Written by Jayasri P · Last updated 17 August 2026 · Statutory references current to the Income-tax Act 2025 and the Income-tax Rules 2026.
No royalty rate is defensible on its own. A royalty becomes defensible when you show that the intangible was genuinely used, that the rate follows a method selected under Section 165 of the Income-tax Act 2025 and applied under the Income-tax Rules 1962, and that the licence terms describe what the parties actually do.
Finance heads ask this question expecting a figure. That expectation is the difficulty, because no rate survives scrutiny by appearing in a table.
The question an officer actually asks is narrower. Did the Indian payer receive something, and can the amount paid be traced to evidence an unrelated party would have accepted?
What royalty rate is defensible in a transfer pricing audit?
The defensible rate is what your evidence produces. Defensibility belongs to the analysis behind a royalty rather than to the figure, and three conditions must hold together.
The intangible must exist and be used by the Indian payer. The rate must follow a method selected under Section 165 of the Income-tax Act 2025, which replaced Section 92C of the Income-tax Act 1961, and applied through the mechanics set out in Rule 79 of the Income-tax Rules 2026. The licence terms must reflect what the group actually does.
Where all three hold, a wide span is supportable; where any one of them fails, no rate is safe at all, because the officer never reaches the pricing question.
One note on drafting before the detail. Every rule cited here belongs to the Income-tax Rules 1962, and although the Income-tax Rules 2026 renumber the transfer pricing rules with the substance carried forward, the safer course is to state the 1962 rule with the tax year it governs.
Why does no single royalty rate work as a safe answer?
Because a royalty compensates a specific bundle of rights, and no two bundles are alike.
A trademark driving customer preference in India is a different economic asset from process know-how that reduces waste on a factory floor, and territory, exclusivity, duration, the right to sub-license and the split of functions between the parties all change what an independent licensee would pay. A rate quoted without those parameters carries no information.
Why does safe harbour offer a royalty no shelter?
It offers none, because a royalty does not appear anywhere in the safe harbour tables, unlike many of the transactions groups worry about.
Section 167 of the Income-tax Act 2025, carrying forward Section 92CB of the 1961 Act, empowers the Board to make safe harbour rules, and Rule 89 of the Income-tax Rules 2026 lists the transactions for which a declared price shall be accepted. That list is finite, and it covers software development services, information technology enabled services, knowledge process outsourcing, intra-group lending, corporate guarantees, contract research and development, and the manufacture and export of auto components.
A royalty is not among them.
That absence is a finding rather than a gap: a transaction sitting inside the Rule 89 tables can elect a prescribed outcome and stop arguing, whereas a royalty must be defended on benchmarking and evidence alone. This article therefore cannot hand you a rate.
What is the benefit test and why does it come first?
The benefit test asks whether the Indian entity received something of value for the royalty, and it comes first because it answers whether a payment for value exists.
An officer who concludes that no benefit was received does not dispute the rate, because the adjustment is the entire payment, and in most royalty files this is the largest exposure; group ownership is not sufficient on its own, and the payer must show it used the intangible in the tax year.
What evidence shows the intangible was actually used?
Operational evidence comes from the commercial side of the business, not the finance function. For a trademark, that means the name on products, packaging and local promotional material, and for technology it means documents transferred, training delivered and technical assistance given during the year.
Contemporaneous records carry the weight, and a support log proves far more than a summary prepared after a notice arrives.
How does Section 165 govern the rate you can support?
Section 165 requires the arm’s length price of an international transaction to be determined by the most appropriate method on the facts. A royalty paid to an associated enterprise is an international transaction under Section 163 of the Income-tax Act 2025, previously Section 92B of the 1961 Act.
The method is not a preference but a conclusion you must reach and record, together with the reasoning that eliminated the methods you rejected.
How does Rule 80 decide which method is most appropriate?
