INTERNATIONAL TAXATION

THE following areas are discussed under International Taxation

1- DTAA
A)Outline on DTAA
B) Resident –resident conflict---Art 5 of the DTAA
C) Resident Source conflict-----Art6-22 0f the Dtaa
D)Relief under Dtaa
E) Withholding of tax under data
2-avoidance of tax
a)treaty shopping
b)transfer pricing
i) cup method
ii)cpm method
iii)TNMM METHOD
iv)Resale Price metho
v)Cost split method
c)thin capitilisation
3) preventive measures for avoiding tax
a)Limitation of benefit
b)bright line method
c)advance ruling
d) GAAR,General Anti Avoidance Rule
1-1)CONTENTS of the DTAA- As we have a format for drafting
deeds, plaint, there is format for drafting DTAA. The format are given
by OECD AND UNO. A brief about the content of the format is given
hereunder
SUMMARY OF THE CONVENTION TITLE AND PREAMBLE CHAPTER I Scope of
the Convention Art. 1 Persons Covered Art. 2 Taxes covered

CHAPTER II Definitions Art. 3 General definitions Art. 4 Resident Art. 5

Permanent establishment CHAPTER III Taxation of income9art6-22)

CHAPTER V Methods for elimination of double taxation Art. 23 A Exemption

method Art. 23 B Credit method

CHAPTER VI Special provisions Art. 24 Non-discrimination Art. 25 Mutual

agreement procedure Art. 26 Exchange of information Art. 27 Assistance in the
collection of taxes Art. 28 Members of diplomatic missions and consular posts
Art. 29 Territorial extension

1-DTAA
a)resident resident ---conflict
b)resident—source ---conflict

JURISDICTION

1) Conflicts---RESIDENT-RESIDENT CONFLICT—
RELATED WITH Sec5 and 6 of the Income Tax Act—Art3 of the
OECD DTAA
2)RESIDENT –SOURCE CONFLICT—Related with sec9
of the Income Tax Act.-Art 6-22 of the OECD DTAA
 INCOME ARISE WITHIN INDIA

Resident -RESIDENT CONFLICT

Tie - Breaker Rule

PERMANENT HOME

CENTRE OF VITAL INTEREST

HABITUAL ABODE

NATIONALITY

MUTUAL AGREED PROCEDURE(MAM)

1-2 One of the important issues in International taxation is double taxation. When
two countries have a claim on taxing on the same subject matter, it is called as
Double taxation. This happens when assesse is resident in two countries or he is
resident in one country and his source of income is in another country. If he is
resident in two countries ,the double taxation is due to RESIDENT-RESIDENT
CONFLICT ,and if it is due to resident in a country and source in another country,
it is called as RESIDENT-SOURCE CONFLICT.

THERE ARE three provisions in the Income tax Act for avoiding double
taxation. They are SEC90,90A AND 91 .

Sec90 empowers the Central Govt to enter into agreement with other countries for
avoiding double taxation. This agreement is bilateral and it is called as Double
taxation avoidance agreement.(DTAA) There are two important models for
drafting the DTAA. They are the OECD MODEL AND THE UN MODEL. Most
of the countries follow the OECD MODEL.
 There Art 3 deals with dual taxation due to resident resident conflict. Art
5-22 deal with dual taxation due to resident source rule.

1-2-1Resident Resident Conflict

Here an example is given regarding resident resident conflict. Sania Mirza married
the cricket player SHOAIB MALIK .Let us assume that there is an agreement
between them by which Sania is to stay in India for 182 days and stay Pakistan for
182 days. So she will be the resident of India and Pakistan for the purpose of
Income tax. Both the countries can levy tax on global basis. That is for all the
income inside and outside India she is liable pay tax in India as well as Pakistan.
The DTAA gives a solution to solve this issue. The solution is called as tiebreaker
rule. It is given in Art3 of the DTAA. According to this rule by applying various
guidelines it can be decided in which country her resident can be fixed’

Test one is to find out in which country they have permanent home .Then she is
the resident of that country.

If she is having permanent home in both the countries, then the next test to find
out in which country she is having vital interest CVI. Then she will be the resident
of the country in which she is having vital interest.

If she is having centre of vital interest in both the countries, the next test is in
which country she is having habitual abode. Then she will be the resident of that
country.

If she is having habitual abode in both the countries, then the next test is to look
into her nationality. Then she is the resident of the country whose nationality she
has.

If she has the nationality of both the nations , then it is to be decided by the
concerned authority of the states by mutually agreed procedure.( MAP ) Mutual
Agreed Procedure is given in Art25 of the DTAA.This is the guideline given
under the DTAA. Hence it gives a solution for the conflict.
 1-2-3 Resident source conflict

ASSUME THAT SHE IS A NON RESIDENT OF INDIA BY STAYING IN PAKISTAN

FOR 183 DAYS
THEN HER INCOME IN INDIA WILL BE SUBJECT TO TAXATION IN INDIA ON
SOURCE(ORIGIN OF THE INCOME IS INDIA ALSO INDIAN GOVT GIVES
PROTECTION FOR THE SOURCE OF THE INCOME) BASIS AND PAK ON
REIDENT BASIS

