD Model Tax Convention on Tax and on Capital It is also mentioned inOECD guidelines According to the Guidelines, conditions to determination of TPare made or imposed between the two enterprises in their commercial or financialrelations which differ from those which would be made between independententerprises, then any profits which would, but for those conditions, have accrued toone of the enterprises, but, by reason of those conditions, have not so accrued, may

be included in the profits of that enterprise and taxed accordingly [OECD, 2010]

In the Manual of the UN, the AL principle is seemed as an internationalstandard that compares the price in transactions between related entities with theprice in similar transactions conducted by independent entities The transfer pricebetween unrelated parties is often called AL price All different values of AL prices

constitute an AL range If the price established between associated parties is notoutside the AL range, it may be directed to a TP action Therefore, in certaincircumstances, the market consisting of unrelated parties is the measure forverifying transfer prices for transactions between associated entities.

However, in reality, it is rare to have two identical transactions Therefore, todetermine whether a controlled transactions complies with AL principle or not, it isnecessary to use comparable transactions with certain differences which can bereasonably adjusted to eliminate such differences

1.1.4 Transfer pricing methods

To assess whether a price compliance with the AL principle or not, severalapproaches are applied, called “transfer pricing methods” According to the OECDclassification in the OECD guidelines, TP methods can be divided into two broadgroups: transaction-based methods and profit-based methods

Transaction-based methods:

Comparable Uncontrolled Price (CUP): This method is used to determine

whether an transactions is controlled or not by comparing price for transactionbetween related parties (controlled transaction) to price for transaction betweenunrelated parties (uncontrolled transaction) in comparable circumstances

Figure 1: Comparable Uncontrolled Price Method

Transaction between two Associated Enterprises is controlled transaction.Transaction between Associated Enterprise and unrelated party or between two

unrelated parties called uncontrolled transaction.

Comparable circumstances of two transactions can be made if there are nodifferences in transactions being compared that would materially affect the price ormaterial differences can be reasonably adjusted

Reasonable adjustments may be possible for several differences such as thetype and quality of the product, delivery terms, volumes of sales and relateddiscounts, product characteristics, contractual terms, geographical factors Uniqueand valuable trademarks or fundamental differences in the products are featureswhich cannot be reasonably adjusted in this method

This method is a direct measure of determining AL price through involving adirect transactional comparison The content of this method is clear and easy tounderstand and the result is reliable However, in many cases, it is hard to findcomparable uncontrolled transactions in accordance with comparability standards,especially transacting intangibles such as services or intellectual properties.Therefore, this method should be applied when one of the associated entities of thetransaction is involved in uncontrolled transactions with an independent party or inthe transactions of tangible commodity with minor differences between differenttypes

Resale Price Method (RPM:) This method is used to determine the price to be

paid by a reseller for a product purchased from an associated enterprise and resold

to an independent enterprise The purchase price is established so that the marginearned by the reseller is sufficient to allow it to cover its selling and operatingexpenses and make an appropriate profit corresponding to its performs and the risks

Enterprise 1

If the given price is USD 10 and the resale price margin (gross profit margin)

is 20 percent, the AL price shall be USD 8

The factor needs to consider in this method is gross profit margin Comparisoncan be made if there are no differences between the transactions being comparedthat materially affect the gross margin or the differences can be reasonably adjusted

In this method, it is functional comparison more than transactionalcomparison Therefore, product differences are less important in this method than inCUP method In determination of AL price in this method, several issues need totake into account including how substantial value the reseller add to the product, thelevel of activities performed by the reseller, how significant the seller perform incommercial activity in relation to the resale activity, whether the reseller has theexclusive right to resell the goods, the differences in accounting practices

This method should be used to determine the gross margin of full range ofproducts of a sales company, not only separate product type It is more appropriatefor situations where is a weak relationship between the costs incurred and the salesprice of the goods However, this method is not a direct transactional comparisonand it is difficult to find comparable data due to accounting inconsistencies.Therefore, it is applied when CUP method is not applicable or the sales company donot own valuable intangible properties