Rule 80 defines the most appropriate method as the one that gives the most reliable measure of an arm’s length price on the facts of the case, and it then sets six criteria for selection.
Factor (c) is the availability, coverage and reliability of the data available for the comparison, factor (d) is the degree of comparability between the controlled and uncontrolled transactions and between the enterprises entering into them, and a royalty file is usually weakest on exactly those two. The other four cover the nature and class of the transaction, the functions performed, the reliability of adjustments and the assumptions required.
Naming those factors matters, because a comparable set that fails on (c) and (d) has failed for a statutory reason rather than an arguable one.
When does a comparable uncontrolled price work for a royalty?
A comparable uncontrolled price works where genuine licence comparables exist and the material terms can be compared.
Rule 79 sets out how arm’s length pricing is determined under section 92C, and Rule 79(1)(a) describes the comparable uncontrolled price method, which takes the price charged in an independent transaction and adjusts for differences that materially affect price, and Rule 79(5) then governs the use of comparable data, which is where royalty comparisons are most often exposed.
A third-party licence in the same field is not enough on its own. The terms matter. You need visibility of what was licensed, the territory granted, exclusivity, how long the arrangement ran and what obligations travelled with it, and where those terms are unknown the comparison in your documentation is an assertion wearing the vocabulary of one.
Internal comparables are overlooked and are often more reliable. Where the group licenses the same intangible to an unrelated party on similar terms, that agreement is direct evidence you already hold.
What happens when no licence comparables exist?
The analysis usually moves to a profit-based approach testing whether the payer retains an appropriate return.
If the Indian entity performs routine functions and the royalty leaves it with a return consistent with what comparable independent companies earn, the arrangement is consistent with arm’s length conduct, whereas a royalty producing sustained losses invites adjustment however the rate was derived.
What does the arm’s length range produce?
It produces a range rather than a point, and Rule 81 governs how it is built: where the dataset holds six or more comparables and neither the profit split method nor the other method has been used, the range runs from the 35th to the 65th percentile, and a price outside it is replaced by the median.
Where those conditions are not met, the arm’s length price is the arithmetical mean, subject to a statutory tolerance on variation capped at three per cent. That tolerance is not a royalty rate.
What evidence does a defensible royalty position require?
A defensible royalty position organises the evidence by what is being licensed, because an officer reads it that way.
| What is licensed | What evidence establishes value | What a Transfer Pricing Officer tests |
|---|---|---|
| Trademark or brand name | Brand use on products, packaging and local marketing; how the brand affects customer choice in India | Whether the Indian entity built the local brand value itself, and now pays for what it created |
| Technology or process know-how | Documentation transferred, training records, engineering support logs, evidence the process runs locally | Whether the technology moved in substance, or was only referenced in the agreement |
| Patented product or design | Patent registration, territory covered, products it reads on, period of protection | Whether the patent is live in India and covers the products actually sold |
| Software or systems access | Deployment records, access provisioning, user counts, scope of rights granted | Whether the payment buys a right to use, or duplicates a service charged separately |
| Marketing and customer intangibles | Distribution rights, customer relationships, exclusivity and territory restrictions | Who performs and funds the marketing that maintains those intangibles |
| The licence itself | Executed agreement, effective date, term, exclusivity, sub-licensing and termination provisions | Whether the agreement predates the payments and matches observed conduct |
The last row decides most cases, and our note on inter-company agreements sets out what they record.
Why does legal ownership alone not entitle an entity to the royalty?
Legal ownership identifies the title holder, but it does not decide who is entitled to the return on the intangible.
The return follows the functions. An entity that performs and controls the development, enhancement, maintenance, protection and exploitation of an intangible, funds it and bears the risk earns the economic return, while an entity holding registration alone is weaker than the register suggests.
Where the Indian entity has funded local marketing and adapted products for this market, a royalty computed as though it contributed nothing is difficult to sustain.
What does a Transfer Pricing Officer examine first?
