An important concern when foreign companies enter into international transactions with associated enterprises in India has been regarding the permissible limit of advertisement, marketing and promotion expenses (hereinafter referred as 'AMP expenses') in India. It remains one of the most complex issues raised by Indian tax authorities.
Creation of marketing intangibles:
In the event of excessive expending on AMP by the Indian counterpart, the tax authorities have made adjustments over the years on the ground that the excessive expenditure done by associated enterprises in India is on behalf of the foreign counterpart (and not for its own benefit) to promote the brand image and develop marketing intangibles for the foreign company in India and therefore, the Indian taxpayer should be adequately compensated on arm's length basis.1
Before determining what would be the adequate compensation to the Indian counterpart for creation of marketing intangibles, it is necessary to ensure the existence of an international transaction. In this regard, "International transaction" has been defined2 as a transaction between two or more associated enterprises, either or both of whom are non-residents, in the nature of:-
- purchase, sale or lease of tangible or intangible property, or
- provision of services,
- or lending or borrowing money,
- or any other transaction having a bearing on the profits, income, losses or assets of such enterprises, and
- shall include a mutual agreement or arrangement between two or more associated enterprises for the allocation or apportionment of, or any contribution to, any cost or expense incurred or to be incurred in connection with a benefit, service or facility provided or to be provided to any one or more of such enterprises.
Also, the AMP expenditure done by a licensed manufacturer in India for its business does not constitute an international transaction.3 In this regard, note that simply because it can be ascertained that the AMP expenditure done is unusual or excessive in nature, it does not establish the existence of an international transaction. However, it becomes possible to compare such expenditure with comparable products in the market once such a transaction is established.
Issue of identification of comparable:
An important issue with regards to ascertaining whether the AMP expenditure has been appropriate or not is regarding the identification of comparable product in the market. A comparable is acceptable, if based upon comparison of conditions a controlled transaction is similar with the conditions in the transactions between independent enterprises. Further, if this is not possible, it should be ascertained whether reasonably accurate adjustments can be made to eliminate the effect of such differences on the price or margin. Thus, identification of the potential comparables is the key to the transfer pricing and AMP analysis.4
Marketing or Selling Expenses:
In 2015, Hon'ble Delhi High Court in the case of Sony Ericsson Mobile Communication India Pvt. Ltd. v. CIT laid down that the marketing or selling expenses like trade discounts, volume discounts, etc. offered to sub-distributors or retailers are also not in the nature and character of brand promotion. Since they are not directly or immediately related to brand building exercise, they cannot be said to have been incurred for publicity or advertisement. And thus, direct marketing and sale related expenses or discounts/ concessions would not form part of the AMP expenses.5
If the domestic entity deals with its foreign counterpart which is its Associate Enterprise (under Section 92A of the Income Tax Act) and incurs expenditure for creation of marketing intangibles, adequate compensation should be provided to the Indian entity. However, ascertaining international transaction and identification of comparables remains to be important concerns in to determine what should be the adequate compensation and if any adjustments should be made by transfer pricing officer/authority.
1 Sony Ericsson Mobile Communications India P. Ltd. v. CIT, (2015) 374 ITR 118 (Del).
2 Section 92 B of Income Tax Act, 1961.
3 ITA No. 7714/Mum/2012, ITA Nos. 1119 and 976/Mum/2014, ITA Nos. 518 and 335/Mum/2015.
4 LG India Electronics Pvt. Ltd. v. ACIT, ITA No.5140/Del/2011.
5 Sony Ericsson Mobile Communications India P. Ltd. v. CIT, (2015) 374 ITR 118 (Del).
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