While India aspires to emerge as a knowledge economy, various impediments especially opaque tax laws are coming in the way of global corporations eager to increase their presence in the country. With a vast talent pool and low wages, India has become a R&D hub for many MNCs and the number of R&D units increasing four times in a decade. The pharma sector, for instance, has been increasing the share of R&D spends to generate world-class drugs that were available to domestic consumers at affordable prices and boosted exports. However, the rising income from R&D and repatriation of profits have come under taxman's lenses. Although loopholes in transfer pricing rules led to revenue leakages,
the taxman some times went overboard to extract more than what was justified. High profile tax disputes involving companies such as Microsoft shook investor confidence and rattled financial markets in 2012 since foreign investment inflow was vital for India to fund its high current account deficit. The government rushed to appoint a committee under former CBDT chairman N Rangachary to frame "safe harbour" rules that will simplify tax laws, improve compliance and cut hassles of doing business in India. The finance ministry has accepted the panel's suggestions and is in the process of finalising the rules under which income-tax authorities will accept the transfer price
declared by the assessee. The rules , however, come with riders. For instance, software development services, IT-enabled services other than contract R&D can declare operating profit margin of 20% over operating expenses if the total value of international transaction is within R100 crore while it is 30% for knowledge processes outsourcing (KPO) services.
While MNCs can expect some reprieve from taxman's audit, the government is unlikely to give away much considering that the effective tax rates for most sectors are way below the nominal corporate tax rate of 30%. The bigger problem for the income tax department would be to hold on to the high-pitched additions made in earlier years which are much higher than the safe harbour norms, especially in the IT and ITES sectors.