(Tiểu luận) group assignment transfer pricing in multinational corporations in vietnam

Overview of transfer pricing in multinational corporations MNC - Categories: There are four categories of multinational corporations:  A multinational, decentralized corporation with s

GROUP ASSIGNMENT TRANSFER PRICING IN MULTINATIONAL CORPORATIONS

IN VIETNAM

Nguyen Nhu Ngoc - 1117150014 Nguyen Hoang Quy - 1113150022

Phuong Phuong Thao - 1112150129

Le Nguyen Khanh Trang - 1111150194

Le Thi Thu Trang - 1111150190

Nguyen Anh Viet - 1111150020 Nguyen Đinh Vinh - 1117150123

Hanoi, May 2013

I Overview of transfer pricing in multinational corporations (MNC) 4

1 Concepts 4

2 Signs of transfer pricing 6

3 Motivations for transfer pricing: 7

4 Scope of transfer pricing 9

II Situation of transfer pricing in Vietnam 10

1 Legal environment in Vietnam 10

2 Typical types of transfer pricing in Vietnam 12

3 Impacts on Vietnamese economy 15

III Suggested solutions 18

1 Anti transfer pricing experience from other countries 18

2 Suggested solutions for the situation 20

CONCLUSION 23

REFERENCE 24

INTRODUCTION

In recent years, along with the development of the globalization process, Foreign Direct Investment (FDI) in Vietnam has increased very sharply, contributing a lot to the development of Vietnam's economy, especially in the industry sector However, besides the positive results, this kind of investment has also brought equal complex issues The number

of cross-border commercial transactions between associated companies is on the rise Due

to the increasingly fierce competition, the problem of profit maximization for the corporation is always the main concern of foreign investors In addition to improving the performance of invested business, transferring pricing is considered one of the most effective methods that is often applied by the investors with the purpose of avoiding tax, which eventually increases total benefits of the firms

The necessity of the topic

While tasfe pie is a elatiel e pheoeo i Vieta’s tadig aea, eet transactions which have foreign elements appear to show increasingly more signs of this phenomenon Foreign companies have long been reported to use tortuous tricks to transfer pofits to thei othe opaies ithout haig to pa ta i Vieta Fo eaple, global beverage giant Coca-Cola has also been fingered for alleged transfer pricing fraud, a scandal that created a stir recently after the companies has operated in Viet Nam for about

10 years without ever reporting a profit

Tasfe pie ot ol auses a aiet of daages to the host out’s goeet, partners as well as consumers due to tax losses, reduced profit of the investment contributor of the host country, but also has negative impacts on international trade The rules of free market and the fact that the law of supply and demand does not work in multi-national corporations disturb the international circulation This leads to the situation of unfair competition

This fat is alaig, espeiall he Vietaese goeet’s udget has ee suffering from a huge amount of tax losses due to transferring price of these companies It also causes more serious problems negatively affecting the macroeconomic policies, tax

policies, investment environment, the competiveness of the market, inequality between pate opaies…

The purposes of the study on this topic

This study aims at helping people to have a deep insight and thorough understanding about the concepts, the signs, methods, motivation as well as the negative impact of transferring price We also investigate the current situation of this issue in Vietnam and recommend some solutions, suggestions to relieve this situation from continuing, making equal chances as well as good competitive market, strict legal environment for both the local and foreign companies to develop in the future

The scope of stu dy

Multinational companies/brand names have agencies operating in Vietnam

The applicability of the topic

Studying transfer price activities in MNC in Vietnam helps with the improvement of a clear and healthy investment environment in Vietnam It also supports the building of a more strict enterprise law, foreign investment law and some tax polices of the government Additionally, raising the awareness of the authorities about serious consequence of this problems, from that, having more strict constraints and appropriate punishment methods to prevent this situation from occurring is also one of the most important applications Finally, the management of these kinds of companies might apply some more special supervision systems, especially, taxes policies, foreign capital investment attraction policies should be

more strict, systematical and synchronized

The general structure of this study

Our study contains 3 main parts:

I Overview of transfer pricing in multinational corporations (MNC)

II Situation of transfer pricing in Vietnam

III Suggested solutions

I Overview of transfer pricing in multinational corporations (MNC)

- Categories:

There are four categories of multinational corporations:

 A multinational, decentralized corporation with strong home country presence

 A global, centralized corporation that acquires cost advantage through centralized production wherever cheaper resources are available

 An international company that builds on the parent corporation's technology or R&D

 A transnational enterprise that combines the previous three approaches

- Characteristics:

 Large size Multinational companies have huge resources in terms of capital, technology, people and information

 Multi-country operations Multinational companies operate in several countries They can have production, marketing and service type of operations They cover large geographical areas They have assets and activities in two or more countries

 Various objectives

Multinational companies pursue various objectives like:

+ Access to new market opportunities to expand market size

+ Access to cheap raw materials to reduce costs and increase competitive capacity + Access to cheap source of labor to reduce costs of labor and energy

 Various environments Multinational companies operate in various environments The political, legal, economic, social, cultural and technological forces differ from country to country