THIS IS CALLED AS RESIDENT –SOURCE CONFLICT

NOW INDIA AND PAK HAS DTAA

DTAA IS TO GUIDE WHETEHR her income IS TO BE TAXED IN
INDIA OR NOT
1-2-3-1COMPARISON WITH SEC9 OF THE INCOME TAX ACT

SEC9 OF THE INCOME TAX ACTS DEALS ABOUT THE

TAXABILITY OF THE SOURCE BASED INCOME IN INDIA.
THAT IS EVENTHOUGH A PERSON IS THE NONRESIDENT OF
INDIA HE IS LIABLE TO BE TAXED IN INDIA IF HIS INCOME
HAS ARISEN IN INDIA. That is the nonresident’s income has some
connection in India. This connection is the primary criteria under the
Income tax Act to deicde whether the income has arisen in
India.Different connections can be understood under sec9.
For eg business connection-- where if permanent establisment is in
India
or property CONNECTION where property is located in India which is
a cause for the income ,it can be deemed that the source of the income
is India.
But when Snia mirza is the resident of Pakistan, she is to pay income tax
in Pakistan for the income from India on global basis. This issue of
paying tax in India and Pakistan is to be resolved. Art4-22 of the DTAA
GIVES SOLUtion for this . It classifies the income into various types and
for each types it gives the guideline whetehr it is to be taxed in the source
country or resident country’
For eg
 Art6 while dealing about immovale property is concerned, it says that the
income arising from immovable property is to be taxed in the country
where immovable property is located. Thus DTAA GIVES SOLUTION to
AVOID double taxation.SO if the immovable property is in India ,it is to
be taxed in India.
CASE LAW FOR ART-6
[DCIT v. Shah Rukh Khan [2018] 93 taxmann.com 320 (Mumbai - Trib.)]
SINCE SHARUKHANS IMMOVBLE PROPERTY IS IN DUBAI,the income from the
property can be TAXED IN THE COUNTRY WHERE THE PROPERTY IS
LOCATED
The assesse, Mr. Shah Rukh Khan, had received a villa at Dubai as gift and offered an
amount of Rs. 14 lakhs as the notional income of the villa for tax in his return of
income for the year under consideration. During the course of assessment
proceedings, assessee claimed that Article 6 of India-UAE tax treaty doesn’t expressly
recognize the right of the resident State to tax the income from immovable property
situated in the source State. Therefore, the notional income of the villa owned by him
in Dubai could not be subjected to tax in India.
The ITAT held that claim raised by the assesse being clearly backed up by a bonafide
belief on his part that the notional income of the villa was not liable to be taxed in
India, no penalty for concealment of income could be validly imposed on the
assessee.

Art 7- while dealing about business profits,it says that it can be taxed in a
country if there is a permanet establisment for the business of the non
resident ( Sania). If there is no permanent establishment, it will be taxed
in the countrry where she is the resident. Thus it gives a solution

ART8 -WHILE THERE IS A SHIPPING BUSINESS , IT WILL BE

TAXED IN THE COUNTRY where the Place of Effective Management is
there(Poem) .
Art10 says that dividend is to be taxed in the resident country.That is if
dividend is given from India since she is the resident of Pakistan , it is to
be taxed in Pakistan.
ART11 SAYS That if the income is due to the payement of interest , it is to
be taxed in the resident country. That is if Sania gets interest income
from India ,since she is the resident of Pakistan, it is to be taxed in
Pakistan.
So the DTAA BY FIXING THAT EITHER IT IS TO BE TAXED IN
SOURCE country or resident country, puts an end to the conflict
 NOTE-1--Usually when the income is passive
income(dividend,interest,royalty) power to levy is given to the resident
country.

NOTE-2-COMPARISON of DTAA WITH SEC9 OF THE INCOME

TAX

SEC9 DEALS WITH WHEN THE INCOME DEEM TO ACCRUE OR

ARISE IN INDIA. IF IT ARISES IN INDIA WHETHER IT ARISES FOR
RESIDENT OR NON RESIDENT
IT IS TAXABLE IN INDIA(SEC5)

9i—property---if the property is located in India ,income from the

property is deemed to accrue or arise in India whetehr to the resident
or nonresident. So taxable in India.(how to collect from the non-
resident, the payer of the icome from property in India is to withhold
or TDS)the same income is taxable in the country where non resident
in India is the resident, eg Sania mirza ( she is to pay tax in Pakistan
as well as in India this is( resident-source conflict)
9i—business income— if the business has business connection in
India ,it is deemed to accrue or arise in India . ie permanent
establishent or significant economic presence in India)(HOW TO
COLLECT from nonresident withhold) the same income is taxable in
the country where nonresident of India is the resident(resident-source
conflict)
9ii---salary –if salary is earned in India, it is deemed to have accrued
or arisen in India so taxable in india(withold)( he may be a resident
of another country.he woud have come to india and worked for
months creates residence –source—conflict)
9iii-dividend paid by an Indian company outside India to a resident
or non resident deemedto accrue or arise in India so taxable in
india. It will be claimed in the resident country also.So residence
source conflict (under DTAA DIVIDEND paid taxable in the resident
country
9iv interest
Paid by the govt to a resident or non resident deemed to accrue or
arise in India(so taxable in india)
Paid by resident of India to a resident or nonresident for a purpose
other than business out side India , deemed to accrue or arise in
India
Paid by non resident to a resident or nonresident for a business
within India

1-2-4 TAX RELIEF UNDER DTAA

NOT only that power to levy tax (jurisdiction) is solved by Dtaa, but also
tax relief is given under DTAA.If tax is to be paid in two countries , the
resident country can give relief by way of EXEMPTION METHOD OR
CREDIT METHOD
 Primirarily there are two methods to avoid the double taxation, the exemption method and
credit method.
 1-24-1EXEMPTION METHOD: Under this method income taxed in the source
country is exempted from taxation in the Resident Country. Here the income is not at
all considered for the purpose of tax calculation by the Resident Country while
calculating the tax on the rest of the income.
  The exemption method offers full and complete protection from being taxed
twice. That is, if an income earned outside India has been taxed in the
relevant foreign country, it is not subject to tax in India

 A HAS INCOME from INDIA AND PAKISTAN.

 Say Pakistan 1 crore. India 2croes. Resident country(INDIA) gives full exemption
for the income from the source country. So India won’t levy tax for the income
from the source country
The exemption method is common between western countries that do not have a large difference
in their tax rates.. The credit method is common with countries where the tax rate is a bit lower

Countries using the exemption method reserve this mainly for “active income” such
as business profits (through permanent establishments) and employment income,
while they use the credit method for “passive income” such as interest, dividends
and royalties.
1-2-4-2Credit method

The country of residence includes the foreign source income in the

domestic tax base of its residents, and A credit is allowed for the foreign
tax due on such foreign income(that is tax paid in the source country is
reduced)

CREDIT METHOD EXAMPLE

Example: The income foreign sources is Rs5,0000 / and paid Rs1,0000 0n tax
abroad. The India(resident country) tax on income is 13,000. The tax you have paid
abroad is deducted from the Indian tax (1,300 0– 10,000). The assesse must only
pay 3000of taxes in India
EXEMPTION AND CREDIT METHOD IN OECD DTAA
BOTH THESE TYPES OF RELIEFS ARE GIVEN IN ART23A AND 23B OF THE
DTAA OF OECD MODEL

