India: Effects of APA on taxable income (royalty) received by foreign taxpayer that is not a party to the APA

Corresponding adjustments stemming from APA entered into by Indian related party held not taxable income to the foreign taxpayer

The Mumbai Bench of the Income-tax Appellate Tribunal held for a foreign taxpayer

The Mumbai Bench of the Income-tax Appellate Tribunal held for a foreign taxpayer and allowed a reduction of that foreign taxpayer’s taxable income in India pursuant to an advance pricing agreement (APA) that was entered into by a related party in India. The foreign taxpayer was not a party to the APA.

In this case, corresponding adjustments were made to the taxable income of the foreign taxpayer—as a consequence of the APA entered into by the foreign taxpayer’s Indian related party. Here, amounts previously booked as an income were subsequently returned by the foreign taxpayer to the Indian related party pursuant to the APA, and the tribunal emphasized its focus on “real income” as opposed to “hypothetical or notional income” for tax purposes.

The case is: Gemological Institute of America, Inc. v. ACIT 


The foreign taxpayer received royalty income from its Indian related party for assessment years 2011-12 to 2016-17.

The amount of royalty received was “offered to tax” at a rate of 15% under a provision of the India-United States income tax treaty. The tax years, however, were under dispute before the tribunal because of allegation of a permanent establishment in India and the related treatment of such under the tax treaty.

In the meantime, the Indian related entity concluded a unilateral APA that covered the international transaction of the royalty payment to the foreign taxpayer. One critical assumption of the APA required the Indian related entity to recover from the foreign taxpayer any excess amount of royalty payments that exceeded the arm’s length price (determined as per the APA). Subsequently, this amount of recovered income was offered to tax by the Indian related entity and reported as income in its amended returns.

The issue before the tribunal was whether the amount of taxable royalty income in the hands of the foreign taxpayer was also to be reduced by the amount recovered by its Indian related party and thus consistent with the terms of the APA.

The tribunal held in favor of the foreign taxpayer and concluded that once the excess royalty paid by the Indian related party had been recovered from the foreign taxpayer, then taxing such amounts in the hands of the foreign taxpayer would result in taxing notional income.

KPMG observation

Similarly situated foreign taxpayers may consider initiating proceedings to seek tax refunds of excess amounts withheld or paid based on their Indian related party’s APA or by a secondary adjustment. However, the tax authorities may reject such claims if the case is appealed. 

Read a May 2021 report [PDF 323 KB] prepared by the KPMG member firm in India



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