India needs simple tax rules for R&D institutions.

The government accuses Microsoft of underreporting its income in India. The tax department says the work done at Microsoft India's R&D centre is much more intensive than routine software work and, therefore, the relative contribution of the captive centre to the global profits of the MNC must be charged to tax.

The tax department's argument, ostensibly to curb transfer-pricing abuse, is specious. Transfer pricing rules are meant to prevent MNCs from shifting income — accrued through value addition in products and services — outside India to other jurisdictions.

Had Microsoft outsourced R&D to a homegrown IT services company, would its global profits be apportioned to the Indian company that mainly employs people for R&D and pays them salaries? Comparable costs would be incurred on the captive R&D, based on arm's-length pricing. So, the tax demand defies logic.

The tax department's approach is far removed from finance minister P Chidambaram's promise to have a non-adversarial tax regime. The mindset must change. Such arbitrary tax demands to raise revenues will kill India's attractiveness as an R&D hub.

The country needs to attract investment in such captives, and that will help create an R&D ecosystem in the country. India's software exports were close to $76 billion in 2012-13 of which nearly a quarter were from the captives.

These units need certainty in the tax regime to ensure that India's advantage is not imperilled by competition from the likes of China. The government should have simple rules that MNCs can follow in pricing their services while doing business with their parent or subsidiaries overseas.

A simpler method, or safe harbour, accepted by the tax department to determine the tax outgo will lower tax disputes.


Source : economictimes.indiatimes.com