Section 81 — Determination of arm's length price in certain cases

(1) Where in respect of an international transaction or a specified domestic transaction, the application of the most appropriate method referred to insection 165(3)(b) results in determination of more than one price, the arm's length price in respect of such transactions shall be computed in accordance withthe provisions of this rule.
(2) A dataset shall be constructed by placing the prices referred to in sub-rule (1) in an ascending order and the arm's length price shall be determined on thebasis of the dataset so constructed.
(3) For the purposes of sub-rule (2), where the most appropriate method is the resale price method, cost plus method, or transactional net margin method, andwhere the comparable uncontrolled transaction undertaken by an enterprise, not being the enterprise undertaking such transactions referred to in sub-rule (1),has been identified using data relating to—
(a) the current year, and the said enterprise has undertaken the same or similar comparable uncontrolled transaction, in either or both of the two financialyears immediately preceding the current year, then,—(i) the price in respect of such transaction in such year (or years) shall be determined by applying the most appropriate method in the similarmanner as applied in the current year; and(ii) the weighted average of such prices, as computed under sub-rule (5), shall be included in the dataset under sub-rule (2) instead of pricereferred to in sub-rule (1);(b) the financial year immediately preceding the current year (if the data relating to current tax year is not available at the time of furnishing return ofincome for that year), and the said enterprise has undertaken the same or similar comparable uncontrolled transaction in the financial year immediatelypreceding the two financial years, then—(i) the price in respect of such transaction shall be determined by applying the most appropriate method in the similar manner as it was applied inthe financial year immediately preceding the current year; and(ii) the weighted average of such prices, as computed under sub-rule (5), shall be included in the dataset under sub-rule (2) instead of pricereferred to in sub-rule (1).(4) Where the use of data relating to the current year, in terms of rule 79(5), establishes that—
(a) the enterprise has not undertaken the same or similar uncontrolled transaction during the current year; or
(b) the uncontrolled transaction undertaken during the current year is not a comparable uncontrolled transaction,
then, irrespective of anything else, neither the price nor the weighted average of prices of the comparable uncontrolled transactions shall be included in thedataset.
(5) Where an enterprise has undertaken comparable uncontrolled transactions in more than one financial year, the weighted average of the prices of suchtransactions for the purposes of sub-rules (2), (3) and (4) shall be computed based on the method used for determination of prices as specified in column B ofthe following Table and by assigning weights to the factors specified in column C thereof:—
TABLE
Sl.No. Method Factors to which weight is assigned
A B C
1. Resale price method.Quantum of sales considered for arriving at the respective prices.
2. Cost plus method.Quantum of costs considered for arriving at the respective prices.
3. Transactional net marginmethod. Quantum of costs incurred, sales effected, assets employed or to be employed, or any other base considered for arrivingat the respective prices.
(6) Where the most appropriate method is comparable uncontrolled price method or resale price method or cost plus method or transactional net marginmethod and the dataset constructed in accordance with sub-rule (2) consists of six or more entries, an arm’s length range beginning from the 35th percentile ofthe dataset and ending on the 65th percentile of the dataset shall be constructed and, if the price at which the international transaction or the specified domestictransaction has actually been undertaken is —
(a) within such arm's length range, such price shall be deemed to be the arm's length price;
(b) outside such arm's length range, the median of the dataset shall be used to compute the arm's length price.
(7) Where the provisions of sub-rule (6) are not applicable, the arm’s length price shall be —
(a) the arithmetical mean of all the values included in the dataset; or
(b) the price at which such transaction has actually been undertaken, if the variation between the arm's length price so determined and the price at whichthe international transaction or the specified domestic transaction has actually been undertaken does not exceed such percentage, not exceeding 3% ofthe latter, as may be notified in this behalf by the Central Government.(8) For the purposes of this rule,—
