India has been one of the pioneers and major contributors of the OECD BEPS initiative and is actively pursuing the BEPS agenda. India introduced some proposals to adopt OECD BEPS recommendations as part of the proposals in the recently announced Union Budget 2016–17. Perhaps the most significant change is incorporation of the concepts of master file and country-by-country reporting in the Indian transfer pricing regulations as of 1 April 2016.
India, as one of the pioneers and major contributors of the BEPS initiative of the OECD and G-20 countries, introduced a few of the BEPS Action Plans as part of the proposals in the recently announced Union Budget 2016–17. The major one has been the introduction of master file and country-by-country reporting in the Indian transfer pricing regulations, with effect from the fiscal year beginning, 1 April 2016, in line with BEPS Action 13.The master file and country-by-country reporting requirements predominantly enforce the principle under BEPS Actions 8 to 10 on transfer pricing that the risks in, and value drivers of, business operations and their related rewards are closely associated with strategic functions or ‘substance’.Thus they cannot be disassociated from each other merely through formal intercompany agreements between associated enterprises.
To ensure adherence to these principles, Chapter V of the OECD transfer pricing guidelines was re-written under the BEPS project to provide for more robust documentation and disclosure mechanisms. The goal is to provide tax administrators worldwide with the data they need to monitor whether risks, rewards and value align with substance and selectively identify cases for transfer pricing audits based on risk assessment.
Action 13 provided for three tiers of transfer documentation, namely, the master file, the local file, and the country-by-country report. Most countries with transfer pricing regulations, including India, already require ‘local file’-type documentation from local entities on their transactions with foreign related parties. The master file and country-by-country reporting are new obligations.
The master file is expected to provide an overview of an multinational group’s global business model, specifically covering:
The guidelines ask taxpayers to use prudent judgment in determining the level of detail for master file information, keeping in mind the objective of providing tax administrators with a high-level overview of the multinational company group’s global operations and policies.
Country-by-country reporting requires data about the functions performed, assets owned, personnel employed, revenue generated, profits earned, taxes paid, capital structure, retained earnings, and other information about each entity of the multinational group located in different countries. Thus, country-by-country reporting is the platform to vindicate the veracity of the blueprint provided in the master file. For tax administrators, the country-by-country report would highlight any possible mismatch between the level of profits or revenues residing in, or intangibles owned by, a group entity, along with the functions carried out by, or capital infused in, that entity.
The revised OECD transfer pricing guidelines provide that the master file would need to be filed by each entity of the multinational company group with the tax administrator of the respective country, at the time of audit, in addition to the local transfer pricing documentation. Country-by-country reporting would be prepared by the group’s ultimate parent company and filed with the tax administrator of its country, who would in turn share the report with the tax administrators of other countries in which the group has subsidiaries or permanent establishments. The OECD transfer pricing guidelines do not mandate which entity of the multinational company group should prepare the master file. However, since country-by-country reporting is the obligation of the ultimate parent of the multinational group, the master file should also be prepared by the ultimate parent. From an efficiency standpoint, the same entity is best suited to prepare the two complementary documents, and only the ultimate parent can have a comprehensive view of all various business lines within the group.
BEPS Action13 provides for a minimum threshold of consolidated annual turnover of 750 million euros (EUR) for multinational groups to be obliged to comply with country-by-country reporting, which the Indian government also seeks to follow. BEPS Action 13 does not set a threshold for master file reporting. Whether the Indian Revenue Board prescribes any monetary threshold in this regard remains to be seen. If not, small taxpayers may be saddled with an unneeded extra compliance burden.
In line with BEPS Action 13, the recent Union Budget 2016–17 proposes that every Indian entity that is a subsidiary or permanent establishment of a foreign parented or headquartered multinational company group shall disclose the name and country of residence of its ultimate parent entity to the Indian tax authorities. The Indian authorities would then obtain the group’s country-by-country report from the tax authorities of the parent’s company of residence under a mutual exchange of information arrangement.
As these requirements take effect as of 1 April 2016, Indian parents of multinational groups should carry out clinical analyses of their businesses at the earliest opportunity. These reviews should aim to identify any exposures due to mismatches between risks, rewards and functions, and any needed corrective measures across their supply chains.
Beyond the compliance challenges, Indian multinational companies should view the new disclosure requirements as an chance to revisit their supply chain models and identify opportunities to create value through efficiencies and synergies. Further, the in-depth analyses of the organizational and operational structures required by master file and country-by-country reporting could also help Indian multinational companies to identify and mitigate any possible exposures for their foreign subsidiary companies under the new regulations on the place of effective management.
The Union Budget 2016–17 also proposed to introduce an ‘equalization levy’ at the rate of 6 percent on cross-border payments for online advertisement services, where the non-resident service provider does not have a permanent establishment in India. This levy is in line with BEPS Action 1, dealing with taxation challenges for digital economy.
Such income is undoubtedly ‘business income’ for the non-resident company, which, in the absence of a permanent establishment, cannot be taxed in the host jurisdiction (in this case, India). The Union Budget 2016–17 has attempted to implement the treaty override indirectly, essentially by framing the levy as a transaction tax.
However, unless India’s tax treaties are amended, any attempt to levy tax on such income under the Indian domestic tax law by expressly stating that levy of such tax would not be obstructed by any tax treaty, would be a direct attempt by the Indian government to override tax treaties through legislation in domestic tax laws. Such a unilateral treaty override would not only draw international criticism but it may also be unconstitutional. As a result, the Union government is expected to review this measure in detail before enactment of the Finance Bill, 2016, to ensure any equalization levy that is introduced is in line with India’s constitution.