Cost Plus (C+ or CP): This method analyzes appropriate prices of properties

charged by supplier to a related buyer by adding to costs of the supplier an suitablegross margin, so that the supplier can make an appropriate profit in accordance withmarket conditions and functions performed

For example, if the cost of Associated Enterprise 1 is USD 500, and the grossprofit markup is 50 percent, the AL price is USD 750

The critical factor in this method is determining gross profit margin.Comparison can be made if there are no differences between the transactions beingcompared that materially affect the gross profit markup or the differences can be

reasonably adjusted

To use this method in determining AL range, a number of potential difficultiesneed to consider, for example, the link between costs incurred and the market price,the differences in the level and types of expenses in connection with the functionsperformed and risks assumed between controlled and uncontrolled transactions,costs should be excluded from the cost basis

This method is based on internal costs of the MNE, so the information isavailable for applying this method However, there are some obstacles when usingthis method, for instance, weak link between costs and market price, no comparabledata on gross margin due to accounting inconsistencies

The method is based on the cost of associated enterprise and its gross profitmark up, so it is appropriate for manufacturing or assembling company or relativelysimple service providers

Profit-based methods:

Two classes of transactional profit methods are recognized including comparison methods (Transactional Net Margin Method or TNMM/ComparableProfits Method or CPM) and profit-split methods

profit-Profit comparison methods (TNMM/CPM):

The TNMM determines the net profit margin relative to an appropriate baserealized from the controlled transactions by reference to the net profit marginrelative to the same appropriate base realized from uncontrolled transactions

Ideally, operating margin should be compared to operating margin earned bysame enterprise on uncontrolled transaction This method is applicable for any type

of transaction and often used to supplement analysis under other methods

TNMM has almost become the ‘default’ method for taxpayers in recent years.The key advantage of the TNMM is that there is often available data in the publicdomain about the net profits that comparable independent businesses earn from theirtrading activities in comparable markets with other third parties As such, the

TNMM often proves easier to apply than the CP or RPM methods, and TNMM isless sensitive to minor differences in the products being sold.

The main disadvantage of the TNMM is that because there is typicallyinsufficient information in the public domain to be certain, the comparablecompanies are truly comparable to the tested party

Profit Split Method (PSM)

This method seeks to determine the way that a profit arising from a particulartransaction would have been split between the independent businesses that wereparty to the transaction The PSM divides the profit based upon the relativecontribution of each related party business to the transactions enterprise asdetermined by their functional profile and, where possible, external market data.Over recent years we have increasingly seen multinational groups apply aprofit split as the basis of their TP policies For many it is because globalizationrequires that they manage their business along divisional lines with the consequentscant regard to the profit profile of the underlying legal entities

In many cases, the increasing importance and value of a group’s IntellectualProperty (IP) and the often shared nature of the development of that IP, and theattached business risks, may lead taxpayers to the PSM

Despite the advantages of the PSM, there are significant difficulties inapplying it in practice The simplicity of the requirement in the OECD TransferPricing Guidelines to split the profit between the parties, ‘on an economically validbasis that approximates the division of profits that would have been anticipated andreflected at AL’ reduces the difficulty in working out what profit should be sharedand the relative contribution of each participant to the profit share

Profits arising today may have been the result of work undertaken by one ofthe businesses many years in the past Conversely, including all costs in the profit to

be shared could allow some participants to ‘export’ the cost of their owninefficiency to others

Other methods:

Other unspecified methods may be used to evaluate whether the amountcharged in a controlled transaction is at AL Any such method should be applied inaccordance with the reliability considerations used to apply the specified methods

An unspecified method should take into account the general principle thatuncontrolled taxpayers evaluate the terms of a transaction by considering therealistic alternatives to that transaction, and only enter into a particular transaction ifnone of the alternatives is preferable to it In establishing whether a controlledtransaction achieves an AL result, an unspecified method should provideinformation on the prices or profits that the controlled taxpayer could have realized

by choosing a realistic alternative to the controlled transaction

An example of other method is The Commodity Rule, also known as the ‘sixthmethod’ is especially applicable to commodity transactions It is in use, with manyvariations thereof, by several developing countries for arriving at the arm’s-lengthprice of import and export transactions of commodities such as grains, oil andoilseeds, oil and gas, mining and fishing

