Page 5 - Working Paper (Multinational Firms Losses and Profit Shifting Behavior in Indonesia: Some Comments)

DDTC Working Paper 1215
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income tax policy could not be seen as isolated 3.2. The Schemes
expanse as it also affected other countries, and
vice versa. Multinational firms own various channels
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to shifting profit. However, two popular
Under globalization, multinational profit shifting strategies are: transfer price
enterprise could utilize asymmetrical tax manipulation and debt shifting, since
systems that will bring the highest economic opportunities and incentives are greater for
return. Such asymmetrical system starts with both schemes. Supremacy of both schemes can
national tax sovereignty to design their tax be traced from number of disputes, limelight, or
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policy, irrespective of the other country’s policy. any empirical studies.
The interaction between these national tax
Transfer price manipulation is an effort to
systems then creates tax distortionary effect,
over or under invoice a related party in order
since there are possibilities to over taxation
to exploit cross-border differences in corporate
(double taxation) and under taxation (double
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tax rates. Transfer price manipulation is not
non-taxation).The current international tax
only about the pricing of product or service;
system also creates opportunities to profit
currently, migration of intangible property,
shifting, namely by separate accounting
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approach and treatment of interest expense . business restructuring, and payment of
management fee without substance are getting
Furthermore, the intense of tax competition popular. Intangible property -which is the most
to attract capital yet permits countries to disputable area in transfer pricing nowadays-
maintain different corporate tax rates, which involves debates on legal and economic
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distort business decision making. All else ownership, as well as valuation technique.
being equal, profit shifting is a corporate Moreover, commercial dynamics would
tax rate sensitive activity. In general, with most often render business restructurings
consideration of various empirical results, 1% unavoidable and often serves as a scheme to
increase of tax rate difference will have impact transfer price manipulation. Changing business
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of 0.8% decrease in pre-tax profitability. This scheme (legal form) without reallocation
is exacerbated by the existence of tax haven of functions, assets, and risks (economic
countries. Study by Jansky and Praats found substance) potentially will change allocation
that Indian multinational firms with tax havens of remuneration within the multinational
network would result in 1.5% less profit and enterprises in an unfair way. 20
have 11.4% higher debt ratios than with no
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connection. In the end, it is worth noting On the other hand, financing strategy
that international evidences on profit shifting through debt is more preferable since debt
strategies provide ample proof of the fact is a tax base reduction element, and as a
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that corporate tax rate differences tend to be consequence, lowers the cost of capital.
followed by aggressive tax planning. Moreover, incentives to fund their foreign
related party by intercompany loan increases

16. Kimberly A. Clausing, “Multinational Firm Tax Avoidance and Tax
Policy,” National Tax Journal Vol. LXIl, No. 4, (2009): 703-725. At the
11. Separate accounting approach warrants variation of calculation of scene, Google, Amazon, Starbucks, and Apple were among the most
taxable profit for each country, as to determine the amount of tax to popular example on how the business takes opportunity from mismatch
be collected by tax authority. With separate accounting system, internal of tax policies across countries. See detail profit scheme by Google in
transactions within a multinational enterprise will much depend on tax Clemens Fuest, et al., “Profit Shifting and ‘Aggressive’ Tax Planning by
consideration, since no countries apply unitary framework to comprehend Multinational Firms: Issues and Options for Reform,” ZEW Discussion
the business as a whole and see how multinational enterprise allocates Paper, No.13-044 (2013).
their profit. See Arnaud de Graaf, “International Tax Policy Needed to 17. For instance, see trend in transfer pricing disputes as discuss in detail
Counterbalance the ‘Excessive’ Behaviour of Multinationals”, EC Tax in Eduardo Baistrocchi and Ian Roxan (eds), Resolving Transfer Pricing
Review, Vol. 22, Issue 2 (2013): 106. Disputes: A Global Analysis (Cambridge: Cambridge University Press,
12. Tax treatment of interest and dividend payments is commonly 2012).
distinguished. The first will be deductible when computing corporate 18. Lorraine Eden, “Taxes, Transfer Pricing, and the Multinational
income tax liability, the second will not. For multinational enterprise, this Enterprise,” in The Oxford Handbook of International Business, ed. Alan
situation incentivized them to fund their subsidiaries (intra-group) with M. Rugman. (New York: Oxford University Press, 2009), 593.
excessive debt (thin capitalization). 19. Loek Helderman, Eduard Sporken dan Rezan Okten, “The Revised
13. Arthur J. Cockfield, “Introduction: The Last Battleground of OECD Discussion Draft on Transfer Pricing Aspects of Intangibles,”
Globalization,” in Globalization and Its Tax Discontents: Tax Policy and International Transfer Pricing Journal, Vol. 21, No.1 (2014): 5.
International Investments, ed. Arthur J. Cockfield. (Toronto: University of 20. Anuschka J. Bakker and Giammarco Cottani, “Transfer Pricing and
Toronto Press, 2010), 5. Business Restructuring: The Choice of Hercules before the Tax Authorities,”
14. See Jost H. Heckemeyer and Michael Overesch, “Multinational’s International Transfer Pricing Journal, Vol. 15, No. 6 (2008): 276; and
Profit Response to Tax Differentials: Effect Size and Shifting Channels,” Joel Cooper and Shee Boon Law, “Business Restructuring and Permanent
ZEW Discussion Paper, No. 13-045, (2013). Establishments,” International Transfer Pricing Journal, Vol. 17, No. 4
15. Petr Jansky and Alex Prats, “Multinational Corporations and the (2010): 249.
Profit-Shifting: Lure of Tax Havens,” Christian Aid Occasional Paper, No. 21. Aswath Damodaran, Applied Corporate Finance (John Wiley and
9 (2013): 9. Son, 2010), 493.