Question

Which of these MNC strategies for shifting paper profits to tax havens is a definition of “transfer pricing”?

a)Using intra-group borrowing (with affiliates in low-tax places lending money to related firms in high-tax countries)

b)Manipulating intra-group import and export prices (with affiliates in high-tax countries importing goods and services at high prices from related firms in low-tax countries)

c)“Locating” intangibles (such as patents, logos, algorithms, etc.) in tax haven subsidiaries

d) None of the above

Answer 1

(a) , (b), ( c )

All the above options are examples of transfer pricing

Explanation:

Companies with offices in multiple countries exploit the the differential tax regimes in different countries in order to avoid paying tax in countries with higher corporate tax rates. They channel their profits to their subsidiaries in low tax countries by showing them in various ways like royalty payments, payment for some goods and services etc. at higher prices. These cash out flows can be deducted as expenses to avail tax exemptions in countries with high tax rates.

In (a), the affliates in low tax countries can lend to affliates in high tax countries. The high tax country can deduct the interest on the loan and reduce its tax liability in the higher tax country.

In (b), the affiliates in high-tax countries import goods and services at high prices from related firms in low-tax countries and claim these as expenses, thereby exempting them from taxation in the high tax countries. This again reduces its tax liability in the high tax countries.

In (c), companies can locate intagible assets in tax havens. They later channel payments to these low tax countries and show them as royalty payments in the high tax countries. These royalty payments can be claimed as business expenses and are exempt from tax, thereby reducing the company's tax liability.