The choice of methods, availability of different types of methods and thepriority given to various different TP methods are matters often covered bydomestic legislative frameworks

1.1.5 Impact of transfer pricing

On tax authorities

Transfer pricing leads to decrease in gross tax liability

Because an amount of profit shifted from the country with higher tax rate tothe country with lower tax rate, an amount of tax or duty shall decrease accordingly.Some MNEs engage in practices that seek to reduce their overall tax bills Thismay involve profit shifting through non-arm’s length TP in order to reduce theaggregate tax burden of the MNE by shifting profits from associated entities inhigher tax countries to associated entities in relatively lower tax countries through

either under-charging or over-charging the associated entity for intra-group trade.

In short, TP rules are essential for countries in order to protect their tax base,

to eliminate double taxation and to enhance cross-border trade For developingcountries, TP rules are essential to provide a climate of certainty and anenvironment for increased cross-border trade while at the same time ensuring thatthe country is not losing out on critical tax revenue TP is of paramount importanceand hence detailed TP rules are essential

On economics and society

Transfer pricing impacts on revaluation of the capital and income redistribution

Transfer prices serve to determine the income of both parties involved in thecross-border transaction The transfer price therefore influences the tax base of thecountries involved in cross-border transactions

In any cross-border tax scenario, the parties involved are the relevant entities

of the MNE group along with the tax authorities of the countries involved in thetransaction When one country’s tax authority adjusts the profit of a member of theMNE group, this may have an effect on the tax base of another country In otherwords, cross-border tax situations involve issues related to jurisdiction, allocation ofincome and valuation

Transfer pricing causes unfair competition between enterprises

TP may increase profit of MNE, this means improving such MNE productivityover productivity of other enterprises This is unfair for enterprise withoutimplementing TP and complying with all applicable regulations

On MNEs

MNEs are global structures which may share common resources andoverheads From the perspective of the MNE these resources need to be allocatedwith maximum efficiency in an optimal manner Therefore, TP is one of theeffective ways for MNEs to allocate the profits of single parties in order to ensure

the hugest gross benefits.

1.2 Tax management of transfer pricing

1.2.1 The concept of tax management of transfer pricing

Concepts such as “management”, “administration” and “control” are oftendefined under the domestic law in many countries and may be extended for TP.According to longman dictionary, management means the activity of controllingand organizing the work that a company or organization does

Management is the purposeful impact of managing entities on managedobject in order to effectively utilize all the resources and opportunities to achievegoals which have been set out in a fluctuated environmental condition [Loi, 2008,page 13]

In general, management can be understood as the intended action of themanaging entity influencing on managed object by using necessary tools in order toachieving particular purposes

In case of tax management, managing entity includes all competentauthorities concerned, in which tax departments play the most important role.Managed object is TP activity of MNEs, called “taxpayers” in general Managementtools consist of all regulations and actions by tax authorities to ensure taxpayers tocomply with applicable rules and regulations, for example, related legal provisions,tax examination and audit and other requirements

Therefore, tax management on TP of MNEs can be defined as the ways taxauthorities using all necessary tools of tax management (legal regulations,examination, audit, etc.) in order to ensure the compliance of all taxpayers whohave related party transactions with all tax law regulations on TP

1.2.2 History of tax management of transfer pricing in the world

TP has regulated in domestic laws for more than 100 years The UnitedKingdom first introduced its TP rules in 1915 Two years later, the United Statespublished its regulation on this matter However, TP just gain great concern until

the late 1960s along with the development and expansion of international trade.This matter not only attracts the attention of developed countries but also becomes

an interest of many developing countries in recent years

Many reports and guidelines on TP are published by international andregional organizations, such as OCED and UN model convention, guidelines, EU,Pacific Asia Travel Association guidelines Such publications are the basis forestablishment of domestic regulation on TP in both developed and developingcountries