(a) "median" of the dataset, having values arranged in an ascending order, shall be —(i) the lowest value in the dataset where at least 50% of the values are less than or equal to it; or(ii) the arithmetic mean of such lowest value and the value immediately succeeding it in the dataset, if the number of all values that are equal to orless that the aforesaid value is a whole number;(b) (i) "35th percentile" of a dataset, having values arranged in an ascending order, shall be—(A) the lowest value in the data-set such that at least 35% of the values included in the dataset are equal to or less than such value; or(B) the arithmetic mean of such lowest value and the value immediately succeeding it in the dataset, if the number of all values that are equal to orless that the aforesaid value is a whole number; and
(ii) "65th percentile" of a dataset, having values arranged in an ascending order, shall be—(A) the lowest value in the data-set such that at least 65% of the values included in the dataset are equal to or less than such value; or(B) the arithmetic mean of such lowest value and the value immediately succeeding it in the dataset, if the number of all values that are equal to orless that the aforesaid value is a whole number. Illustration 1
Enterprise X has undertaken controlled transaction with its associated enterprises during the current year. After taking into account the facts andcircumstances, transactional net margin method has been selected as the most appropriate method, enterprise X has been selected as the tested party, and theratio of operating profit (OP) to operating expense (OE) has been selected as the profit level indicator (PLI). The data of the comparable uncontrolledtransactions is available for the current year under consideration at the time of furnishing return of income by the assessee and based on the same, seven non-associated enterprises have been identified to have under-taken the comparable uncontrolled transactions in the current year. All the identified comparableenterprises have also undertaken comparable uncontrolled transactions in a period of two years preceding the current year. The weighted average PLIcalculation for each non-associated enterprise shall be as follows:
Sl. No. Name of non-associated enterprise Year 1 Year 2 Year 3 [Current Year] Aggregation of OE and OP Weighted Average PLI
1 2 3 4 5 6 7
1. A OE = 100OE = 150OE = 225 Total OE = 475 OP/OE = 12%
OP = 12 OP = 10OP = 35 Total OP = 57
2. B OE = 80OE = 125OE = 100 Total OE = 305 OP/OE = 8.2%
OP = 10 OP = 5 OP = 10 Total OP = 25
3. C OC=E = 250OE = 230OE = 250 Total OE = 730 OP/OE= 9%
OP = 22 OP = 26OP = 18 Total OP = 66
4. D OE = 180OE= 220OE = 150 Total OE = 550 OP/OE = 6%
OP = (-) 9OP = 22OP = 20 Total OP = 33
5. E OE = 140OE = 100OE = 125 Total OE = 365 OP/OE = 2.2%
OP = 21 OP = (-) 8OP = (-) 5 Total OP = 8
6. F OE = 160OE= 120OE = 140 Total OE = 420 OP/OE = 11.9%
OP = 21 OP = 14OP = 15 Total OP = 50
7. G OE = 150OE = 130OE = 155 Total OE = 435 OP/OE = 10.57%
OP = 21 OP = 12OP = 13 Total OP = 46 .
From the above , the dataset will be constructed by arranging the weighted average values of PLI in an ascending order as follows:
Sl. No. 1 2 3 4 5 6 7
Values 2.2% 6% 8.2% 9% 10.57% 11.9% 12%
For deriving the arm's length range, the data place of 35th and 65th percentile shall be computed in the following manner:
Total number of data points in dataset × (35/100)
Total number of data points in dataset × (65/100)
Thus, the data place of the 35th percentile = 7 × 0.35 = 2.45.
Since this is not a whole number, the next higher data place, that is, the value at the 3rd place would have at least 35% of the values below it. The 35thpercentile, is therefore, value at the 3rd place, that is, 8.2%.
The data place of the 65th percentile is = 7 × 0.65 = 4.55.
Since this is not a whole number, the next higher data place, that is, the value at the 5th place would have at least 65% of the values below it. The 65thpercentile is therefore value at 5th place, that is, 10.57%.
The arm's length range will be beginning at 8.2% and ending at 10.57%.
Therefore, if the PLI in case of the enterprise X that has undertaken the international transaction or the specified domestic transaction is equal to or more than8.2% and less than or equal to 10.57%, the price at which such international transaction or the specified domestic transaction has actually been undertakenshall be deemed to be the arm's length price. No adjustment shall be required.
However, if the PLI in case of the enterprise X is lower than the 35th percentile of the arm's length range, that is, 8.2%, then for the purpose of determining thearm's length price, the median of the dataset shall be used. The median will be first determined in the following manner:
The data place of median is calculated by first computing the total number of data point in the dataset × (50/100). In this case it is 7 × 0.5 = 3.5.
Since this is not a whole number, the next higher data place, that is, the value at the 4th place in the dataset would have at least 50% of the values below it(median).
The median in this case is 9%. Therefore, the PLI at arm's length shall be 9% and the controlled transaction shall be adjusted so as to yield this PLI for thecontrolled enterprise X.