1-2-5ASSISTANCE FOR COLLECTION OF TAX

ART27 OF THE DTAA GIVES PROVISION FOR THE ASSISTANCE
FOR COLLECTION OF TAX. Relying on this the states can withold a
percentage of income for collecting income tax before it leaves to the
assesse of the resident country.
Eg. Suzuki is in Japan. Royalty is to be paid from India for using its
brand name by Maruthi. so Suzuki gets income form India for which
tax must be paid to Japan(source country) . Before crediting the
amount to Suzuki, Maruthi is to deduct the tax amount prescribed and
remit to the tax to the Govt in India. This is called as
WITHHOLDING TAX IN INTERNATIONAL TAXATION.
India fixes a percentage of the income for witholding the tax against
a treaty country .Usually the percentage fixed against treaty countries
will be lesser than the percentage fixed normally. This is for the
purpose of cooperation and attracting investment. A few examples
are given given below.
1-2-5-1WITHHOLDING TAXSEC195(COLLECTION OF TAX,
A withholding tax,(OTHERWISE CALLED AS RETENTION TAX OR TAX DEDUCTION AT
SOURCE) is an income tax to be paid to the government by the payer of the income rather
than by the recipient of the income. –income arises within India

A SELLS HOUSE TO B. A GETS INCOME. A IS LIABLE TO PAY INCOME TAX. BUT

INSTEATD OF A, B is asked to pay the tax to the government. There is a possibility that A may
escape without payment of tax.

. As per the Income Tax Act, under section 195, it is obligatory for the payer, who is the
person responsible to make a payment, to deduct the tax at the time of payment or at the
time of crediting the payment in the account of the Non-Resident Individual.

Withholding tax is a government requirement for the payer of an item of income to withhold
or deduct tax from the payment, and pay that tax to the government.

T ax rates as per IT Act vis a vis Tax Treaties

Name of Dividend (not Interest Royalty Fee for

Country being covered Technical
under section Services
115-O)
  Tax rate IT Tax rate IT Tax IT Act Tax IT Act
Act Act rate rate
Albania 10% 20% 10% 20% 10% 25% 10% 25%(Note
[Note2] (Note 6) 6)
Armenia 10% 20% 10% 20% 10% 25% 10% 25%(Note
(Note 6) 6)
Australia 15% 20% 15% 20% [Note 25% [Note 25%(Note
 3] (Note 6) 3] 6)
Austria 10% 20% 10% 20% 10% 25% 10% 25%(Note
(Note 6) 6)
Bangladesh 10% (if 20% 10% [Note 20% 10% 25% No separate
at least 2] (Note 6) provision
10% of
the
capital of
the
company
paying
the
dividend
is held by
the
recipient)
Belarus 10% if 20% 10% [Note 20% 15% 25% 15% 25%(Note
paid to a 2] (Note 6) 6)
company
holding
25%
shares;
otherwise
15%
Belgium 15% 20% 15% (10% 20% 10% 25% 10% 25%(Note
if granted (Note 6) 6)
by a bank)

Country-wise / Income Wise Withholding Tax Rate Chart for Financial Year
2020-21
Withholding tax rates

Country Dividend Interest Royalty Fee for

Technical
Services

Albania 10% 10% 10% 10%

[Note1]

Armenia 10% 10% 10% 10%

 [Note1]

Australia 15% 15% 10%/ 10%/15%

15%
[Note 2]
[Note 2]

Austria 10% 10% 10% 10%

[Note1]

Bangladesh a) 10% (if at least 10% of the 10% 10% No separate

capital of the company paying [Note1] provision
the dividend is held by the
recipient company);

b) 15% in all other cases

Belarus a) 10%, if paid to a company 10% 15% 15%

holding 25% shares; [Note1]

b) 15%, in all other cases

1-2-6BENEFICIAL PROVISONS
The power of central govt to have Dtaa is dealt
under sec90 of the Act. When India does not
have Dtaa with any country, then also relief is
given under SEC91 of the Act . While comparing
the relief under DTAA and sec91, if the relief
under sec91 is beneficial to the assesse ,then the
assesse can avail the provisin which one is
beneficial to him.This is given insec90(2) of
theIncome tax Act.
UNILATERAL RELIEF(sec91)
When the relief is given under sec90 by DTAA, it is called as bilateral
relief. In the absence of DTAA ,the relief given under sec91 is called
as UNILATERAL RELIEF.
91. (1) If any person who is resident in India in any previous year proves that, in respect of his
income which accrued or arose during that previous year outside India (and which is not deemed to
accrue or arise in India), he has paid in any country with which there is no agreement under section
90 for the relief or avoidance of double taxation, income-tax, by deduction or otherwise, under the
law in force in that country, he shall be entitled to the deduction from the Indian income-tax payable
by him of a sum calculated on such doubly taxed income at the Indian rate of tax or the rate of tax of
the said country, whichever is the lower, or at the Indian rate of tax if both the rates are equal.

THIS IS HOW RELIEF IS GIVEN UNDER SEC90 AND 91 OF THE ACT

DTAA BY SPECIFIED AUTHORITIES

‘90A. Adoption by Central Government of agreements between specified associations for double

taxation relief.—  (1) Any specified association in India may enter into an agreement with any
specified association in the specified territory outside India and the Central Government may, by
notification in the Official Gazette, make such provisions as may be necessary for adopting and
implementing such agreement—

Explanation 2.— For the purposes of this section, the expressions—

         (a )  "specified association" means any institution, association or body, whether
incorporated or not, functioning under any law for the time being in force in India
or the laws of the specified territory outside India and which may be notified as
such by the Central Government for the purposes of this section;
---------------------------------------------------------------------------------------------------------------
2--
AVOIDANCE OF TAX IN INTERNATIONAL TAXATION
- Tax avoidance is the use of legal methods to minimize the amount of income tax owed by
an individual or a business.