Many countries have introduced specific domestic tax rules to preventpossible tax base erosion through mispricing of transactions between related parties.This legislation is almost invariably proposed as being in accordance with the ALprinciple The AL principle is generally accepted as the guiding principle forallocating income not only among related entities but also among cross-border units

1.2.3 Factors of tax management of transfer pricing

1.2.3.1 Managing entities

Managing entities are all organizations and people in charge of taxmanagement, consisting of tax authorities, tax officers and other related people andorganizations

Factors related to managing entities have impact on tax management of TPinclude: Responsibility and power of managing entities, coordination betweenmanaging entities and knowledge and qualification of people working for managingentities

1.2.3.2 Managed objects

Managed object in tax management of TP is TP activities or, in other words,transactions between related entities of MNEs with transfer prices different fromprices of similar uncontrolled transactions

Factor related to managed objects which have impact on tax management of

TP includes related party definition

1.2.3.3 Management tools

The main management tools needed to be implemented by tax authoritiesranging from tax registration, management of information about taxpayers, taxdeclaration, tax payment to tax examination and audit as well as dealing withbreaches of the law on tax

To implement such contents, managing entities need to use necessary tools ofmanagement Regarding TP activities, factors related to tools of management haveimpact on tax management consist of: Legal legislation (including regulations ondocumentation requirements, safe habour rules, penalties); tax examination andaudit (consisting of procedures and practical implementation); internationalcooperation on TP management through agreements and arrangements

There are several solutions to deal with tax issues relating to TP bynegotiations

Advance pricing agreements

Recently, multinational businesses have often depended on Advance PricingAgreements (APAs) (or “Advance Pricing Arrangements”, as some countriesprefer) with tax authorities, especially in the framework of the Mutual AgreementProcedure These APAs are so named because pricing methodologies are agreed inadvance in relation to certain types of transactions, often called the “coveredtransactions” APAs provide greater certainty for the taxpayer on the taxation ofcertain cross-border transactions and are considered by the taxpayers as the safestway to avoid double taxation, especially where they are bilateral or multilateral

Many countries have introduced APA procedures in their domestic laws thoughhaving different legal forms For example, in certain countries an APA may be alegally binding engagement between taxpayers and tax authorities, while in othercountries it may be a more informal arrangement between the tax authorities and thetaxpayer.

Safe Habour Rules

Safe harbour rules are rules whereby if a taxpayer’s reported profits are below

a threshold amount, be it as a percentage or in absolute terms, a simpler mechanism

to establish tax obligations can be relied upon by a taxpayer as an alternative to amore complex and burdensome rule, such as applying the TP methodologies Thereare other types of simplified mechanism for TP that the countries concerned alsocategorize as safe harbours

Safe harbour rules can be an attractive option for developing countries, mainlybecause they can provide predictability and ease of administration of the TP regime

by a simplified method of establishing taxable profit Supporters of this type of rulepoint to the advantage of low compliance costs and certainty for taxpayers, as well

as administrative simplicity for tax authorities

It is often stated that safe harbours allow tax administrations (especially whenthey are just beginning to administer TP laws) to focus their limited resources,including audit resources, on the worst cases of non-arm’s length TP, especiallyhigh-margin transactions

1.3 Experience of Some Countries in Tax Management of Transfer Pricing

principle to determine whether a controlled transaction complies with the laws ornot China is a big country with sophisticated economical activities However, theyhave achieved several great results in TP management.

The Chinese tax administration has been exploring ways to improve TPadministration ever since China introduced a TP tax regime in 1991 Significantdevelopments have been seen in the past two decades by some following efforts.Firstly, China has established a relatively sound legal framework composed of TPlegislation and specific rules In addition, China has intensified efforts in TP auditsand has built a centralized review system under which TP audit cases can only beapproved by the national expert panel Furthermore, China has continued to developthe MAP mechanism and APA program Together with that, China has installed amonitoring system that tracks the profits of all the MNEs in China and this countryhas been committed to developing a TP professional team to handle all possibleissues arising

