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Relocation of business from one country to another, where the labour and other costs are comparatively cheaper, results in cost saving to the Multi National Enterprise groups. The net cost so saved is “Location Savings” as explained by the Organization for Economic Co-operation and Development(OECD). Location Specific Advantages have encouraged MNEs operating in high cost jurisdictions like USA and Europe to divert their capital to countries like India and China. While a portion of the cost saved by the MNE group is retained in low cost state, significant sums are usually pulled backed by the holding companies. Revenue authorities in developing countries (such as India and China) are insisting that the economic benefits arising from the relocation of operations to a low-cost jurisdiction should accrue to that country.   

In an appeal before the Income-tax Appellate Tribunal in India, the Tribunal ruled in favour of the taxpayer, rejecting the Indian tax administration’s views on location savings and accepting the approach outlined in the OECD’s recent paper on the Transfer Pricing Aspects of Intangibles.

The OECD paper, issued as part of the BEPS deliverables (Action 8 of the OECD/G20 BEPS project), provides important guidance on location-specific characteristics. The new guidelines indicate that if reliable, local market comparables are available and can be used to determine arm’s length prices, specific comparability adjustments for location savings should not be required.

Case Overview

The Indian taxpayer, Watson Pharma Pvt Ltd, provided contract manufacturing and contract R&D services to its Associated Enterprises (AEs). The taxpayer applied the Transactional Net Margin Method (TNMM) to substantiate the arm’s length nature of its related party transactions, using the operating margins achieved by comparable independent Indian companies as a benchmark.

The Transfer Pricing Officer (TPO) made an adjustment on account of location savings in determining the arm’s length price of the transactions, claiming that the taxpayer’s AEs enjoyed locational advantages by shifting contract manufacturing and contract R&D activities from the USA to India, a low-cost jurisdiction. The TPO attributed 50% of the overall cost savings to AEs from these activities in India to the taxpayer.

The Tribunal rejected the TPO’s adjustment for location savings citing several reasons, most notably:

i. The taxpayer and its AEs operated in a perfectly competitive market and did not have exclusive access to factors which led to location specific advantages. The taxpayer did not have any unique advantage as compared to its competitors and there was no super profits arising in the supply chain.

ii. The Tribunal relied on the OECD’s Guidance on Transfer Pricing Aspects of Intangibles and observed that location savings is not regarded as an intangible asset unless specific intangibles are capable of being owned or controlled by an individual enterprise.

iii. When local market comparables, operating in similar economic circumstances as that of the taxpayer, are available and used for benchmarking, a specific adjustment for location savings is not required as any benefit on account of location savings is embedded in the results achieved by the comparable companies.

iv. Once the TNMM has been accepted as the most appropriate method and the profit margin earned by the taxpayer (i.e. the tested party) falls within the arm’s length range of results, then the advantage accruing to the AEs becomes irrelevant.


Although this case was decided in favour of the taxpayer, location savings remains a key issue for multinational enterprises operating in low-cost jurisdictions. Multinationals seeking to move their operations to low-cost jurisdictions need to be aware of the risks involved and ensure that their transfer pricing analyses address location specific characteristics and advantages. By taking a more thorough and broad-based approach of the issue they should be in a better position to defend against location saving arguments and potential adjustments.

The author can also be reached at gagandeepsingh435@gmail.com

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Gagan Deep Singh
Category Income Tax   Report

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