There are many methods where the provisions of law are misused for the purpose of
minimizing the tax. One of the important methods of misusing tax is profit shifting. That is
shifting the profit from the country of high rate of tax to the country of less tax. This is also
called as tax haven. A few methods are discussed hereunder. They are
TREATYSHOPPING,TRANSFER PRICING, PROFIT SHIFTING AND THIN
CAPITALISATION

2-2TREATY SHOPPING

According to the double taxation avoidance agreements, for attaining the benefit of the
DTAA, the assesse must be the resident of any one of the two treaty countries. If a person
who is the non resident of both the treaty countries misuses the DTAA,it is called as treaty
shopping.The non resident may establish shell company in one of the treaty countries and
may enjoy the benefits.

Eg—Assume that A is a England resident. HE IS HAVING shares in a company in India. He

is getting 5crore from the Indian company by way of dividend .He is to pay income tax in
England at 10%. There is DTAA between India and Mauritius . According to that dividend
income from India is taxable in Mauritius. Maruritius levies only 5% .So A starts a shell
company(nil activity)in Maritius and transfers the share in the Indian company to Marutius.
SO THE DIVIDEND is routed to Mauritius. It is a loss to England. Throughout the world
nearly 129 billon dollars are avoided in tax by these methods.

2-2-2Limitation of benefit

In order to pluck these loopholes ,at present, there are many provisions . FOR eg in the
DTAA itself, there can be a provision called LIMITATION OF BENEFIT(lo B)

This would restrict the benefits derived under the treaty to be availed only by limited
number of individuals and entities based on the proximity with the treaty country.
The purpose of this clause was to exclude conduits and shell entities from availing
the benefits under the treaty arrangement by recognizing considerable business
nexus between the company and the country in which the treaty operates.
The Central Government of India tried resolving these controversies by circulating a
notification stating that ‘treaty shopping’ was permissible[.BUTthis notification just
required a proof of residence which the assesses had to obtain from the Mauritian
tax authorities in the form of a Tax Residency Certificate
This notification by the Central government was challenged in the Supreme Court of
India in the case of Azadi Bachao Andolan v. Union of India. The court held the
validity of these circulars and observed that treaty shopping was permissible under
the arrangement which existed between India and Mauritius. It went on to state that if
the Indian Executive wanted to prevent any treaty shopping to take place under this
DTAA, then it was essential for them to adopt a ‘Limitation of Benefit’ clause The
insertion of this clause in the treaty would basically restrict the benefit that could be
availed under the treaty. Since, the treaty did not have a ‘Limitation of Benefit’ clause
there was not an express or implied restriction to prevent people from non-treaty
countries to claim benefit under this treaty. Therefore, after this decision by the
Supreme Court of India, the Indian and the Mauritian government negotiated to
insert a ‘Limitation of Benefit’ clause on 1 st April 2017 to the DTAA that existed
between both these countries.
2-2-3The ‘Limitation of Benefit’ clause that was inserted in the India-Mauritius
DTAA:
“ARTICLE 27A – LIMITATION OF BENEFITS”
“1. A resident of a Contracting State shall not be entitled to the benefits of Article
13(3B) of this Convention if its affairs were arranged with the primary purpose to take
advantage of the benefits in Article 13(3B) of this Convention.
2.. A shell/conduit company is any legal entity falling within the definition of resident
with negligible or nil business operations or with no real and continuous business
activities carried out in that Contracting State.
3. A resident of a Contracting State is deemed to be a shell/conduit company if its
expenditure on operations in that Contracting State is less than Mauritian Rs.
1,500,000 or Indian Rs. 2,700,000 in the respective Contracting State as the case
may be, in the immediately preceding period of 12 months from the date the gains
arise.
4. A resident of a Contracting State is deemed not to be a shell/conduit company if:
(a) it is listed on a recognized stock exchange of the Contracting State; or
By the insertion of this clause, the benefit that was available under this treaty was
denied to the resident of Mauritius or a shell entity which was set up with the sole
objective of taking tax benefits that were being provided by the DTAA
The result of the Azadi Bachao Andolan case led to the introduction of
‘Limitation of Benefit’ clause in the DTAAs that India had with various
countries. The countries like the United Kingdom, Singapore, United States
ended up renegotiating the DTAA that existed between India and these countries
to include the ‘Limitation of Benefit’ clause.

2-2TAX HAVENS
TAX HAVENS PRIMARILY MEANS SHIFTING OF PROFIT FROM A COUNTRY
OF HIGHER TAX TO COUNTRY OF LOWER TAX
Multinational companies can use various schemes to avoid paying taxes in
countries where they make vast revenues. It is estimated that around
US$420 billion in corporate profits is shifted out of 79 countries every year.

2-2-1Three channels of profit shifting

There are three main channels that multinationals can use to shift profits
out of high-tax countries: They are1) debt shifting, 2)registering intangible
assets such as copyright or trademarks in tax havens, and 3)“strategic
transfer pricing”.

HOW DO THEY WORK?

To see how these channels work, imagine that a multinational is composed

of two companies, one located in a high-tax jurisdiction like INDIA
(company A) and one located in a low-tax jurisdiction like Bermuda
(company B). Company B is a holding company and fully owns company A.

While both companies should pay tax on the profit they make in their
respective countries, one of the three channels is used to shift profits from
the high-tax country (India in our case, with a corporate income tax rate of
30%) to the low-tax country (Bermuda, with a corporate income tax rate of
0%). For every RUPEE shifted in this way, the multinational avoids paying
30 PAISE of tax.

1-Debt-shifting Company A borrows money (although it does not need

to) from company B and pays interest on this loan to company B. The
interest payments are a cost to company A and are tax-deductible in India.
So they effectively reduce the profit that company A reports in India while
increasing the profit reported in Bermuda.

2, The multinational transfers its intangible assets (such as trademarks

or copyright) to company B. (in low tax country) B IN TURNS transfers to
company A (high tax country) Company A then pays royalties to company
B to use these assets. Royalties are a cost to company A and artificially
lower its profit, increasing the less-taxed profit of company B.

3Strategic transfer pricing, , This can be used when company A trades

with company B. To set prices for their trade, most countries currently use
what’s called the “arm’s length principle”. This means that prices should be
set the same as they would be if two non-associated entities traded with
each other.

