I-T revokes circular on transfer pricing-Clarifies 'profit-split' will not be only method to compute tax

Relief to Tech Firms

The income-tax department on Saturday revoked its recent circular (issued on March 26^th 2013 circular no 2) on adoption of profit-split method as a preferred mode for computing tax liability on multinational companies’ development centers in India. It also clarified that another circular (issued on March 26^th 2013 circular no 3), relating to the parameters defining R&D centers, would be suitably modified.

Now the Circular no 2 dated 26^th March 2013 has been rescinded and Circular no 3 dated 26^th march 2013 replaced with Circular no 6 dated June 29^th 2013 loosen the norms.

Circular no 2  was on application of profit-split method for transfer pricing, while the Circular no 3 was for identifying development centers engaged in contract R&D services with insignificant risk.

According to the profit-split method, part of parent company’s profit is taken into account while computing the tax liability of its centers. This would have meant a significant jump in tax demand on research & development centers of foreign companies operating in India.

Circular no 3 issued by tax authority listed five conditions to decide whether or not a development centre was a contract R&D service provider with insignificant risk. According to the earlier circular, the profit-split method would not be applicable on entities that qualified the five parameters under the definition of contract R&D service provider with insignificant risk. “However, it was very difficult for companies to meet all the parameters.”

So far as circular 2 is concerned, the department said, since it was giving an impression that “there was a hierarchy among the six methods” of transfer pricing and that the profit-split was the preferred one, it has “rescind” the circular and amended the circular 3.

A panel formed by the government under former CBDT chairman N Rangachary to resolve these issues had in September last year given its report on ‘Taxation of Development Centers and IT Sector’. These and a few other circulars were based on the panel’s report.

Taking cognizance of this, the government said “the use of the phrase ‘cumulatively complied with’ was perhaps too restrictive”. It has also proposed to define and elaborate on phrases like ‘economically significant functions’ and ‘low or no tax jurisdiction’ to make the definition clear.

Profit Split Method

Profit-split The method, under which part of a parent company’s profit is taken into account while computing the tax liability of its centers, will not be the only way of computing tax liability in case of MNCs’ R&D units in India

Read:
Press Release
Amending Circular 3 dated March 26th 2013
Withdrawal of Circular No 2 dated march 26th 2013