In a reprieve to multinational companies (MNCs) and their subsidiaries operating out of India, the Delhi High Court has laid out broad principles and a computational mechanism to resolve disputes relating to transfer pricing for marketing intangibles.

The court said the tax department had the jurisdiction to treat advertising, marketing and promotional expenses by an Indian subsidiary of an MNC as international transactions, under section 92B of the Income-Tax (I-T) Act, 1961. It, however, noted while treating such transactions under transfer pricing rules, “the exercise undertaken should not result in over- or double-taxation”. The court disagreed with the tax department’s practice of de-bundling inter-connected transactions such as distribution, marketing, advertising and promotional spends to arrive at tax liabilities of Indian subsidiaries. It ruled distribution and marketing were intertwined and could be analysed together.

The court said tax authorities should give “good and sufficient reasons” for de-bundling such inter-connected transactions.

“The court order has created many safeguards for companies. This decision will have a far reaching impact on ongoing disputes on this issue,” said Mukesh Butani, partner, BMR Legal.

Rohan Phatarphekar, partner and head of transfer pricing, KPMG in India, said, “There have been significant departures from several findings and ratios decided in the earlier special bench ruling in the case of LG Electronics.”

The case involved a spectrum of consumer durables and consumer electronics companies, including Daikin Airconditioning, Haier Appliances, Reebok India, Canon India and Sony Mobile Communications.

The dispute related to whether a portion of the amount spent by multinational companies in the country on advertisement and marketing expenses should be borne by the Indian subsidiaries or their parent companies abroad. The income tax department had applied transfer pricing rules on such transactions, citing notional benefits to the parent company. The court said for any “excess” expenditure established, the Indian subsidiary must be compensated by the parent group. “Such compensation might be included or subsumed in low purchase price or by not charging or charging lower royalty. Direct compensation can also be paid,” the court said.

Experts said the court ruling brought clarity for companies on where and how “excess” expenditure could arise.

In a case related to LG Electronics India, the Income Tax Appellate Tribunal had, in February 2013, said the company was liable to pay tax on “excessive” advertising and marketing spends in the country, leading to notional benefits to its parent company.

Bhutani said the principles laid down by the court would guide field officers in situations in which principles relating to marketing intangibles should be involved selectively. “It gives guidance on the computation aspects of carrying out such adjustments,” he said.

Senior advocate Ajay Vohra, who appeared on behalf of some of the companies, told Business Standard this was the first judgment of its kind in India or abroad. “Globally, such disputes are generally resolved out of court.”

When contacted, Canon India, Sony Mobile, Daikin Airconditioning and Haier Appliances said they were not in a position to comment, adding their legal teams needed to go through the order. A senior executive of a consumer electronics company said the issue was a hurdle to the Indian units of global giants. “Taxing advertising and promotional expenditure is unfair,” he added.