But, in practice, it is often difficult to determine the arm’s length price and
there is considerable space for multinationals to set the price in a way that
minimises their overall tax liabilities.

Imagine company A (high tax) manufactures jeans and sells them to

company B, which then sells them in shops. If the cost of manufacturing a
pair of jeans is Rs 1000 and company A would be willing to sell them to
unrelated companyCfor rs1200, they would make rs200 in profit and pay
rs60 as tax in India

But if company A sells the jeans to its subsidiary company B for just
RS1020, it only makes Rs20 in profit and so pays Rs 6 in tax in India
Company B then sells the jeans to unrelated company C for RS1200
making Rs 180 in profit, but not paying any tax, since there is no corporate
income tax in Bermuda. Using this scheme, the multinational evades
paying in tax in India

How to stop it

There is a proposal for unitary method of levy of taxation.   Unitary approach

requires multinational corporations to contribute tax based on where they employ
workers and do business, not where they rent letter-boxes and hide ledgers.
That means making sure corporations pay their fair share locally for the wealth
created locally by people’s work.(tax where there is economic activity which
generates profits)

. The five factors most often taken into account FOR AN UNITARY
APPROACH are: location of headquarters, sales, payroll, employee
headcount and assets(THAT IS IF THE COMPANY IS INACTIVE, TAX
BENEFITS CANNOT BE GIVEN)

Ultimately, introducing unitary taxation would require a global consensus on

the formula used to apportion profits. And, admittedly, this would be difficult
to do. As the OECD says: “It present[s] enormous political and
administrative complexity and require[s] a level of international cooperation
that is unrealistic to expect in the field of international taxation.”

1-2 3Thin capitilisation

Thin capitilisation is another method of avoiding tax. It is debt shifting as

discussed in tax havens. The company is in need of capital. Company can
mobilise loan rather than equity. When mobilising loan ,the interst paid for
loan is exempted from income tax wheras for dividend is taxable. So
though company is not in need of loan, for avoiding tax, if it goes for loan, it
is called as thin capitilisation. I t is excessive loading of the company with
loan.

) Additional incentives to use debt instead of equity financing relate to the operations of
multinational enterprises (MNEs) whose activities across jurisdictions with varying tax rates
allow for profit shifting and reductions in overall tax burdens. Differences in tax rates
across countries usually make it attractive to thinly capitalize foreign affiliates in high-
tax countries and rely instead to an excessive extent on debt financing. In order to
minimize the overall tax burden, MNEs may particularly use internal (related-party) debt
as a vehicle for shifting profits by injecting equity financing into a foreign affiliate
facing a low tax rate. This affiliate then provides loans to related entities within the MNE in
high-tax countries. For the latter countries the implication is a reduction of the tax base (and
tax revenue) due to the deductibility of interest expenses. While early empirical work on
taxes and debt financing of MNEs provides evidence that higher taxes at foreign locations are
related to higher debt-to-asset ratios of foreign entities .

1-2-4TRANSFER PRICING

ALREADY DISCUSSED IN TAX HAVEN. BUT LITTLE MORE

ELABORATELY DISCUSSED HERE

TAX AVOIDED THROUGH RELATED ENTERPRISES IN MANY WAYS

Related enterprises may be that one country is controlled by another country.

 Related companies avoid TAX BY WAY OF
(1) THIN CAPITILIASATION
(2) TRANSFER PRICING
(3) LOCATION SAVING
Related companies, tax haven comes both in Thin
capitilisation,transfer pricing, and location saving.
But related companies give relation between the
companies as a primary factor to avoid tax rather than
profit shifting
But here transfer pricing is discussed little elaborately
location savings can be defined as the net cost savings realized by a
multinational enterprise through operating in a low-cost jurisdiction
instead of a high-cost jurisdiction. Location savings has emerged as one of
the most interesting international tax law developments in the recent years
as the tax administrations in countries such as China and India have begun
to apply the concept in practice.

1-2-5TRANSFER PRICING
, Transfer pricing is the price which is paid for goods or services transferred from one
unit of an organization to its other units situated in different countries. These two units
are related units. So they are called as associated enterprises in international
transactions.

The following conditions are essential for transfer pricing

1) THERE MUST BE ASSOCIATED ENTERPRISES

2) THERE MUST BE INTERNATIONAL TRANSACTION(RENAULT CASE)
3) TRANSACTION PRICE FIXED IS LOWER THAN THE REASONABLE PRICE FOR
THE TRANSCATION
4) LESS TRANSFER PRICE IS FIXED IN THE COUNTRY THAT HAS HIGHER
PERCENTAGE OF TAX(the possibility of misuse is more)
5) MORE PRICE IS FIXED AND MORE PROFIT IS SHOWN IN THE COUNTRY THAT
HAS LESS RATE OF TAX(possibility of misuse is more)
6) SO THE PROFIT IS SHIFTED FROM ONE COUNTRY TO ANOTHER COUNTRY
7) TO AVOID THIS MISUSE THE ARMS LENGTH PRICE(ALP OR REASONABLE
PRICE IS TO BE FOUND)
8) THERE ARE VARIOUS TO FIND OUT THE REASONABLE PRICE
9) ASSESEE HIMSELF CAN FOLLOW THESE METHODS TO FIND OUT THE ALP
DURING SELF ASSESSEMENT
 10) IF THE ASSESSING OFFICER IS NOT SATISFIED WITH THE SELF
ASSESSEMENT,HE CAN REFER IT TO THE TRANSFER PRICING OFFICER FOR
SCRUTINY ASSESEMENT .THAT IS TO FIND OUT THE REASONABLE PRICE OR
ALB
11) IF THE ASSESSE IS NOT SATISFIED WITH THE SCRUTINY ASSESSEMENT OF
THE TRANSFER PRICING OFFICER, HE CAN PREFER APPEAL
12) EVEN BEFORE SELF ASSESSEMENT , ASSESSE CAN SEEK THE OPINION OF
THE AUTHORITIES REGARDING ARMS LENGTH PRICE BY WAY OF ADVANCE
RULING. THIS WILL BE HELPFUL TO AVOID FUTURE LITIGATIONS
13) IN INDIA ALL OF THESE ARE GIVEN IN SEC 92A—92F OF THE INCOME TAX
ACT
14) Section 92A to 92F had been inserted to deal with transfer pricing by the
Finance Act, 2001
2-2-2CERTAIN EXPLANATIONS

