New Delhi: The gradual implementation of IndAS, the new accounting system based on fair valuation of corporate assets and liabilities, is making it harder for multinational companies to show before tax authorities that they do not suppress taxable income in India, an annual compliance requirement, said a report by audit firm PricewaterhouseCoopers Pvt. Ltd.
In the report titled Ind AS: impact on transfer pricing, shared with Mint, PwC said that sections of the Indian industry shifting to IndAS from Indian Generally Accepted Accounting Principles (IGAAP) over a two-year period starting April 2016 is posing a challenge during the transition period to prove MNCs’ related party transactions are on an arms length basis.
MNCs have to meticulously maintain records of their transactions with their Indian units—related parties—to show that these are on an arms length basis in comparison to industry standards of similar transactions.
This requirement under transfer pricing rules is meant to ensure that MNCs do not understate their income in India. Globally, tax authorities now take rigorous efforts to ensure that corporations do not shift income from the market where economic activities take place to another jurisdiction where tax rates are low, by under reporting a local unit’s income for services rendered to the parent or by exaggerating expenses.
For MNCs, proving their related party transactions on an arms length in comparison to industry standards becomes difficult when different sections of the industry follow different accounting standards.
If an MNC transaction with its local unit deviates from what the income tax department regards as the arms length price, it may lead to the I-T department attributing extra taxable income for the unit for that year and claiming tax on it.
“The implementation of Ind AS in a phased manner will result in inconsistent accounting standards being followed by various companies. Some companies will continue to follow IGAAP, while others will transition to Ind AS. This will pose significant practical challenges in undertaking comparability analysis," said the report, which is yet to be made public. The report suggests that this could become another area of litigation in future transfer pricing audits of MNC units in India.
Making financial statements as per IndAS is compulsory for companies with a net worth more than Rs500 crore, their subsidiaries and joint ventures from 1 April 2016, while listed firms and those in the process of getting listed with less than Rs500 crore net worth and their subsidiaries have to adopt IndAS from 1 April 2017.
In a given financial year, MNCs will rely on data of comparable transactions by peers in the industry of the previous two years. For preparing transfer pricing documentation for 2016-17, data of previous years’ comparable transactions by unrelated parties will be available only in IGAAP.
There are significant changes in the way income and expenses are recognized and showed under IndAS and IGAAP. IndAS relies on fair value of assets and liabilities and has a thrust on substance of contracts more than their legal forms. IGAAP relies on the principle of prudence and historical cost of assets instead of their fair market valuation. This results in differences in the characterization of financial instruments as well as in revenue recognition.
“With increased emphasis on substance over form and transparency, IndAS will have significant interplay with transfer pricing," said Kunj Vaidya, leader transfer pricing, Price Waterhouse & Co. LLP, India.