Structuring
(Re)Structuring – transfer pricing considerations
One comes across situations, wherein first the promoters establish an entity (startup)in India. As they look to expand to foreign market, for ease, the promoters incorporate another entity (100% promoter holding) in the foreign jurisdiction. In these situations, ability to unlock value is reduced due to absence of appropriate holding structures. Once the start-up expands their business globally, they seek investors support. At this stage restructuring takes place to streamline the Group from a legal & tax perspective more in terms of devising appropriate holding structures. One needs to bear in mind that any entity structuring should also consider substance/flow of transactions from a TP perspective. High level TP considerations are:
1. Transaction flow between the entities needs to be aligned w.r.t. value chain of activities & characterization of respective entities. Next step would be to revisit the remuneration mechanics of all entities & to check for any requirement to change transfer pricing methods for testing ALP
2. In cases where there is a change in the functions undertaken by the Group entities purely due to business reasons/market circumstances then a detailed analysis of facts is required to understand if it would be construed as business restructuring & whether it warrants an exit charge. Additional economic analysis / tools such as OBSA(off-balance sheet assets),RASCI Framework can be used.
3. Assumptions at time of structuring (Ex-ante analysis) need to be tested against actual outcomes (Ex-post analysis). Variance in such outcomes (such as revenue/profitability) to be analyzed for materiality (deviation >20%)
4. In event of transfer of intangible/IP, need to evaluate whether it warrants an exit charge (to compensate transferor for scaling down the activities)
5. Capability of transferee to undertake key functions i.e., DEMPE of IP
6. Understanding functions undertaken by transferor pre & post restructuring is essential. What would happen if the transferor continues to undertake key functions relating to IP even after sale of IP?
7. Documentation is key for TP & assumes even greater importance during restructuring. Detailed documentation is required w.r.t. business rational (necessity, alignment with industry best practices) for the restructuring, changes in functional analysis of the Group entities – pre & post restructuring, TP implications for the respective entities, basis for arriving at the exit charges or non-applicability of exit charges, capturing transfer pricing implications based on laws & regulations of the respective jurisdictions as well as guidance provided by OECD / UN.
Always advisable to realign structure in initial years rather than doing it later to access investor funding to avoid major issues