1)ASSOCIATED ENTERPRISES MEANS THERE MUST BE---common control,

COMMONmanagementAND COMMON capital. Hence there will be —
possibility of influence by one enterprise over another

2) INDEPENDENT ENTERPRISES are not having common control but business

relationship

3)MEANING OF TRANSFER IN TRANSFER PRICING----transfer meanS—sale,

purchase, lease, service . This transfer involves transfer of property which may
be movable, immovable, tangible or intangible(patent, copyright, trade mark
etc

So transfer can be done in any of the modes

4)TRANSFER PRICING –TRANSCATION PRICING BETWEEN TWO associated

enterprises

5)TRANSFER MISPRICING

When exact price is concealed for avoiding tax we can call it as transfer
mispricing. This method can be used to shift the profit from high tax country to
low tax country. SEE THE EXAMPLE GIVEN IN TAX HAVEN.

5) INTERNATIONAL TRANSACTION--- there must be cross border transaction

2-5-2HOW TO PREVENT MISUSE OF TRANSFER PRICING

1) To find out the reasonable price which is otherwise called as ARMS

LENGTH PRICE

This principle evolved in England. - Principle - relationship

between two may reflect(influence) in transfer. Property may
be transferred for lower price. An Independent person is to
certify that the value is reasonable - This type of finding out
the reasonable price is called as arms lentgth price (ALP)
THE METHOD OF finding out the reasonable value is a principle which can
be found wherever it is necessary. While fixing the rental value under the
Rental value under the Rent Control ACT, FAIR RENT IS CALCULATED.
Reasonable rental value is calculated under the Income Tax ACT. While
registering a transfer under the Transfer property ACT—GUIDE LINE value is
fixed by the registration authorities for which stamp duty is supposed to be
paid. In the same manner the reasonable transfer price for the international
transaction can be assessed. The method of finding out ALP for domestic
transaction are available from The Finance Act 2013

Transfer price adjustment—here the increased reasonable amount is adjusted

to arrive At arms length price.

Eg- Gold costing 40000 per soverign is sold for RS.20000/

WHILE FINDING THE REASONABLE PRICE THE INCREASED PRICE IS 40000-

200000=20000. SO 20000 IS TO BE ADDED TO FIX THE ALP. This adjusted 20000
is called as transfer price adjustment

4)ARMS LENGTH PRICE-determination of exact cost of the transaction.

2-2-4-Methods of computation of Arms length price Sec 92

C There are various methods to find out the ALP,Among
them the most appropriate method(MAM) is followed to
find out ALP WHICH depends on the nature of transaction
1) Comparable uncontrolled price method
2) Resale price method
3) Cost plus method
4) Profit split method
5) Transaction Net margin method
6) Such other methods as may be prescribed by the Board.
1)The CUP method compares the price charged for

property or services transferred in a controlled

transaction to the price charged for property or
services transferred in a comparable uncontrolled
transaction in comparable circumstances.

7-BRIGHT LINE METOD To test that whether the transaction is at ALP or not, Revenue
Authorities' have adopted Bright Line Test ("BLT"), .This method is primarily used while
fixing the ARMS’ LENGTH PRICE FOR ADVERTISMENT MARKETING AND
PROMOTION EXPENSES THIS AN INTANGIBLE AREA.

EG MARUTHI ZUSIKI CASE—

SUZUKI IN JAPAN AND MARUTHI SUZUKI IN DELHI ARE ASSOCIATED

ENTERPRISES. MARUTHI SUZUKI SPENDS 390 CRORES FOR ADVERTISING,
MARKETING AND PROMOTION.NOW BY THIS SPENDING SUZUKI IN JAPAN IS
BENEFITTED. SINCE SUZUKI NEED NOT SPEND ANY MONEY FOR IT S
ADVERTIISMENT IN INDIA. Hence money spent bY maruthi Suzuki is beneficial to
Suzuki. This benefit is income to Suzuki in Japan. Hence tax authorities claim that
Suzuki is taxable. SO IT IS TO BE FOUND OUT WHETHER SUZUKI IS BENEFITTED
AND WHETHER THERE IS ANY CONCEALMENT OF MONEY SPENT FOR
ACCOUNTING . The SC HELD THAT BY APPLYING THE PRINCIPLE OF BRIGHT
LINE , IT CAN BE DETERMINED.COURT HELD THAT WE HAVE TO FIND OUT THE
ROUTINE EXPENCES SPENT FOR THE ADVERTISEMENT . If routine expenses are
reasonable to the amount given in the account, it can be acceptable. Otherwise the
excess(NONROUTINE) amount can be taxed. This sort of finding out the routine
expense is called as the Bright Line Approach.
There are several methods that multinational enterprises (MNEs) and tax
administrations can use to determine accurate arm’s length transfer pricing for
transactions between associated enterprises. The Organisation for Economic Co-
operation and Development (OECD) outlines five main transfer pricing methods that
MNEs and tax administrations can use. We explore the five methods, giving
examples for each, to help organizations decide which is most appropriate for their
needs. RoyaltyRange’s premier-quality databases enable organizations to access
the latest comparable agreements and other comparables data so that they can
apply transfer methods accurately and efficiently.

1. Comparable uncontrolled price (CUP) method

The CUP method is grouped by the OECD as a traditional transaction method (as
opposed to a transactional profit method). It compares the price of goods or services
and conditions of a controlled transaction (between related entities) with those of an
uncontrolled transaction (between unrelated entities). To do so, the CUP method
requires comparables data from commercial databases.

If the two transactions result in different prices, then this suggests that the arm’s
length principle may not be implemented in the commercial and financial conditions
of the associated enterprises. In such circumstances, the OECD says the price in the
transaction between unrelated parties may need to be substituted for the price in the
controlled transaction. The CUP method is the OECD’s preferred method in
situations where comparables data is available.

