Understanding the Importance of FAR Analysis in Transfer Pricing Compliance

Imagine, for a moment, you’re at the helm of a multinational enterprise, steering the ship through the tumultuous waters of global business.

As a business leader, you must ensure that your enterprise navigates these waters successfully and complies with the myriad of international tax regulations. One such critical regulation is Transfer Pricing, a concept that often proves to be as complex as it is crucial.

This article simplifies this concept and highlights the importance of Function, Asset, and Risk (FAR) Analysis in maintaining Transfer Pricing compliance, particularly within the Indian context.

Now, let’s delve into the world of Transfer Pricing and FAR Analysis, where understanding and adhering to these rules could mean the difference between smooth sailing and rough seas.

Neglecting a robust FAR Analysis could lead to severe consequences, such as hefty penalties and a tarnished reputation.

Understanding Transfer Pricing

Transfer pricing refers to the pricing of transactions between associated enterprises. It is a regular part of the operations of a multinational company but needs careful attention due to varying tax laws across countries.

The arm’s length principle, which suggests that transactions between related parties should be conducted as if they were unrelated, forms the basis of most countries’ transfer pricing rules, including India’s.

The Concept of FAR Analysis

At the heart of transfer pricing is the concept of FAR analysis – Functions performed, Assets used, and Risks assumed.

It is a vital tool used in transfer pricing studies to compare the functions performed, assets employed, and risks the tested party assumes with those of independent enterprises engaging in comparable uncontrolled transactions.

Detailed Explanation of FAR Analysis

In simpler terms, the functions refer to each entity’s activities in the transaction, the assets to the resources they employ, and the risks to the uncertainties they assume. Understanding the FAR profile helps identify comparable uncontrolled transactions, which are then used to determine the arm’s length price.

Rule 10B and the Necessity of FAR Analysis

Rule 10B of the Income Tax Rules underscores the importance of FAR Analysis in determining whether a transaction is at arm’s length. This rule mandates the use of FAR Analysis in the process of identifying comparable uncontrolled transactions.

Case Studies Illustrating the Importance of FAR Analysis

Understanding the theoretical concept of FAR analysis is one thing, but witnessing its application in real-world scenarios truly underscores its importance.

The Supreme Court Case of Morgan Stanley and Company Inc.

Let’s consider the Supreme Court case of Morgan Stanley and Company Inc., a U.S. investment bank, which entered into an agreement with its group company in India for certain support services.

The question was whether Morgan Stanley had a permanent establishment in India, and if so, what income was attributable to it.

The Supreme Court held that the employees sent on deputation constituted a service PE of the assessee, and the income of the non-resident assessee was taxable in India to the extent of income attributable to the activities carried on by the non-resident through its permanent establishment in India.

This case illustrates the importance of a detailed FAR analysis in determining an international transaction’s arm’s length price.

The Case of Hoganas India (P.) Ltd. V. Dy. CIT and Wrigley India (P.) Ltd. V. Addl. CIT

Further, the cases of Hoganas India and Wrigley India showcase the application of FAR Analysis in real-life scenarios. These cases underscore how an in-depth FAR Analysis can help businesses avoid disputes and achieve compliance with transfer pricing regulations.

A thorough FAR analysis played a crucial role in determining the correct transfer pricing in these cases.

Key Takeaways from FAR Analysis

Transitioning from the intricacies of Transfer Pricing and FAR Analysis, here are the key takeaways from the article:

Transfer pricing refers to pricing transactions between related business entities, a critical aspect of international tax compliance.

* Function, Asset, and Risk (FAR) Analysis is central to transfer pricing.

* FAR Analysis is not merely a compliance requirement; it’s a tool that helps businesses navigate the complex waters of international transactions, ensuring fair pricing and avoiding penalties.

* FAR Analysis is mandated by Rule 10B of the Income Tax Rules to ensure transactions are at arm’s length.

FAR Analysis should be integrated into the transfer pricing strategy of multinational businesses operating in India.

* Furthermore, a robust FAR Analysis maintains the company’s reputation and promotes good corporate governance.


FAR analysis is not just a compliance requirement. It is a powerful tool that can help businesses to set prices that reflect the economic reality of their transactions, thereby reducing the risk of double taxation and potential penalties.

It helps companies to identify the most suitable comparables for their transactions, allowing them to benchmark their prices against the market and ensuring that they comply with the arm’s length principle.

As such, it should be seen as an integral part of the transfer pricing strategy of any multinational business operating in India.