F No. 500/139/2012
Government of India
Ministry of Finance
Department of Revenue
Central Board of Direct Taxes
(Foreign Tax and Tax Research-I Division)
New Delhi, the 29th June, 2013
Circular No.06 /2013
(amending Circular No.03/2013 dated 26th March,2013)
contract R&D services with insignificant risk
It has been brought to the notice of CBDT that there is divergence of views amongst the field
officers and taxpayers regarding the functional profile of development centres engaged in
contract R&D services for the purposes of determining arm’s length price/transfer pricing. In
some cases, while taxpayers insist that they are contract R&D service providers with
insignificant risk, the TPOs treat them as full or significant risk-bearing entities and make
transfer pricing adjustments accordingly. The issue has been examined in the CBDT.
The Research and Development Centres set up by foreign companies can be classified into
three broad categories based on functions, assets and risk assumed by the centre
established in India. These are:
1. Centres which are entrepreneurial in nature;
2. Centres which are based on cost-sharing arrangements; and
3. Centres which undertake contract research and development.
them based on functions, assets and risk. It will be obvious that in the first case the
Development Centre performs significantly important functions and assumes substantial
risks. In the third case, it will be obvious that the functions, assets and risk are minimal. The
second case falls between the first and the third cases.
More often than not, the assessee claims that the Development Centre in India must be
treated as a contract R&D service provider with insignificant risk. Consequently, the assessee claims that in such cases the Transactional Net Margin Method (TNMM) must be
adopted as the most appropriate method.
The CBDT has carefully considered the matter and lays down the following guidelines for
identifying the Development Centre as a contract R&D service provider with insignificant risk.
1. Foreign principal performs most of the economically significant functions involved in
research or product development cycle either through its own employees or through
its associated enterprises while the Indian Development Centre carries out the work
assigned to it by the foreign principal. Economically significant functions would
include critical functions such as conceptualization and design of the product and
providing the strategic direction and framework;
2. The foreign principal or its associated enterprise(s) provides funds/ capital and other
economically significant assets including intangibles for research or product
development. The foreign principal or its associated enterprise(s) also provides a
remuneration to the Indian Development Centre for the work carried out by the latter;
3. The Indian Development Centre works under the direct supervision of the foreign
principal or its associated enterprise which has not only the capability to control or
supervise but also actually controls or supervises research or product development
through its strategic decisions to perform core functions as well as monitor activities
on regular basis;
4. The Indian Development Centre does not assume or has no economically significant
realized risks. If a contract shows that the foreign principal is obligated to control the
risk but the conduct shows that the Indian Development Centre is doing so, then the
contractual terms are not the final determinant of actual activities;
5. In the case of a foreign principal being located in a country/ territory widely perceived
as a low or no tax jurisdiction, it will be presumed that the foreign principal is not
controlling the risk. However, the Indian Development Centre may rebut this
presumption to the satisfaction of the revenue authorities. Low tax jurisdiction shall
mean any country or territory notified in this behalf under section 94A of the Act or
any other country or territory that may be notified for the purpose of Chapter X of the
Act;
6. Indian Development Centre has no ownership right (legal or economic) on the
outcome of the research which vests with the foreign principal and that this is evident
from the contract as well as from the conduct of the parties.
The Assessing Officer or the Transfer Pricing Officer, as the case may be, shall have regard
to the guidelines above and shall take a decision based on the totality of the facts and
circumstances of the case. In doing so, the Assessing Officer or the Transfer Pricing Officer,
as the case may be, shall be guided by the conduct of the parties and not merely by the
terms of the contract.
The Assessing Officer or the Transfer Pricing Officer, as the case may be, shall bear in mind
the provisions of section 92C of the Act and Rule 10A to Rule 10C of the Rules. He shall
also apply the guidelines enumerated above and select the ‘most appropriate method’.
The above may be brought to the notice of all concerned
(Batsala Jha Yadav)
Director to the Government of India
Central Board of Direct Taxes
Copy to:1. The Chairperson, Members and all other officers of the CBDT of the rank of Under
Secretary and above.
2. All Chief Commissioners/Directors General of Income-tax.
3. The Director (PR, PP & OL), Mayur Bhawan, New Delhi for printing in the quarterly tax
bulletin and for circulation as per usual mailing list (100 Copies).
4. The Comptroller and Auditor General of India (40 copies).
5. All Directors of Income-tax, New Delhi
6. The Director General of Income-tax, NADT, Nagpur
7. Guard File.
8. Joint Secretary and Legal Advisor, Ministry of Law and Justice, New Delhi
9. The Institute of Chartered Accountants of India, IP Estate, New Delhi
(Batsala Jha Yadav)
Director to the Government of India
Central Board of Direct Taxes
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