An example of when the CUP method works well is when a product is sold between
two associated enterprises and the same product is also sold by an independent
enterprise. The OECD gives the example of coffee beans. The two transactions can
be seen as comparable if the conditions are the same, they happen at a similar time
and take place in the same stage of the production or distribution chain. If there are
differences in the product sold in each of the transactions (e.g. the uncontrolled
transaction used coffee beans from another source) then the associated enterprises
would need to determine whether this affected the price. If so, it would need to make
adjustments to the cost to ensure it was priced at arm’s length.

2. Resale price method

Another traditional transaction method for determining transfer pricing is the resale
price method. This method starts by looking at the resale price of a product that has
been bought from an associated enterprise and then sold onto an independent party.
The price of the transaction where the item is resold to the independent enterprise is
called the resale price. The method then requires the resale price margin to be
identified, which is the amount of money the party reselling the product would require
to cover the costs of the associated selling and operating expenses. The resale price
margin also includes the amount the reseller would need to make a fair profit, taking
into account the functions it performed (including assets used and risks assumed).
This gross resale price margin is deducted from the resale price. The amount that
remains after the margin has been subtracted and fair adjustments have been made
(e.g. expenses like customs duty have been taken into account) is the arm’s length
price for the original transaction between related entities.

The resale price method requires resale price margins to be comparable in order for
an arm’s length price to be identified. This means that factors such as whether a
warranty is offered (and how it is applied) must be taken into account. If a distributor
offers a warranty and sells the product at a higher price to account for that warranty,
then they will make a higher gross profit margin than a distributor that does not offer
a warranty and sells the product at a lower price. For the two transactions to be
comparable, the taxpayer must make accurate adjustments to the transaction cost to
account for the margin discrepancy.

3. Cost plus method

The cost plus method is a traditional transaction method that analyzes a controlled
transaction between an associated supplier and purchaser. It is often used when
semi-finished goods are transacted between associated parties or when related
entities have long-term arrangements for ‘buy and supply’. The supplier’s costs are
added to a markup for the product or service so that the supplier makes an
appropriate profit that takes into account the functions they performed and the
current conditions of the market. The combined price is the arm’s length price for the
transaction.

For example, Party A manufactures zips for business bags and briefcases to be sold
by companies around the world. Party A sells the product to Party B, which is an
associated company in another country. From this transaction with Party B, Party A
earns a gross profit markup. Party A does not include operating expenses in the cost
of the product. Party C and Party D are independent enterprises that manufacture
zip mechanisms for coats. They sell their products to independent clothing brands
and also earn a gross profit markup for the transaction. Party C and Party D include
operating expenses in the cost of their products. So, the gross profit markups of
Party C and Party D need to be adjusted to be comparable with Party A’s.

4. Transactional net margin method (TNMM)

The TNMM is one of two transactional profit methods outlined by the OECD for
determining transfer pricing. These types of methods assess the profits from
particular controlled transactions. The TNMM involves assessing net profit against
an “appropriate base”, such as sales or assets, that results from a controlled
transaction. The OECD states that, in order to be accurate, the taxpayer should use
the same net profit indicator that they would apply in comparable uncontrolled
transactions. Taxpayer can use comparables data to find the net margin that would
have been earned by independent enterprises in comparable transactions. The
taxpayer also needs to carry out a functional analysis of the transactions to assess
their comparability.

If an adjustment is needed for a gross profit markup to be comparable, but the

information on the relevant costs are not available, then taxpayers can use the net
profit method and indicators to assess the transaction. This approach can be taken
when the functions performed by comparable entities are slightly different. For
example, an independent enterprise offers technical support for the sale of a piece of
IT equipment. The cost of the support is included in the price of the product but
cannot be easily separated from it. An associated enterprise sells the same product
but doesn’t offer this support. So, the gross margins of the transactions are not
comparable. By examining net margins, associated enterprises can more easily
identify the difference in transfer pricing in relation to the functions performed.

5. Transactional profit split method

The second transactional profit method outlined by the OECD is the transactional
profit split method. It focuses on highlighting how profits (and indeed losses) would
have been divided within independent enterprises in comparable transactions. By
doing so, it removes any influence from “special conditions made or imposed in a
controlled transaction”. It starts by determining the profits from the controlled
transactions that are to be split. The profits are then split between the associated
enterprises according to how they would have been divided between independent
enterprises in a comparable uncontrolled transaction. This method results in an
appropriate arm’s length price of controlled transactions.

There are two main approaches that can be taken for splitting profits. These are:

Contribution analysis: The combined profits are divided based on the relative value
of the functions performed by each of the related entities within the controlled
transaction (considering assets used and risks assumed).

Residual analysis: The combined profits are divided in two stages. First, each entity
is allocated arm’s length compensation for its functions and contribution to the
controlled transaction. Second, any remaining profit or loss after the first stage is
divided based on analysis of the facts and circumstances of the transaction.

Transactional profit split method

Accessing data for transfer pricing analyses

These are the five transfer pricing methods, and the ones favoured by the OECD.
The option that an organization chooses to use depends on the particular situation. It
should take into account the amount of relevant comparables data that is available,
the level of comparability of the uncontrolled and controlled transactions in question,
and whether a method is appropriate for the nature of a particular transaction
(determined through a functional analysis). The OECD states that it is not necessary
to use more than one transfer pricing method when determining the arm’s length
price for a particular transaction.

Authority for Advance Ruling (QUASI JUDICIAL FUNCTION)

The scheme of advance rulings was introduced by the Finance Act, 1993. Chapter
XIX-B of the Income-tax Act, which deals with advance rulings, came into force with
effect from 1-6-1993. Under the scheme the power of giving advance rulings has
been entrusted to an independent adjudicatory body. Accordingly, a high level body
headed by a retired judge of the Supreme Court has been set-up. This is empowered
to issue rulings, which are binding both on the Income-tax Department and the
applicant. The procedure prescribed is simple, inexpensive, expeditious and
authoritative.

Advance Ruling means written opinion or authoritative decision by an Authority

empowered to render it with regard to the tax consequences of a transaction or
proposed transaction or an assessment in regard thereto. It has been defined in
section 245N (a) of the Income-tax Act, 1961 as amended from time-to-time.