The officer examines whether a benefit was received before examining the rate.
On a reference under Section 166 of the Income-tax Act 2025, previously Section 92CA of the 1961 Act, the officer asks three questions, namely whether anything was provided, whether it was used, and whether the documents support the charge, and only then does the debate turn to method, which our summary of transfer pricing assessment procedure sets out.
Why does an agreement dated after the payment fail?
Because an independent party does not pay for rights it has not been granted.
An agreement executed after the payments began tells the officer that the royalty was set by group policy rather than by commercial negotiation, and once that inference has formed every other element of the file is read against it, including parts that would have helped you.
Why does a rate that moves without reason invite adjustment?
Because unexplained movement suggests the rate is responding to profit rather than to value.
A royalty that rises in strong years and falls in weak ones behaves like a residual allocation rather than a price, so if the rate changed the file should record what changed commercially, whether territory, term or a renegotiation at renewal. A change with no recorded reason is the easiest adjustment to propose.
Can an advance pricing agreement fix the rate for you?
An advance pricing agreement is the route to certainty on a recurring royalty, and rollback can extend it to earlier years.
Section 168 of the Income-tax Act 2025, carrying forward Section 92CC of the 1961 Act, allows an agreement determining the arm’s length price, or the manner of its determination, for future transactions, while Section 169, previously Section 92CD, governs its effect.
A primary adjustment to the royalty can trigger a secondary adjustment under Section 170, previously Section 92CE, which requires the excess money to be repatriated or treated as an advance carrying imputed interest, and our note on secondary adjustments explains that liability.
What should you check in your own royalty arrangement?
Read your royalty file and ask whether an outside reader could identify what the Indian entity received.
If the answer is no, the benefit test is the gap, and no amount of benchmarking will close it.
Sections 171 and 172 of the Income-tax Act 2025, replacing Sections 92D and 92E of the 1961 Act, govern documentation and the accountant’s report, while Rule 84 of the Income-tax Rules 2026 lists the information to be kept and Rule 85 prescribes the report from an accountant, both being prepared before the return is filed rather than when a notice arrives. Our note on wider compliance obligations covers the rest.
ITR World Tax named Steadfast Business Consulting (SBC) a Notable Transfer Pricing Firm 2024. The SBC transfer pricing practice helps Indian companies build royalty positions that hold. If your group pays or receives a royalty, have the royalty position reviewed.
Frequently Asked Questions
Is there a standard royalty rate accepted by Indian tax authorities?
No. Indian law prescribes no acceptable royalty rate, and royalties do not appear in the Rule 89 safe harbour tables, so no prescribed outcome exists. Section 165 requires the arm’s length price to be determined by the most appropriate method on the facts.
What happens if the benefit test fails?
The officer may propose disallowance of the entire royalty rather than an adjustment to the rate, because where no benefit can be evidenced there is nothing to price at all, which is why evidence of use matters more than the derivation of the rate.
Which method applies to a royalty payment?
Section 165 requires the most appropriate method, chosen against the six factors in Rule 80 of the Income-tax Rules 2026. Rule 79(1)(a) supports a comparable uncontrolled price where reliable licence comparables exist, and where they do not, a profit-based method examining residual profit is usually more reliable.
Can an advance pricing agreement cover past years?
Rollback provisions can apply the agreement to earlier years where the prescribed conditions are met. Section 168 of the Income-tax Act 2025 governs the agreement, and Section 169 governs its effect, including amended returns.
What documentation should support a royalty payment?
Keep the licence agreement signed before the payments began, proof of use for the year, the method analysis under Section 165, and the functional analysis, with Rule 84 and Rule 85 of the Income-tax Rules 2026 setting the documentation and accountant’s report requirements. — Sources: Section 165, Income-tax Act 2025 · Section 166, Income-tax Act 2025 · Rule 10B, Income-tax Rules 1962, predecessor of Rule 79 of the Income-tax Rules 2026