“Companies have an important role to play in societies across the world and one of those contributions is tax payments which are vital; it enables governments to provide infrastructure, education to workforces of the future, and pay for essential services.”
Katharine Teague, Senior Private Sector Adviser, Christian Aid
There is need to know that how multinationals are practicing/ employing tax avoidance strategies to reduce government revenues. Snapshot of those strategies with cross border examples are following;
Transfer Pricing (Royalties and Service Fees):
A Multinational will locate supplies, intellectual property and high-value
operations in low-tax jurisdictions like Ireland or Switzerland. Then will then charge inflated royalty and/ or service fees to a subsidiary, which reduces taxable income in the subsidiary country and inflates profit in the low-tax jurisdiction (which is subsequently taxed at a much lower rate). This strategy is supported by a bilateral double tax avoidance treaty between the low-tax jurisdiction and the subsidiary country, which may negate local withholding taxes on management fees, for example. Negotiated Incentives: Company or industry specific tax incentives and capital allowances that are often negotiated by a MNC with the government or development agency. Such incentives are provided to encourage investment and expansion by MNCs. Since 2008, Zambia Sugar (an Associated British Foods subsidiary) has
been subject to a 15% corporate tax rate instead of the regular 35% rate because Zambia agreed to recognize its income as “farming income,” a provision typically allowed only for domestic farmers. The company received
a second tax incentive in 2012 that reduced the tax rate on income generated from expanded operations.
Multinational often provide intra-company loans to subsidiaries. The interest paid on these loans reduces taxable income for the subsidiary. In some cases, a MNC will charge inflated royalty, management or other fees to an emerging market subsidiary, which reduces the subsidiary’s taxable income. The MNC will then provide a loan at a rate that may even exceed market rates. The interest paid on this loan further reduces taxable income in the emerging market and inflates income earned in the country where the loan originated.
Starbuck’s provided its UK subsidiary with a 2011 loan at Libor plus 4%, while Starbucks group bonds carry a coupon of Libor plus 1.3%. SABMiller’s wholly owned Mauritius subsidiary, Mubex, serves as a supplier to SABMiller’s Ghanaian subsidiary, Accra Brewery. Upon sourcing from Mubex, Accra Brewery’s gross profit declined dramatically. At the same time, Accra Brewery received a GBP 8.5 million loan that provides a GBP 76,000 annual tax shield. The Ghanaian corporate tax rate is 25%, while MNCs in Mauritius are taxed at 3%.
An umbrella term that refers to the routing of international payments through a third jurisdiction to exploit unique tax benefits. For example, when a MNC obtains a loan for its operations in an emerging market, it can route the loan through a country that has a tax treaty with the emerging market country to avoid local withholding taxes on interest payments. Bilateral tax treaties can also be exploited to reduce or eliminate taxes on dividends paid by the emerging market subsidiary to the parent. Both systems have been
used by Zambia Sugar. The prevalence of routing international payments through tax havens is reflected in OECD statistics on foreign direct investment (FDI). For example, in 2010, Barbados, Bermuda and the British Virgin Islands received more FDI (5.11% of global FDI) than Japan (3.76). That same year, the British Virgin Islands alone were the second largest investor in China (14% FDI), ahead of even the United States (4% FDI).
These tax strategies minimise a company’s corporate tax burden, but they also undermine national development by eroding a country’s tax base, an issue that should be of particular concern for companies and investors with an economic interest in the growth of any country. Indeed, in developing countries like when government face scarcity of funds then they shift the burden on consumers through indirect taxation which ultimately makes hindrance to the growth of middle class and push the lower middle class to wards poverty line. Preventing aggressive corporate tax practices and mitigating the related risks will require action on the part of governments, regulators and companies themselves.