Applicant —

Under section 245N an advance ruling can be obtained by the following persons:-

a. a non-resident

b. a resident-undertaking proposing to undertake a transaction with a non-

resident can obtain advance ruling in respect of any question of law or fact in relation
to the tax liability of the non-resident arising out of such transaction

c. a resident who has undertaken or propose to undertake one or more

transactions of value of Rs.100 crore or more in total [vide Notification No. 73, dated
28-11-2014]

d. a notified public sector company

e. any person, being a resident or non-resident, can obtain an advance ruling to

decide whether an arrangement proposed to be undertaken by him is an
impermissible avoidance arrangements and may be subjected to General Anti
Avoidance Rules or not

f. an applicant as defined in section 28E(c) of the Customs Act, 1962

g. an applicant as defined in section 23A(c) of the Central Excise Act, 1944

h. an applicant as defined in section 96A(b) of the Finance Act, 1994

Salient features: —

• a. relates to a transaction entered into or proposed to be entered into by the

applicant: -

• The advance ruling is to be given on questions specified in relation to such a

transaction by the applicant.

• b. Questions on which ruling can be sought:—

i. Even though the word used in the definition is "question", it is clear that the
non-resident can raise more than one question in one application. This has been
made amply clear by Column No. 8 of the form of application for obtaining an
advance ruling (Form No. 34C)

ii. Though the word "question" is unqualified, it is only proper to read it as a

reference to questions of law or fact, pertaining to the income tax liability of the non-
resident qua the transaction undertaken or proposed to be undertaken.

iii. The question may be on points of law as well as on facts; therefore, mixed
questions of law and fact can also be included in the application. The questions
should be so drafted that each question can be replied in brief answer. This may
need breaking-up of complex questiona into two or more simple questions.

iv. The questions should arise out of the statement of facts given with the
application. No ruling will be given on a purely hypothetical question. A question not
specified in the application cannot be urged. Normally a question is not allowed to be
amended but in deserving cases the Authority may allow amendment to one or more
questions.

v. Subject to the limitations, the question may relate to any aspect of the non-
resident's liability including international aspects and aspects governed by double tax
agreements. The questions may even cover aspects of allied laws that may have a
bearing on tax liability such as the law of contracts, the law of trusts and the like, but
the question must have a direct bearing on and nexus with the interpretation of the
Indian Income-tax Act.

vi. Advance Rulings can be obtained to determine whether an arrangement,

which is proposed to be undertaken by any person being a resident or a non-
resident, is an impermissible avoidance arrangement as referred to in Chapter X-A
or not (General Anti Avoidance Rules).

• c. Time-limit for advance ruling:—

• The Authority shall pronounce it advance ruling within 6 months of receipt

of the application.

• d. Binding nature of advance ruling:—

The effect of the ruling is stated to be limited to the parties appearing before the
authority and the transaction in relation to which the ruling is given. This is because
the ruling is rendered on a set of facts before the Authority and cannot be for general
application.

Question precluded: Under section 245R, certain restrictions have been imposed on
the admissibility of an application, if the question concerned is pending before other
authorities. According to it, the Authority shall not allow an application where the
question raised by the non-resident applicant (or a resident applicant having
transaction with a non-resident) is already pending before any income-tax authority
or appellate Tribunal or any Court of law. Further, the authority shall not allow the
application where the question raised in it:—

i. involves determination of fair market value of any property; or

ii. it relates to a transaction or issue which is designed, prima facie for the
avoidance of income-tax.

Procedure of application for advance ruling: An applicant desirous of obtaining an

advance ruling should apply to the Authority in the prescribed form stating the
question on which the ruling is sought. The application has to be made in
quadruplicate in Form Nos:—

34C - applicable to a non-resident applicant

34D - applicable to a resident having transactions with a non-resident

34DA - applicable to a resident seeking advance ruling in relation to his tax liability
arising out of one or more transactions valuing Rs.100 crore or more in total which
has been undertaken or proposed to be undertaken by him

34E - Applicable to Public Sector Company as notified by government via

Notification No.11456, dated 3/8/2000

34EA - for determining whether an arrangement is an impermissible avoidance

arrangement as referred to in Chapter X-A or not

Fees for filing the application

The fees payable along with application for advance ruling shall be in accordance
with the following table:

Category of applicant Category of case Fee

♦ A non-resident applicant.

♦ A resident seeking advance ruling in relation to the tax liability of a non-resident

arising out of transaction undertaken or proposed to be undertaken by him with a
non-resident.
 ♦ A resident seeking advance ruling in relation to his tax liability arising out of one
or more transactions valuing Rs.100 crore or more in total which has been
undertaken or is proposed to be undertaken by him Amount of one or more
transaction, entered into or proposed to be undertaken, in respect of which ruling is
sought does not exceed Rs. 100 crore. Rs.2,00,000

Amount of one or more transaction, entered into or proposed to be

undertaken, in respect of which ruling is sought exceeds Rs. 100 core but does not
exceed Rs. 300 crore. Rs.5,00,000

Amount of one or more transaction, entered into or proposed to be

undertaken, in respect of which ruling is sought exceeds Rs. 300 crore
Rs.10,00,000

Any other applicant In all cases Rs.10,000

The application is to be accompanied by an account-payee demand draft for 10,000

Indian rupees drawn in favour of the Authority for Advance Ruling and made payable
at New Delhi.

The application may be withdrawn within 30 days from the date of the application.

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Sl. No.Heading

A foreign entity would be regarded as Controlled Foreign Company if all the following
conditions are fulfilled

• Foreign Entity should be ‘foreign company

• It is not engaged in active trade or business

Shares of the entity are not listed on recognized stock No Public Interest exchange
of the country of residence

Entity is resident of territory with low rate of taxation

• Specified income of the entity exceeds INR 2.5 million

Foreign company not engaged in active trade or business would be governed by

CFC.

• Two cumulative conditions to satisfy that it is engaged in active trade or business •

 Actively participates in industrial, commercial or financial undertaking through
employees other personnel in economic life of that country;

Foreign company would not be treated as CFC if it is not tax resident of Low Tax
Jurisdiction (LTJ)