Comparable Uncontrolled Price
(‘CUP’) Method
Himanshu Tanna
7 February 2015
Page 2 CUP Method
► Computation of Arm‟s Length Price
► What is CUP Method
► Types of CUP
► Application of CUP Method
► Case Studies
► Key Indian Judicial Precedents
Contents
Page 3 CUP Method
► Determination of ALP using one of the Prescribed methods. A method which is:
► Best suited to the facts and circumstances of each particular international transaction and
► Provides the most reliable measure of an arm‟s length price in relation to the international
transaction shall be “Most Appropriate Method”
► Where more than one ALP is determined, the arithmetic mean of such prices is taken to be the ALP
Computation of Arm’s Length Price (ALP)
No hierarchy or preference of methods prescribed under the Act
Prescribed Methods
Traditional Transaction
MethodTransactional Profit
Method
TNMM
Method
Other
prescribed
Method
PSM
MethodCPM
Method
RPM
Method
CUP
Method
Page 4 CUP Method
► Compares the price charged in a controlled transaction with the price in
an uncontrolled transaction
► Organization for Economic Co-operation and Development („OECD‟)
defines CUP as under:
“A transfer pricing method that compares the price charged for property or
services transferred in a controlled transaction to the price charged for
property or services transferred in a comparable uncontrolled transaction
in comparable circumstances”.
What is CUP Method?
B Ltd
A Ltd
AEs Independent enterprises
Y Ltd
X Ltd
Controlled transaction Uncontrolled transaction
Page 5 CUP Method
Manufacturer A
Related party - Manufacturer B
Non-related party
Non-related party B
► External CUP
Non-related party A
► Internal CUP
Types of CUP
Page 6 CUP Method
Methodology under CUP
► Identification of price charged or paid in comparable uncontrolled situations
► Such price adjusted to account for differences if any between international
transaction and uncontrolled transactions
► Adjusted price arrived above taken to be arm‟s length price
Application of CUP Method
Page 7 CUP Method
► Most direct and reliable method
► However, requires strict comparability in products, contractual terms,
economic terms, etc - Accordingly, difficult to practically apply
Key comparability factors that have a material impact
► Product characteristics, quality and volume
► Contractual terms (credit period, shipment terms, currency, after sales
service, warranties)
► Timing of transaction
► Geographical location and size of market (place of origin & market of sale)
► Level of market (wholesale or retail)
► Intangible property associated with sale (eg brand, know-how)
Application of CUP Method
Page 8 CUP Method
Case Studies
Page 9 CUP Method
Case Study # 1
ABC Inc.
USA
ABC GmbH
Germany
ABC Limited
India
Sale of 100 Kg
@ Rs. 10
Whether price charged to ABC
GmbH can be considered as CUP ?
Page 10 CUP Method
Case Study # 2
XYZ Netherlands
(Licensing of
Technology)
Third party in India
XYZ India
Licensing of formulations and
technicals - 3% of gross domestic
sales and 5% of gross export sales
of Product A
Licensing of technicals
5% of net domestic sales and 8% of
net export sales of Product A
Whether royalty rate charged to
third party can be considered as
CUP ?
Page 11 CUP Method
Case Study # 3 – Application of CUP MethodFacts
► Ind Co, an Indian Company is engaged in
the refining and sale of copper metal.
► Ind Co purchases crude metal from both
related and unrelated parties
► Critical factors that affect the crude copper
price are:
► Volume,
► Tenure of supply contract (long terms,
short term)
► Product mix (with or without small
quantities of other metal alloys like gold
and silver)
► Other terms of contracts (FOB vs CIF,
port of shipment etc)
Unrelated
Party A
(Japan)
Unrelated
Party B
(Russia)
Related Party
ForCo (AUS)
Ind Co
Page 12 CUP Method
Case Study # 3 – Application of CUP Method Comparison of various CUPs
Criteria Related Party ForCo
(Australia)
Controlled
Unrelated Party A
(Japan)
Uncontrolled
Unrelated Party B (Russia)
Uncontrolled
Tenure of Contract Long Term (10 yrs) Long Term (8 yrs) Short Term (2 yrs)
Volume during year
under consideration
2200 MT 3000 MT 9000 MT
Alloy Mix 0.5% Gold, 1% silver 1% Gold, 1% silver None
Port of shipment Australia Japan Russia
Price (per MT) INR 29,500 (applicable
for entire year)
INR 32,000 (applicable
for entire year)
INR 28,500 (applicable for
entire year)
Other Terms FOB basis CIF basis FOB basis
Page 13 CUP Method
Case Study # 3 – Application of CUP MethodApplicability of CUP – Unrelated supplier A
► The controlled and uncontrolled
arrangements are comparable except in
following areas
► Different alloy mix: Supplier A‟s crude
copper contains a higher mix of gold,
making the product more expensive
► Difference in terms of supply:
Supplier A sells on CIF basis, whereas
ForCo sells on FOB basis.
