TP Of Development Centre: Any Clearer?

CBDT circulars on application of profit split method and on identification of contract R&D service provider with insignificant risk

The Transfer Pricing (“TP”) methodology for research and development (“R&D”) services has been under the scanner of the Indian Revenue off late, with the Indian Revenue often trying to disregard a “contract R&D service provider” structure, with a cost plus model; and substituting the same with profit split method (“PSM”).  This approach by the Indian Revenue had been on the ground that the Indian R&D centre had been developing the intangibles through the R&D functions virtually on its own; and thus should be entitled to the entrepreneurial related returns related to the intangibles (say patents).

In view of this increasing dispute and litigation with TP matters surrounding the characterization and remuneration model of the contract R&D service providers, the Rangachary Committee (“Committee”) was interalia mandated by the Central Board of Direct Taxes (“CBDT”) to introduce guidelines for the Indian Revenue and taxpayers.

The CBDT has now come out with two circulars – (i) on identification of contract R&D service provider with insignificant risk and (ii) on application of profit split method, based on the recommendation of the Committee.  CBDT is of the view that these circulars will help in providing certainty and guidance to the taxpayers on issues relating to transfer pricing of development centre.

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