Transfer Pricing
Transfer pricing in the Indian income tax context refers to the rules under Sections 92 to 92F of the Income Tax Act, 1961 that govern the pricing of transactions between related international parties (and, since 2012, certain domestic related-party transactions), requiring that such prices be set at arm's length to prevent profit shifting and tax base erosion.
Transfer pricing was introduced into the Income Tax Act by the Finance Act 2001, effective from Assessment Year 2002–03. The rules require that cross-border transactions between associated enterprises — such as an Indian subsidiary and its foreign parent — be priced at an arm's length price (ALP), meaning the price that would have prevailed between unrelated parties in similar circumstances.
The Income Tax Act prescribes six methods for computing the ALP: Comparable Uncontrolled Price (CUP), Resale Price Method (RPM), Cost Plus Method (CPM), Profit Split Method (PSM), Transactional Net Margin Method (TNMM), and any other method prescribed by the CBDT. In practice, TNMM and CUP are the most commonly applied methods. The taxpayer must report all international transactions in Form 3CEB, certified by a chartered accountant.
The CBDT established the Transfer Pricing Officer (TPO) cadre specifically to examine international transactions reported in Form 3CEB. TPOs have the power to refer cases to the Dispute Resolution Panel (DRP) or the Income Tax Appellate Tribunal (ITAT). Transfer pricing disputes became one of the largest sources of tax litigation in India during the 2005–2015 period, with cumulative demands running into lakhs of crores of rupees — prompting CBDT to introduce Safe Harbour Rules in 2013 and the Advance Pricing Agreement (APA) mechanism in 2012.
The Advance Pricing Agreement programme allows multinationals to agree upfront with the CBDT on the pricing methodology for their related-party transactions for a specified period (up to five years, with a bilateral option to roll back for four previous years). APAs have significantly reduced transfer pricing litigation by providing certainty, and India's APA programme became one of the more active ones globally within a decade of its introduction.
Domestic transfer pricing, introduced by the Finance Act 2012 under Section 92BA, extended arm's length pricing requirements to specified domestic transactions above ₹20 crore between related parties — addressing concerns about tax arbitrage within the domestic economy through selective routing of income to entities with tax holidays or lower-rate jurisdiction.