In China’s experience, MNEs have often implemented group TP policies thatare sensitive to developed countries’ TP regulations and nuances, but neglect toconsider whether the AL principle has been applied properly in developingcountries China has implemented several practical solutions that are appropriatewith its unique economic and geographic factors to overcome TP issues Suchsolutions consist of regulations in legal documents and guideline on set-up andaction of tax authorities

While the early focus of TP investigations was mostly on tangible goodstransactions, China has expanded its attention to various ranges of transactions,including transactions involving intangibles and services As a developing country,China faces a number of difficult obstacles, which include lack of appropriatecomparables, quantification and allocation of location-specific advantages, andidentification and valuation of intangibles For location savings, the SAT officialshave raised the point in competent authority discussions that more profits should beattributed to China due to the efficiencies and lower cost of its labour force, and

more broadly, advantages specific to China including those resulting fromGovernment policies For country premium, the SAT officials argue that a profitpremium for companies catering to the China market, for example, companygenerating a majority of their profits in China, should be taxed in China and arediscussing approaches to reasonably quantify such premium For intangibles, theSAT requests that the contribution of each related party to the value creation of theintangible assets should be considered to determine the economic benefits that eachparty is entitled to Outbound payments: According to the SAT Public Notice No.

16 issued on 18 March 2015, outbound payments to overseas related parties shouldsatisfy the arm’s-length principle and the authenticity test It specifies variouscircumstances where payments, service fees or royalties paid to overseas relatedparties would not be deductible for CIT purposes For audit and review, China doesnot allow consolidation of CIT returns for MNEs An MNE with subsidiarieslocated in various parts of China may, therefore, be subject to multiple TP audits or

in some cases, the so-called national TP audit orchestrated by the SAT A nationalgroup of elite TP specialists is being formed to review and approve all TP auditcases in China The group will be formed from the most experienced TP auditorsfrom around China at all levels including city, county, provincial and national TheSAT is also considering bringing in additional economists or analysts to handlehigh-profile/important cases such as those in the automotive industry, whichcurrently may be considered the most high-profile industry in China In addition,out of two main broad methods of determining AL price, China uses the “otherappropriate method” to make adjustments in particular cases

Further achievements of Chinese tax authorities are presented in the followingpoints

Establishment of sound legal framework

In china, there are three levels of legislation on TP The highest level isrepresented by the CIT law which was enacted on 16 March 2007 by NationalPeople’s Congress and came into force on 1 January 2008 Chapter 6 of this law

shows that the guiding principle for transactions between related entities is the ALprinciple, which enables the Chinese tax authorities to make adjustments ontaxpayers’ taxable income if their transactions not in accordance with the ALprinciple The detailed implementation regulation of CIT law is promulgated on 6December 2007, not only expands on various concepts in CIT law, but also imposescontemporaneous TP documentation requirements and a special interest levy Thethird level of tax legislation on TP in China is Bulletin No.42 dated 29 June 2016,which requires MNEs to invest more resources to meet the requirements oncontemporaneous documentation and reports.

Application of centralized approval system to ensure consistency and standardization

To avoid inconsistency in finding comparables and determining differentprofit levels for similar cases, the State Administration of Taxation has used anational anti-avoidance system Under such system, from 2015 onward, all taxauthorities must report and obtain approval from the SAT headquarters when theyneed to build or close a TP or other anti-avoidance case This helps to standardizeaudit procedures, avoid interference from local governments and enhancecooperation between state and local tax bureaus

In 2012, the SAT has introduced the “Internal Approval Procedures forSubstantial Special Tax Adjustment cases (trial version) Four years later, it releasedthe Internal Procedures for Special Tax Adjustment, in which further clarification ofthe roles and responsibilities of tax authorities at different level This not onlyenables tax authorities of different areas to work consistently with each other, butalso protect them from risks in enforcing the law by the internal control system insuch Internal Procedures