► Other differences, including the difference
in volume and the term of contracts (10 yrs
vs 8 yrs) is not expected to influence the
prices.
Unrelated
party A
(Japan)
Related party
ForCo (AUS)
IndCo (India)
Page 14 CUP Method
Case Study # 3 – Application of CUP MethodApplicability of CUP – Unrelated supplier B
► The controlled and uncontrolled arrangements
have following differences
►Difference in volume: the difference in
volume purchased from ForCo and from
Supplier B is significant (2200 MT and 9000
MT)
►Difference in tenure of contract: 2 years vs.
10 years
►Different alloy mix: Supplier B‟s copper crude
does not contain any gold or silver
►Different port of shipments: Russia vs.
Australia
Related
Supplier
ForCo (AUS)
IndCo (India)
Unrelated
party B
(Russia)
Page 15 CUP Method
Case Study # 3 – Application of CUP MethodConclusion
► Rejection of CUP related to Supplier B: the significant difference in volume
render the Supplier B transactions unreliable as suitable adjustments cannot
be made to account for the difference
► Acceptance of CUP related to Supplier A: the uncontrolled transaction with
Supplier A is comparable with the controlled transactions with ForCo.
Although, certain adjustments need to be made
Adjustments
► Difference in pricing basis (FOB vs CIF) – add freight and insurance cost
to ForCo transaction
► Difference in alloy mix – adjust Supplier A‟s price to exclude price for
higher content of gold
Page 16 CUP Method
Some Key Indian Judicial Precedents
Page 17 CUP Method
Geographical difference
► Internal CUP not suitable where uncontrolled transactions are undertaken with
unrelated foreign entities (Gharda Chemicals Ltd)
► Sale to AE in Thailand and Non AE in Vietnam cannot be considered under CUP
Method. Mere geographical contiguity in two countries need not mean similarity in
economic and market conditions when retail price was different (Intervet India Pvt.
Ltd)
► CUP Method using foreign comparable / industry practice valid for logistics industry –
Geographical difference immaterial (Agility Logistics Pvt Ltd and Toll Global
Forwarding India Pvt Ltd)
► Geographical difference removed by comparing prices at FOB value in case of sales
of goods (Isagro Asia Agrochemicals Pvt Ltd)
Comparability Factors
Page 18 CUP Method
Characteristics of the products
► Rejection of CUP Method asserted by the revenue over TNMM adopted by the taxpayer
for purchase of APIs since revenue did not produce data of the supplier, credentials,
product efficacy, purity, R & D activity, contractual terms etc. (UCB India Pvt. Ltd)
► CUP Method is more appropriate than TNMM where reliable data is available. CUP
Method was used in the context of purchase of API for generic drugs (Serdia
Pharmaceuticals (India) Private Limited)
► Purchase from newly developed third party Chinese supplier cannot be used on grounds
of risk associated with uncertain quality standard vis-à-vis AE (Cheminova India Ltd)
► CUP method using TIPS database (based on data maintained by Customs Department)
acceptable. Exact product comparability not required – Generic goods even with
different brands comparable unless impact of intangibles substantial (Tilda Riceland
Pvt Ltd)
Comparability Factors
Page 19 CUP Method
Volume and market condition
► Rejection of CUP Method over TNMM due to significant volume and geographical
differences between sales to AEs and Non AE‟s (Dishman Pharmaceuticals &
Chemicals Ltd)
► Non-AEs order quantity restrictions justify higher purchase price paid to AEs (Intimate
Fashion India Pvt Ltd)
► The relevant market condition for testing a transaction is the market where goods are
sold and not the place of origin (Clear Plus India Pvt. Ltd and Mosaic India Pvt Ltd)
► CUP for benchmarking of copper-ingots imported by assessee at rates higher than
rates at which AE sold to third parties in India considered – Claim for adjustment for
fluctuations in market rates of copper rejected (Vipin Enterprises – Supreme Court)
Comparability Factors
Page 20 CUP Method
Payment for know-how
► Difference in manner of computation of royalty and number of years of agreement
validity different and hence, not comparable (Kirlosker Ebara Pumps)
► For benchmarking the royalty, effective royalty rate to be considered and not quoted
rate (Hitachi Home and Life Solutions)
► Ministry of commerce and industry press note allowing automatic approval not
relevant for ALP without furnishing comparable data (SKOL Breweries)
► Payment of model fees approved by ministry of heavy industries after detailed
examination and hence, justified (Hero Motocorp Ltd)
Other transactions
Page 21 CUP Method
Payment for know-how (Cont….)
