Analysis, Income Tax

What constitutes an Associated Enterprise?

Section 92A of the Income Tax act provides the meaning of Associated Enterprise, yet there has been considerable litigation around the subject. In this article, we will take a look at what’s the much ado all about.

Simplifying Section 92A


Unless a domestic enterprise is linked with a foreign “associated enterprise”, transfer pricing provisions in Chapter X of the Income Tax Act do not apply to the domestic enterprise.

Sub-Section 92A(1)

This subsection provides a broad classification of the provision. All the below visuals signify that the foreign and domestic enterprises are associated. (Arrows indicate the participation in management, control, or capital.)

Deeming Fiction

Deeming fiction is an important legal concept. Development of law is influenced by the societal or economic relationship. When lawmakers believe that certain economic/ societal relationship, in a practical sense, should come within the definition of a class, they declare so by imposing a deeming fiction in the law. For example, the law declares husband and wife are deemed to be relatives.  Section 92A(2) says that two enterprises will be deemed to be associates enterprises if a certain economic relationship is present between them

Here are the deeming fictions listed in sub-section 92A(2)

Voting power: One or the other enterprise has 26% or more voting power in the other or a third enterprise has 26% or more voting power in both the enterprises.

Loans: Loan of 51% or more of the book value of the total assets of the other enterprise is provided by the other enterprise.

Guarantee: One enterprise provides a guarantee of 10% or more on the total borrowings of the other enterprise.

Majority directors: One enterprise appoints majority of directors or one or more executive directors of the other enterprise, or a third enterprise does it for both.

IP: If one enterprise is completely dependent on the IP, completely owned by the other, to conduct its business.

Raw Materials: 90% or more of the raw materials one enterprise uses are supplied by the other enterprise at a specified price.

Customer: The goods manufactured by one enterprise are sold to the other enterprise at a specified price.

Familial Control: The two enterprises are controlled by the same individual or the individuals are relatives or an HUF.

Firms & Associations: If one enterprise is a firm or association of persons, the other enterprise holds 10% or more interest in the firm.

Mutual Interest: There exists between the two enterprises, any relationship of mutual interest, as may be prescribed.

What’s the Issue?

A question often arises: are sections 92A(1) and 92A(2) mutually exclusive of each other or are they to be read together to classify two entities as ‘Associated Enterprise’?

Sometimes Yes

The following decisions read together with the explanatory memorandum imply that Section 92A(1) and Section 92A(2) are to be read together while determining whether two enterprises are `associated enterprises’ or not. Section 92A(2) operates as a deeming fiction on which the operation of Section 92A(1) depends.

Sections 92A(1) and 92A(2) are to be read together, otherwise, the other provisions would be rendered redundant. Hence, all the conditions enumerated in 92A(1) and 92A(2)  need to be fulfilled in order to classify an entity as an ‘Associated Enterprise.

A conjoint reading of 92A(1) and 92A(2) is required. Even if the enterprise is de facto controlling the capital or management of the other enterprise, if the provisions of Section 92A(2) are not satisfied, then these two enterprises cannot be termed as ‘Associated Enterprise’.

Memorandum attached to the Finance Bill, 2002, which amended Section 92A(2)

It is proposed to amend sub-section (2) of the said section to clarify that the mere fact of participation by one enterprise in the management or control or capital of the other enterprise, or the participation of one or more persons in the management or control or capital of both the enterprises shall not make them associated enterprises unless the criteria specified in sub-section (2) are fulfilled.

Sometimes No

The following implies that Section 92A(1) can be independently applied and Section 92A(2) is an example of how it can be applied.

“Even if the conditions mentioned in 92A(1) are independently satisfied then too the entities may be termed as Associated Enterprise.  With regards to the explanatory memorandum, the tribunal stated that no provision enumerated under 92A(2) prescribe any criteria with respect to participation in the management of an enterprise by another enterprise. Hence, the operation of Section 92A(1) does not get affected by the criteria enumerated under Section 92A(2).

Two entities are AEs needs to be determined u/s 92A(1), 92A(2) is a deeming fiction and the grounds mentioned therein are the only illustration of the manner in which 92A(1) has to be applied.

ITAT Mumbai reconsiders its position

Mumbai ITAT has once again reviewed its position in a recent decision. This case involved the same assessee in whose case the Mumbai ITAT in 2018 held that to constitute an AE, it would be sufficient if conditions of 92(A)(1) alone are satisfied.

Tribunal had a change of mind, so much so that it overruled its own earlier decision of 2018 and by, referring to the Memorandum to the Finance Bill of 2002 and CBDT Circular No. 8 of 2008, held that for the constitution of AE, Section 92(A)(1) must be considered with at least one of the conditions of Section 92(A)(2).

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Soumya Shekhar, legal writer @ Riverus.

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