Conclusion of APA Program and MAP Process

China has solutions to eliminate double taxation resulting from TP audits byoperating an MAP Process and provide certainty for cross-border taxpayers byputting in place an APA Program From the first bilateral APA with Japan in 2005,

by the end of 2015, China has concluded 51 bilateral APAs and 44 MAP agreementwith seven countries (UN, 2017) Controversial issues related to concepts such aslocation savings, market premiums have been presented and discussed duringnumerous bilateral negotiations The SAT started to release APA Annual Reports in

2010, till now six annual reports have been publicized This provides taxpayers withguiding information and informs other enterprises and countries of Chinese policyand regulation Further, APA Program helps to save resources of both taxauthorities and taxpayers by avoiding several issues arising related to TP

Participation in the OECD Convention on Mutual Administrative Assistance

2017 From time of implementation, there are more than 100 countries able toexchange tax information with Chinese tax authorities As of 22 June of 2017,China has signed the Country-by-Country Multilateral Competent AuthorityAgreement with 63 countries, including India, Canada, United Kingdom, Japan,Korea, Netherlands, in which agreeing to automatic exchange of CbC reports forMNEs Almost countries have drafted and introduced their national regulations onCbC reports In short, information such as in reporting of related party transactionsand contemporaneous documentation, which is required to disclose will be moretransparent In addition to that, the exchange tax information between tax authorities

of different jurisdictions will be more extensive and efficient This will empowerthe Chinese tax authorities to exert more control than before over taxpayers’information for the purposes of determination of targets for tax audits andparticipate more actively in global anti-tax avoidance action

1.3.2 India

The regulations of TP, which are based on the AL principle, came into effectfrom 1 April 2001 The regulations provide that any income arising from aninternational transaction between associated enterprises shall be computed havingregard to the AL price The authority mainly responsible for TP management inIndia is Directorate of Transfer Pricing, which was established in 2004 Since then,the numbers of cases being referred for tax audit are increasing annually TheDirectorate cooperates with the National Academy of Direct Taxes in trainingofficials of TP They have been conducting specialized training for officer,including organizing seminars and conferences for sharing experience

Indian regulations introduce a wide range of issues related to TP, such asAPAs, safe habour rules, tax examination and audit procedures

Determination of arm’s length price

According to the Indian regulation, the AL price shall be determined by any ofthe prescribed methods There are five common methods, consisting of ComparableUncontrolled Price Method, Resale Price Method, Cost Plus Method, TransactionalNet Margin Method, the Profit Split Method and a residual method named “anyother method” appropriate used in India to determine the AL price There is nomethod with priority, the “most appropriate method” shall be chosen if it providesthe most reliable measure of an AL result under certain circumstances In casesthere are more than one results in price determined, AL price shall be taken to be atarithmetic mean of such prices If the variation between the arithmetic mean ofuncontrolled prices and the pricing of the international transaction under reviewdoes not exceed 3 per cent or other notified percentage of such TP, then transferprice will be considered to be at AL In case a transfer price crosses the tolerancelimit, the adjustment is made from the central point determined on the basis of thearithmetic mean Indian TP regulations do not mandate use of the interquartilerange

Advance pricing agreements

Generally, APA is an effective mechanism for reducing prolonged TPlitigation The Indian government introduced APA in 2012, and regulated rollbackprovision in the Finance Act 2014 Under Indian law, an APA can potential toprovide certainty to taxpayers up to 9 years, in which a maximum of 5 years ofagreed period of APA and 4 years immediately preceding the first year for whichsuch APA is agreed The law regulates some conditions for applying rollbackprovision

As of October 2016, there are total of more than 700 APA applications filled

in India, in which 108 APAs are concluded The concluded APAs pertain to variousindustry sectors like telecom, media, automobiles, IT services, pharma It isunderstood that recently, APAs have been concluded for banking, informationtechnology and manufacturing industries The APAs have addressed internationaltransactions like provision of services contract manufacturing, interest payments,corporate guarantees, service charges, royalty payments, transactions of Indianheadquartered MNE with overseas subsidiaries

Implementing BEPS Action Plans

The OECD, along with G20 countries, launched the BEPS Project inSeptember 2013 to curb aggressive tax planning by MNEs through intra-grouptransactions Being a part of the G20, India has been an active participant in theBEPS Project and committed to align the Indian TP Regulations with BEPS projectrecommendations

