Recently, there was news about a survey conducted by the Income Tax Department on an international media group related to Transfer Pricing.
Let me explain the concept of Transfer Pricing in simple, layman terms for better understanding.
1. Suppose Company S, incorporated in India, is a subsidiary of Company P in Singapore. Company S purchases goods worth $2,000 from Company P. The cost of those goods for the Singapore company is $1,500.
2. So, Company P in Singapore earns a profit of $500 ($2,000 – $1,500) and will pay tax at 17%, which amounts to $85 .
3. Now, Company S in India sells the same goods to a customer in India for $2,500 ( Rs. 212500 i.e. $ 2,500 @ Rs. 85/USD). On the profit of $500 ($2,500 – $2,000), Company S pays tax at 30%, which is $150 .
Now, here’s where Transfer Pricing becomes important:
1. The key question is whether Company P is selling the same goods to unrelated companies in India at the same price. If it turns out that Company P sells the same goods to unrelated Indian companies at $1,600, then Company S is being charged $400 more.
2. As a result, Company S’s profit is artificially reduced by $400, and they pay less tax in India. Specifically, the Indian government loses $120 in tax revenue (i.e., $400 × 30%), or Rs. 10,200 (at Rs.85/USD).
So what’s the issue?
Money is flying out of India!
Company S needs to justify to the Indian tax authorities why it’s paying a higher price to its parent company abroad. If they can’t, the tax authorities may adjust the income and recover the underpaid tax.
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