TRANSFER OF PROFITS Transfer of Profits between Multinational Companies - Procedure of Tax Reduction and Fiscal Reactions

Transfer of Profits between Multinational Companies - Procedure of Tax Reduction and Fiscal Reactions Heading

Introduction

Managers of multinational companies are more and more concerned about consequences surrounding transfer pricing, in no small measurement because of the universal development of transfer-pricing legislation of detail relate is whether the management reporting theoretical approach deals the most prominent effect that managers confront in today's world-wide trade surroundings. The transfer price follow with the arm's-distance standard required encountering tax law. (Levey, 2001, pp.91-2)

International transfer profits create opportunities for multinational firms to shift profits between divisions situated in high-tax countries to those in low-tax nations. In so doing, they seek to minimise tax payments and thus increase corporate profits and shareholder value. The prevalence of this pattern has not been lost on tax agencies, as evidenced by the increasing number of countries enacting regulations to capture an appropriate share of corporate income. As such, multinational managers need to set transfer prices that are consistent with host-jurisdiction tax requirements. (Barrett, 1992, pp.47-92)

The conventional management accounting approach to transfer pricing has various dissimilar aspects. Foremost is economic efficiency. The decision framework focuses on whether intermediate products should be purchased inside or outside the corporate entity to maximize profits. A second issue is the selection of a transfer price, a process complicated by decentralized organizations that grant managers the right to set prices, which in turn affects their performance evaluations and rewards. The theoretical approach seen in management accounting often skirts these profit-shifting incentives. Moreover, it completely ignores the arm's-length requirement of tax regulators. (Tien, 2002, pp. 37-8)

We compared transfer prices based on today's theory based model with those seen in global business practices to determine whether management accounting offers transfer pricing that satisfies tax law. We found that the transfer price from the theoretical model is not always consistent with the arm's-length standard, particularly when the firm operates at less than full capacity. In this article, we offer suggestions to improve the traditional model and put it squarely in compliance with the global standard. (Vogele, 2002, pp.59-61)

Problem

Tax avoidance by multinational companies poses a serious problem for governments. Governments began to grow aware of eroding tax bases as multinational business expanded in the late 1960s. Since tax systems differ from country to country, multinational companies can reduce their tax burden by shifting profits to countries with relatively low tax rates. (Torrey, 2002, pp.37-8)

Theory

Transfer pricing is one method of tax avoidance. A transfer price is a price used for transactions among affiliates. Multinational companies can move income among affiliates located in different countries by manipulating the transfer price used in intra-firm transactions. For example, suppose a parent company in the United Kingdom sells goods to a subsidiary in Germany. Suppose also that the corporate tax rate in the United Kingdom is higher than the corporate tax rate in Germany. (Vogele, 2002) Assuming that a multinational company maximizes joint after-tax profits earned in the two countries, ...