While the guidelines of Action Plan 13 of the BEPS project are already beingincorporated into the Indian TP Regulations, Action Plans 8-10 are likely to findtheir way in Indian TP Regulations in near future Indian courts/tax authorities arealready relying on the relevant principles under the Action Plans, while decidinglitigation

After 15 years from its first introduction in 2001, the TP regime is maturingwith tax authorities and MNEs finding middle ground of resolving disputes bycollaboration rather than confrontation which breed a stable tax environment This

welcome change would prove greatly beneficial to international businesscommunity which see a large opportunity in the growing Indian economy.

Strengthening Of Dispute Resolution Process

Dispute Resolution Panel was first set up in 2009, when it was welcomed as astep towards facilitating expeditious resolution to TP litigation However, the Panelfailed to achieve its desired objective completely

Further, vide an amendment in 2012, tax authorities were allowed to appealbefore the Appellate Tribunal against the directions of the Panel This defeated thevery purpose of setting up DRP for speedy disposal of disputes Accordingly, inorder to revamp the process of Dispute Resolution, Indian Government has recentlyappointed dedicated Commissioners of Income-tax on the DRP Further, vide anamendment in the 2016 Union Budget, order passed by the Panel are no longerappealable by tax authorities This is definitely a move in the right direction,however a lot more needs to be done to sharpen Dispute Resolution mechanism sothat it achieves its stated objectives

Dealing with Intangibles

The Indian tax administration has noticed serious difficulties in determiningthe rate of royalty charged for the use of brands and trademarks in certain cases Insome cases the user had borne significant costs in promoting the brand/trademark,and to promote and develop customer loyalty for the brand/trademark in a newmarket In these cases, the royalty rate charged by the MNE will depend upon thecost borne by the subsidiary or related party to promote the brand and trademarkand to develop customer loyalty for that brand and product In many cases noroyalty may be charged by, for example, the local subsidiary in the uncontrolledenvironment and the subsidiary would require AL compensation for economicownership of marketing intangible developed by it and for enhancing the value ofthe brand and trademark owned by parent MNEs in an emerging market such asIndia

In many cases, Indian subsidiaries using the technical know-how of their

parent company have incurred significant expenditure to customize such know-howand to enhance its value by their R&D efforts Costs of activities, such as R&Dactivities which have contributed in enhancing the value of the know-how owned bythe parent company, are generally considered by the Indian TP officer whiledetermining the AL price of royalties for the use of technical know-how.

The Indian TP administration has also noted significant TP issues in cases ofco-branding of a new foreign brand owned by the parent MNE (a brand which isunknown to a new market such as India) with a popular Indian brand name Sincethe Indian subsidiary has developed valuable Indian brands in the domestic marketover a period of time, incurring very large expenditure on advertisement, marketingand sales promotion, it should be entitled to AL remuneration for contributing toincreasing the value of the little known foreign brand through co-branding it with apopular Indian brand and therefore increasing market recognition

Handling Financial Transactions

The Indian TP administration has come across cases of outbound loantransactions where the Indian parent has advanced to its associated entities in aforeign jurisdiction either interest free loans or loans at LIBOR (London InterbankOffered Rate) or EURIBOR (Euro Interbank Offered Rate) The main issue beforethe TP administration is benchmarking of these loan transactions to arrive at theALP of the rates of interest applicable on these loans The Indian TP administrationhas determined that since the loans are advanced from India and Indian currency hasbeen subsequently converted into the currency of the geographic location of the AE,the Prime Lending Rate (PLR) of the Indian banks should be applied as the externalCUP and not the LIBOR or EURIBOR rate

A further issue in financial transactions is credit guarantee fees With theincrease in outbound investments, the Indian TP administration has come acrosscases of corporate guarantees extended by Indian parents to its associated entitiesabroad, where the Indian parent as guarantor agrees to pay the entire amount due

on a loan instrument on default by the borrower The guarantee helps an associated