It has been reported by this newspaper that some Japanese companies - including Mitsui and Toyota - will be among the first to sign bilateral advance pricing agreements, or APAs, with tax authorities. Bilateral APAs are an agreement on how to calculate taxes. They are signed between a multinational company, such as Toyota, and the tax authorities of its home jurisdiction, or Japan, as well as a country in which it wishes to operate, in this case India. Bilateral APAs are a win-win agreement. For the company, it reduces the risk associated with taxation of transfer pricing, or pricing of transactions between two national subsidiaries of a multinational. For the tax authority, it provides a way of minimising disputes.
Unfortunately, minimising disputes has not been high on the list of priorities of the Indian revenue office for some time. This has led to a slew of major transfer-pricing disputes. In many of these cases, there may well have been some sharp practices by multinationals. But the sheer number and scale of the tax demands by Indian authorities have effectively turned off foreign direct investors and given India the reputation of being an unnecessarily risky destination in terms of taxation. The government has rightly chosen to address this issue. Finance Minister Arun Jaitley, in his Budget speech earlier this year, had specified that a series of global best practices in determining transfer-pricing taxes would be introduced. It appears that when Prime Minister Narendra Modi visited Japan, the final details were hammered out as to how these APAs will work. Altogether, it is an excellent signal that the government is working to repair India's reputation as an investment destination. Other signals of tax reform have also been coming in - for example, the finance ministry has not so far moved to appeal an adverse judicial decision on its transfer-pricing dispute with Vodafone (this is distinct from the well-known tax dispute with Vodafone over the tax assessed after it purchased its assets in India from Hutch).
The approach that the government has shown, however, needs to be a little more policy-oriented and long-term. Each of these APAs appears to be the product of special effort. What is needed is to move away from a transactional case-by-case approach, as is evident here, and to move towards a situation in which APAs are embedded in policy. In other words, where APAs are a matter of course. The amendment of various double-taxation avoidance agreements to allow for more bilateral APAs, as is planned, is a necessary first step. Still, the issue of transfer pricing needs to be depoliticised, and policy should be separated from assessment. One important method of doing so is to ensure that different sets of officials are responsible for tax enforcement and for policy-framing. This will lead to several improvements. For one, it will help ensure that even informal targets for individual tax assessors will not feed back into poor or retrospective policy. Overall, while the government has moved quickly to address one of the major causes of the recent investment slowdown, it must focus on making deeper structural changes that ensure that a positive tax environment endures even when senior leaders' attention moves elsewhere.
