Rule 87 — Eligible assessee for safe harbour rules for international transactions.
Sub-rule (1) defines "eligible assessee" for the safe harbour rules for international transactions. Subject to sub-rules (2) and (3), it is a person who has exercised a valid option for application of safe harbour rules in accordance with rule 90 and who falls in one of seven categories: one who is engaged in providing information technology services — software development services, information technology enabled services, knowledge process outsourcing services, or contract research and development services wholly or partly relating to software development — with insignificant risk, to a non-resident associated enterprise called the foreign principal; one who has made any intra-group loan; one who has provided a corporate guarantee; one engaged in providing contract research and development services wholly or partly relating to generic pharmaceutical drugs, with insignificant risk, to a foreign principal; one engaged in the manufacture and export of core or non-core auto components where 90% or more of total turnover during the relevant tax year is in the nature of original equipment manufacturer sales; one in receipt of low value-adding intra-group services from one or more members of its group; and one who has provided data centre services to a foreign company.
Sub-rule (2) lists the factors the Director General of Income-tax (Systems) is to have regard to in identifying an eligible assessee with insignificant risk under sub-rule (1)(a). The foreign principal must perform most of the economically significant functions, including the critical ones — conceptualisation, design of the product, and providing the strategic direction and framework — through its own employees or its other associated enterprises, while the assessee carries out the work assigned to it. The capital, funds and other economically significant assets including intangibles must be provided by the foreign principal or its other associated enterprises, the assessee being only remunerated for the work carried out. The assessee must work under the direct supervision of the foreign principal or its associated enterprise, which not only has the capability to control or supervise but actually controls or supervises through strategic decisions and regular monitoring. The assessee must not assume or have any economically significant realised risks, and where a contract shows the foreign principal is obligated to control the risk but the conduct shows the assessee is doing so, the contractual terms are not the final determinant. The assessee must have no ownership right, legal or economic, on any intangible generated or on the outcome of any intangible generated or arising during the rendering of the services or on the outcome of the research, which vests with the foreign principal as evident from the contract and the conduct of the parties.
Sub-rule (3) sets out the corresponding factors for identifying an eligible assessee with insignificant risk under sub-rule (1)(d), to be regarded by the Director General of Income-tax (Systems) or the Assessing Officer or the Transfer Pricing Officer, as the case may be. They follow the same pattern for the research or product development cycle: the foreign principal performs most of the economically significant functions including conceptualisation, design of the product and providing the strategic direction and framework; the foreign principal or its other associated enterprises provide the funds or capital, the other economically significant assets including intangibles required for research or product development, and a remuneration to the assessee for the work carried out; the assessee works under direct supervision that is actually exercised; the assessee does not assume or has no economically significant realised risks, with conduct prevailing over contractual terms; and the assessee has no ownership right, legal or economic, on the outcome of the research, which vests with the foreign principal as evident from the contract and the conduct of the parties.
Safe harbour depends on being an eligible assessee, and eligibility cannot rest on a taxpayer's self-description. This rule does two separate jobs. It lists the transaction types that can be brought into safe harbour at all, and it fixes what "insignificant risk" means for the two categories that turn on it — information technology services and contract research and development for generic pharmaceutical drugs — by setting out functional, asset and risk factors that the authority must have regard to. The repeated instruction that conduct prevails over the contract is what stops eligibility being manufactured by drafting.
| What | Figure | The condition on it | Where |
|---|---|---|---|
| Share of total turnover that must be original equipment manufacturer sales | 90% or more | For a person engaged in the manufacture and export of core or non-core auto components, tested on total turnover during the relevant tax year | Sub-rule (1)(e) |
Eligibility is not automatic on carrying on one of the seven activities: sub-rule (1) opens with a valid option exercised in accordance with rule 90, so an assessee who has not opted is not an eligible assessee however well he fits the description. Only two of the seven categories carry an insignificant risk test — clause (a) and clause (d) — and each has its own list of factors, with clause (a) examined by the Director General of Income-tax (Systems) and clause (d) also open to the Assessing Officer or the Transfer Pricing Officer. In both lists the decisive words are that the contractual terms are not the final determinant where conduct diverges from the contract, and that the assessee must have no ownership right, legal or economic, in the intangibles or research outcome. The 90% auto component test is on total turnover for the relevant tax year, so eligibility under clause (e) can be lost in a year in which aftermarket sales grow.
A company develops software exclusively for its foreign parent, which conceptualises and designs the product, funds the work, supervises it week to week and owns all the resulting intellectual property; the company is paid a fee for the work done. If it has validly opted under rule 90, it is an eligible assessee under sub-rule (1)(a). If in practice it decides the product roadmap itself and retains economic rights in the code, sub-rules (2)(d) and (2)(e) point the other way, and a contract saying the parent bears the risk will not save it.
A reader meets it when the option for safe harbour is exercised and again in any examination of that option, whether by the Director General of Income-tax (Systems) or, for generic pharmaceutical contract research, by the Assessing Officer or the Transfer Pricing Officer in the transfer pricing proceeding.
is engaged in the manufacture and export of core or non-core auto components and where 90% or more of total turnover during the relevant tax year is in the nature of original equipment manufacturer sales
if a contract shows that the foreign principal is obligated to control the risk but the conduct shows that the eligible assessee is doing so, the contractual terms shall not be the final determinant