India – as a significant player in the digital economy and a member of the OECD Inclusive Framework—actively participated in the negotiations leading to the Pillar One Amount B report released in February.

However, India has now expressed reservations about the final report, raising concerns about its practical application and potential impact on the tax base. Its reservations to the report highlight the potential challenges in implementing Amount B.

These concerns aren’t necessarily unique to India and could be relevant for other developing countries with similar economic structures and levels of administrative capacity.

India’s Key Reservations

In its reservations, India emphasizes the need for further clarification and detailed guidance on the following issues to ensure the framework’s effective and efficient implementation.

Definition of “low-capacity jurisdiction.” The report lacks a clear definition of “low-capacity jurisdictions,” a term potentially impacting how Amount B is applied in India. A broad definition could encompass a significant portion of India’s economy, where labor costs might be relatively lower than developed economies.

This raises concerns about potential revenue losses for India, as profits could be shifted to such jurisdictions under Amount B. From India’s perspective, a more precise definition is crucial to ensure fairness and prevent unintended consequences for developing countries.

Qualitative scoping criterion. India insisted on the inclusion of a qualitative criterion to accurately identify baseline distributors that should fall under Amount B, and has expressed its inability to support the framework without the inclusion of such qualitative criterion as part of the scoping criteria in the report.

Pricing methodology concerns. India has objected to the specific design aspects of the Amount B pricing methodology, including the operating expense cross-check mechanism, the exclusion of goodwill in calculating net operating assets, the allowed deviation range in the pricing matrix, and the reliance on a single database that lacks geographical representation.

Operating expense-based metric. India has argued that the use of operating expenses as a metric to limit distributor returns under Amount B doesn’t accurately reflect a distributor’s value and could disproportionately affect lower-income countries. The country considers that the value of a distributor’s functional contributions is reflected in its sales, not in the distributor’s operating expense.

India has also indicated that the cross-check could adversely affect lower-income countries, considering that the operating expense of similarly placed distributors is systemically lower than in high-income countries and that the alternative cap rates may not sufficiently address this issue.

Resource concerns for monitoring. India has expressed reservations about the proposal to develop a framework for monitoring the practical application of Amount B, citing concerns about the resource intensity of such an exercise, especially for jurisdictions with limited capacity.

Implications for Developing Countries

The lack of clarity on practical issues and on the definition of low-cost jurisdictions and the approach to corresponding adjustments could create uncertainties and potentially lead to several complications.

Increased administrative burdens. Developing countries with limited resources might struggle to implement the framework effectively due to the complexities involved in data collection, analysis, and dispute resolution.

Erosion of tax base. A broad definition of low-cost jurisdictions could lead to profit shifting by multinational enterprises, negatively impacting the tax revenue collection of developing countries.

Increased disputes. Uncertainties surrounding the framework’s practical application could lead to more disputes between tax authorities and multinational enterprises, further straining limited resources in developing countries.

The simplified and streamlined method aims to facilitate pricing for transactions falling within its scope by approximating an arm’s-length result in the jurisdiction of the tested party. However, in jurisdictions where this method isn’t adopted, it’s not acknowledged as achieving an arm’s-length outcome. Consequently, decisions made using this method in one jurisdiction wouldn’t carry binding authority in others.

This discrepancy may lead to instances of double taxation and an escalation of transfer pricing conflicts, which underscores the importance and objective of establishing a unified approach to ease transfer pricing compliance.

The report primarily focuses on unilateral corresponding adjustments, where a tax authority adjusts its tax base without agreement from the other country. There needs to be a greater emphasis on the mutual agreement procedure for resolving disputes arising from transfer pricing adjustments. This preference also reflects India’s desire for a more collaborative approach to resolving tax disagreements and ensuring fairness for both tax authorities and multinational enterprises.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.