Illustration 2
In case of the Enterprise X referred to in Illustration 1, the data of the current year is available only in respect of non-associated enterprises A, C, E, F and G atthe time of furnishing the return of income by the assessee. In respect of non-associated enterprises B and D, the data of the financial year preceding the taxyear is available at the time of furnishing the return of income and the same has been used to identify comparable uncontrolled transactions undertaken byenterprises B and D. Further, if these seven non-associated enterprises have also undertaken comparable uncontrolled transactions in either or both of the twofinancial years immediately preceding the tax year then such data has been included in the dataset. The weighted average PLI calculation for each non-associated enterprise shall be as follows:
Sl.No. Name of non-associatedenterprise Year 1 Year 2 Year 3 [TaxYear] Aggregation of OE andOP Weighted AveragePLI
1 2 3 4 5 6 7
1. A OE = 100 OE = 150 OE = 225 Total OE = 475 OP/OE = 12%
OP = 12 OP = 10 OP = 35 Total OP = 57
2. B OE = 80 OE = 125 Data notavailable Total OE = 205 OP/OE= 7.31%
OP = 10 OP = 5 Total OP = 15
3. C OE = 250 OE = 230 OE = 250 Total OE = 730 OP/OE = 9%
OP = 22 OP = 26 OP = 18 Total OP = 66
4. D Data notavailable OE = 220 Data notavailable Total OE = 220 OP/OE = 10%
OP = 22 Total OP = 22
5. E Data notavailable Data notavailable OE = 125 Total OE = 125 OP/OE = (-) 4%
OP = (-) 5 Total OP = (-)5
6. F OE = 160 OE = 120 OE = 140 Total OE = 420 OP/OE = 11.9%
OP = 21 OP = 14 OP = 15 Total OP = 50
7. G OE = 150 OE = 130 OE = 155 Total OE = 435 OP/OE= 10.57%
OP = 21 OP = 12 OE = 13 Total OP = 46
From the above, the dataset will be constructed by arranging the weighted average values of PLI in an ascending order as follows:
Sl. No. 1 2 3 4 5 6 7
Values (-) 4% 7.31% 9% 10% 10.57% 11.9% 12%
If during the course of assessment proceedings, the data of the tax year becomes available and the use of such data indicates that non-associated enterprise Bcannot be considered as a comparable under rule 79(3)(ii) and (iii), then the data in respect of enterprise B shall not be included in the dataset. The data for taxyear in respect of enterprise D shall be included in the dataset. Further, if the data available at this stage identifies a new comparable uncontrolled transactionundertaken by enterprise H, then, it shall be included in the revised dataset. The weighted average PLI calculation for each non-associated enterprise shall beas below:
Sl.No. Name of non-associatedenterprise Year 1 Year 2 Year 3 [taxYear] Aggregation of OE andOP Weighted AveragePLI
(1) (2) (3) (4) (5) (6) (7)
1. A OE = 100 OE = 150 OE = 225Total OE = 475 OP/OE = 12%
OP = 12 OP = 10 OP = 35 Total OP = 57
2. C OE = 250 OE = 230 OE = 250Total OE = 730 OP/OE = 9%
OP = 22 OP = 26 OP = 18 Total OP = 66
3. D Data notavailable OE = 220 OE = 150Total OE = 370 OP/OE =11.35%
OP = 22 OP = 20 Total OP = 42
4. E Data notavailable Data notavailable OC = 125Total OC = 125 OP/OC = (-) 4%
OP = (-) 5 Total OP = (-) 5
5. F OC = 160 OC = 120 OC = 140Total OC = 420 OP/OC = 11.9%
OP = 21 OP = 14 OP = 15 Total OP = 50
6. G OC = 150 OC = 130 OC = 155Total OC = 435 OP/OC = 10.57%
OP = 21 OP = 12 OP = 13 Total OP = 46
7. H OC = 150 Data notavailable OC = 80 Total OC = 230 OP/OC =9.56%
OP = 12 OP = 10 Total OP = 22
From the above, the dataset will be constructed by arranging the weighted average values of PLI in an ascending order as follows:
Sl. No. 1 2 3 4 5 6 7
Values (-) 4% 9% 9.56% 10.57% 11.35% 11.9% 12%
The calculation of the arm's length range and the arm's length price shall then be performed in the same manner as that described in Illustration 1.
Illustration 3
In a given case, comparable uncontrolled price method has been selected as the most appropriate method and 20 comparable un-controlled transactions havebeen identified. The dataset of 20 prices, arranged in ascending order, is as under:
Sl. No. Profits (in Rs. Thousands)
1 2
1. 42.00
2. 43.00
3. 44.00
4. 44.50
5. 45.00
6. 45.25
7. 47.00
8. 48.00
9. 48.15
10. 48.35
11. 48.45
12. 48.48
13. 48.50
14. 49.00
15. 49.10
16. 49.35
17. 49.50
18. 49.75
19. 50.00
20. 50.15
Applying the formula given in the Illustration 1, the data place of the 35th and 65th percentile is determined as follows:
35th percentile place = 20 × (35/100) = 7th.
65th percentile place = 20 × (65/100) = 13th.
Since the 35th percentile place is a whole number, it shall be the average of the prices at the 7th and next higher, that is, 8th place. This is (47000+48000)/2 =Rs. 47,500.
Similarly, the 65th percentile will be average of 13th and 14th place prices. This is (48500+49000)/2 = Rs. 48,750.
The median of the range (the 50th percentile place) = 20 × (50/100) = 10th.
Since the 50th percentile place is a whole number, it shall be the average of the prices at the 10th and next higher, that is, 11th place. This is (48350+48450)/2= Rs. 48,400.
Thus, the arm's length range in this case shall be from Rs. 47,500 to Rs. 48,750.
Consequently, any controlled transaction whose price is equal to or more than Rs. 47,500 but less than or equal to Rs. 48,750 shall be considered to be withinthe arm's length range. If such price is not within the arm's length range, then, for the purpose of determining the arm's length price, the median of the datasetshall be used.