► RBI approval for royalty relied on for determination of arm‟s length (Air Liquide
Engineering, Thyssenkrupp Industries) – Contrary view - RBI permission is not
sacrosanct for purposes of IT Act & is merely persuasive & not conclusive (LG
Electronics – HC decision in Nestle India & Coca Cola relied)
Intangible Assets
► Excess Earnings Method supplements the CUP method (Tally Solutions Pvt Ltd)
► Discounted cash flow method more appropriate for determining the value of shares
(Ascendas India Pvt Ltd) – CCI valuation not acceptable (VIHI LLC)
► Internal CUP based on non-compete fees & control premium paid to Indian promoter
group (Lanxess India Pvt Ltd)
Other transactions
Page 22 CUP Method
Financial Transactions
► Use of interest rate on foreign currency loan to be considered as comparable for
benchmarking interest on loan to foreign subsidiary (VVF Ltd)
► LIBOR to be used for determining ALP of foreign currency loan and domestic PLR is
not relevant (Hinduja Global Solutions Limited – Supported by decisions in case
of Aurionpro Solutions, Cotton Naturals, Siva Industries, Mahindra & Mahindra,
Four Soft)
► Interest on bank deposit considered as ALP - PLR not appropriate (Dr. Reddy’s
Laboratories Limited and VIP Industries)
► For benchmarking of brokerage, Internal CUP should be used over TNMM –
Adjustment for differences in activities allowed (J P Morgan India Pvt Ltd, RBS
Equities India Ltd)
Other transactions
Page 23 CUP Method
Use of quotes
► Determining arm‟s length guarantee commission based on quote on bank‟s website
without considering terms and conditions not accepted (Everest Kanto Cylinder) -
Internal CUP accepted (Asian Paints Limited)
► Quotation which has not fructified into a transaction not acceptable as CUP (Sinostell
India Pvt. Ltd). List price are only indicative, cannot be sole basis for analysis under
CUP method (Redington India Limited)
► Price quotation from non-government agency can be considered, unless proved
unreliable - Argument of rates merely a quotation not raised by TPO (Adani Wilmar )
► Using of quotation from Asian Metal Market (leading marketing researchers) accepted
for determining ALP of raw materials imported – Rule 10AB „Other Method‟ relied on
(KTC Ferro Alloys Pvt. Ltd.)
Other key points
Page 24 CUP Method
Use of industry averages
► Use of NASSCOM man-hour rates as CUP (3 Global Services Private Limited)
► Shipping magazine rates for charter hire payment for vessels (Reliance Industries
Limited)
► Value accepted by the Insurance Company for the ship could be considered as a
reasonable value to compute ALP vis-a-vis an estimation on the basis of the quoted
figures in a monthly magazine (Tolani Shipping Co. Ltd.)
Controlled transactions with other AEs
► Cannot be considered as a CUP (Skoda Auto India, Tecnimont, Sabic)
► Allowed where the assessee or TPO was unable to identify comparables (Bayer
Material Science)
Other key points
Page 25 CUP Method
Timing
► The date on which the purchase order is received constitutes the correct date for
determination of the arm‟s length price and not the date of invoice or shipment (A.M.
Tod Company India Pvt. Ltd)
► CUP based on prices on date of contract, invoice date prices irrelevant (Ambo Agro)
Average of price vs transaction by transaction
► Average of the prices charged by the assessee from its non-AEs in the same period
should be considered for benchmarking the product sold to AE in the same period
(ITW India Ltd and Essar Steel Ltd)
► Though yearly average is a good and reasonable indicator, a transaction based
approach is more appropriate where prices were open for fluctuations and not
decided in advance (Saertex India Pvt Ltd)
Other key points
Thank You