 Centralized ownership and control The ownership and control of multinational company is centralized in the home country They provide share ownership to local people in host countries

 Multiple currencies Multinational companies deal in currencies of several countries The risk is high because

of changing values of currencies in host countries

 High efficiency Multinational companies are highly efficient due to:

- Mass production leading to economic of scale

- Use of advanced technology to increase speed of production

- Professional management and marketing skills to use resources effectively

b Transfer pricing in MNCs

A tasfe pie is the pie at hih oe opa us ad sells goods o seies o shares resources with a related affiliate in its supply chain Aggressive transfer prices may inflate profits in low-tax jurisdictions and depress profits in high-tax countries Thus,

tasfe piig is the sste of las ad paties used  outies to esue that goods, services and intellectual property transferred between related companies are appropriately priced, based on market conditions, such that profits are correctly reflected in each

jurisdiction In other words, transfer pricing is a profit allocation method used to attribute a corporation's net profit or loss before tax to tax jurisdictions

Transfer pricing generally considered is to be the major international taxation issue face

d byMNCs today is an enormously important issue for many countries, developing and Itdeveloped

Whenever goods cross national borders within the channels of a multinational corporation (MNC), a transfer price must be calculated for tax purposes When corporate tax rates differ on the two sides of the border, the MNC has an incentive to set its transfer prices in a way that reduces its tax burden by reporting higher profits in the country where corporate profits are taxed more lightly The purpose of this activity is to manipulate prices between the headquarter and the subsidiaries so that profits are highest in the low tax country

2 Signs of transfer pricing

The most common sign of transfer pricing is that firms declare losses for many consecutive years while still expanding their investments in one country and conducting significant business transactions in other countries There firms may have intentional loss for 3 years, then the nest 1 or 2 years with little profit, so it has accumulated losses In order

to turn profits into losses or set up a low profit rate, FDI enterprises can not work alone, they usually coordinate with those in the same organizations or groups These enterprises arrange the price through coordinating trade Also through this transaction, the companies

in the group can reduce the total tax liability on a global scale, the profit after tax is then increased

Another common phenomenon of transfer pricing is that the enterprises under production process business declare a high price level of inputs, and find ways to increase other costs (advertising, promotion cost) in order to eliminate the profit Compared with other enterprises in the same industries, it can be easily seen that the cost of FDI enterprises is often irregularly higher; also, some companies take advantage of the host country's preference for the reduction in advertising, promotion costs to advertise for the parent company

Using interest expense is also another measure of FDI businesses When the parent company transfer materials, components and supplies that the host country can not produce, the companies in the host country report no money pickup, the parent company accepts deferred payment which will be made after selling the products, then they will have

to pa a iteest fo this peiod “o the opa’s pofit is iluded i iteest epese, which leads to zero profit The real profit, through interest payments, is moved to the parent company

3 Motivations for transfer pricing:

a External motivations:

Evading tax:

Differences in corporate income tax rates between countries create profitable opportunities for MNCs to engage in transfer pricing MNCs often artificially raise or lower transaction price such as the purchase price of raw materials, the selling price and exporting price of goods and hence transfer part of the profit from the countries with higher tax rates

to the countries with lower tax rates so that they can minimize corporate income tax burden and maximize profits after tax

MNCs usually take the opportunity to select the appropriate exchange rate to pay, and use the transfer pricing to enhance the effectiveness of this approach, so that the risk can be further reduced

In addition, MNCs also wish to preserve and develop the initial capital investment in original currencies Based on the forecast the exchange rate that the MNC can implement of

internal payments sooner or later in order to reduce the exchange rate risk The liabilities can be paid sooner if the forecast shows a tendency of high inflation and devaluation of currency in the host out, hih eas that the MNC’s iitial iestet is deeased And vice versa, the payments will be delayed if the country currency is expected to have 'sstronger purchasing power

+ Another area susceptible to transfer pricing is political risks

In the case of occurrence of political turmoil or economic policy changes in the host country which affect benefits of MNC subsidiaries, MNCs will implement transfer pricing in order to reduce risks and reserve business capital

MNCs may transfer the material and equipment confiscated by the local government to subsidiaries or affiliates at low prices, or acquire goods of other subsidiaries at high prices

By doing this, MNCs have transferred plenty of funds outside the host country and reduce the impact of political risks

Moreover, when some governments in host countries implement the policies of market price control in order to limit and manage the operations of MNCs, MNCs could also use the practice of transfer pricing as a counter measure to avoid the price limit

Opportunity cost:

The opportunity cost is also a driving force behind the implementation of transfer pricing The MNC realizes that their profits may only be transferred to the parent company after the end of the fiscal year and the close inspection by the tax authorities, under the control of foreign exchange management agency Therefore, the investment opportunity may be missed Hence, MNCs will engage in transfer pricing procedure in order to recover quickly the initial investment and seize other investment opportunities

Adjusting the flow of internal funds to gain competitive advantages:

In order to improve the competitiveness of overseas subsidiaries, MNCs often provide extremely low transfer price in granting their subsidiaries raw materials, components or finished products and so on, so that their subsidiaries can have a price advantage, improve the business reputation, and increase the market competitiveness in the host country in order to beat some opponents and expand the international status of the corporation In

addition, in order to avoid excessive profits to the investors in the host countries, the acquisition of local shareholders, the demand of the government in the host country and even the risk of retaliatory behaviors, the MNC can also depress the profitability of their subsidiaries, then they can buy goods from the subsidiaries with lower price or sell goods to the subsidiaries with higher price

b Internal motivations:

Aside from the external engines mentioned above, transfer pricing is also motivated by the inside engine In the typical case, the MNC has internal motivations for setting a transfer price such as performance evaluation of subsidiary managers, better tracking of intrafirm flows, efficient resource allocation within the MNC group and so on

In addition, when the business activities of the parent MNC or its subsidiary companies fall short of expectation, reasons for possible loss are mostly mistakes in business planning, mistakes in researching and introducing new products to the market, or overly high managing costs and advertising expenses In order to create a brighter financial picture for the company in front of shareholders and stakeholders, transfer prices help the MNC share losses among members, thereby reducing the amount of tax payable and creating misleading business situation picture that violates the corporation law

Last but not least, transfer pricing is designed for and ideally suited to internal management and accountability of corporate profit centers and cost centers, thereby contributing to better overall management of corporate operations Transfer pricing can potentially distort this very useful activity, if the focus is solely on tax minimization, and does not consider the goal of better management and accountability

4 Scope of transfer pricing

Transfer pricing with the meaning of transferring value in internal relation must be

osideed ithi the sphee of the assoiated sujets’ tasatio Atile  of the OECD Model Tax Coetio  o tasfe piig eoded To etepises osidered Associated Enterprises if one engages in the management, administration or capital

otiutio to the othe eithe dietl o idietl o though iteediaies. Management, administration or capital contribution is the main factor that decides the impact, the harmony in interests of these entities so it is also the base to determine the

associated relationship The characteristics of these expressions are not principle Thus, associated enterprises can be formed in the same country or in many different countries Therefore, transfer pricing happen not only in the international transactions but also in domestic transactions

In fact, the transfer pricing situation is more often concerned with international transactions due to the evident difference in tax policies between countries Meanwhile, because of the principle of national treatment, tax obligations from domestic transactions form less disparity Therefore, most countries now usually have only transfer pricing regulations for international transactions Accordingly, international transactions are defined as transactions between two or more associated enterprises involving a non-resident entity The main difference lies in the disparity of income tax rate of each country

A transfer value through profit rates from an associated enterprise residing in countries with high tariffs to another in low-tax countries By contrast, an amount of the increasing cost of the purchase price will reduce the local income in countries with high tax rate In both case, the total after-tax income as the the entire associated group increases On another aspect,

the domestic transactions can benefit from incentives and tax exemptions

II Situation of transfer pricing in Vietnam

1 Legal environment in Vietnam

Transfer pricing is a mal-practice in business However, many multination corporations i Vieta hae take it ito patie oadas The easo fo all that is thee has’t ee any appropriate kind of solutions for that issue Fortunately, we are working on that thoroughly to shield Vietnam economy system

The government has imposed some rules that share a lot of patterns with Organization for Economics Co-opeatio ad Deelopet’s OECD OECD’s egulatios ae oduted

in many countries all over the world Though Vietnam is not a member of the organization, these egulatios ae osideed uiesal iteia i easuig ad otollig MNC’s practice of transfer pricing

Vietnam has established an open economy since 1986, however, transfer pricing was only introduced in 2005 It started with 117/2005/TT-BTC at // It’s aout evaluating the market price in business transactions among partners Reflected through reality, this regulation has shown some flaws, most of which are related to transfer pricing database and applying supervision to real transactions practice Alongside with taxation law, and most importantly, tax supervision, management in recent years, the Ministry of Finance has imposed 66/2010/TT-BTC to guide people to evaluate market price in transactions After this regulations, we have gradually had suitable manner and intention to this serious issue Tax management has been taken into account and improved considerably in the practice of supervising and examining Transfer pricing through this is understood as a profit allocation

ethod used to attiute a opoatio’s et pofit o loss efoe ta to ta juisditio, ith the aim to minimize the amount of tax that firm has to pay the government This Decree came to reality 45 das afte eig siged Its tagets ae podutio hais, tadig fis,… Thee ae  oditios that fis hae to eet ith this egulatio: it’s a fi; it has transactions with relating parties; it also has the obligation to pay tax to Vietnam government

Decree 66 shows that it applies to all practices as selling, buying, trading, borrowing, lending goods and services while having co-operation To define clearly about partnership and co-operation, Article 66 also mentions 3 below types:

Firstly, one party directly or indirectly involves in running, controlling, investing to another party

Secondly, one party being directly or indirectly run, controlled, invested by another party

Thirdly, all parties directly or indirectly involve in running, controlling, investing to other parties

The podut’s pie of tasatios, hih is defied i this Deee, is ealuated ased o the aket’s pie The opae assoiated tasatios to idepedet tasatios, following 1 out of 5 methods, which are: comparig idepedet tasatios’ pie; tadig price; adding equity to retained earning; comparing profit or extracting profit