Transfer Pricing A Managerial and US Perspective

1. Transfer Pricing A Managerial and US Perspective Art Franczek President of The American Institute of Business and Economics artf@online.ru

2. Introduction, Why Valuation is a Critical Business Issue • Example: One Transaction Three Values • Transfer of Intangibles, A Major issue in US Transfer Pricing • US Tax Reform proposals on Transfer Pricing and Intangibles

3. Oscar Wilde once described a cynic as “one who knows the price of everything but the value of nothing”

4. Valuation issues are a major factor in many areas of business. In Transfer pricing and Customs issues Valuation methods are central to determining the Taxable base. • Valuation is more Art than Science and Tax Authorities often disagree on the value of assets. In a recent Tax Court case the Taxpayer valued intangible assets at 118 million dollars while the IRS used 2.5 billion dollars.

5. One Transaction 3 Values • A Transfer Price is the price charged when one segment of a company provides goods or services to another segment of the company. • GM owns 100% of Buick and Chevrolet (both companies are located in Michigan) and transfers car batteries from Chevrolet to Buick. The cost of each battery is as follows: Variable cost $50 • Fixed cost $40 • Full Cost $90

6. For Managerial Accounting (used for performance measurement) purposes GM would use the variable cost of $40 as the transfer price. For purely domestic purposes this price would communicate information that results in decision making by managers and provides a basis for performance measurement.

7. If Buick is located in Russia section 482 of the Internal Revenue Code would apply and the” arm’s length” (determined the by comparable uncontrolled price, resale price method or the cost plus method). In this instance the transfer price of the battery might be $120. • When the batteries are imported into Russia the their Value would be subject to the Customs Tariff Law Valuation methods. For Customs purposes the value of the batteries might be $140.

8. Transfer Pricing is a major issue for US MNCs/ • Studies indicate that over $60 billion dollars in Tax Revenue is lost because of Transfer Pricing structures by US MNCs and over $1 trillion dollars in foreign profits that are not taxed in the US are held by US MNCs. • In recent years more US MNCs have been transferring profits overseas. Drug companies particularly favor Transfer Pricing structures.

9. The United States is the only major industrialized economy that taxes it’s corporations on a worldwide basis and has a tax rate in excess of 25%( 35% in US). • US MNCs are allowed to defer US tax on Foreign Earnings until they are repatriated. • Subpart F rules require that certain kinds of foreign income (interest , rents, royalties,insurance) be taxed immediately.

10. A typical MNC might transfer an intangible asset (patent, trademark, license etc.) from the US (tax rate 35%) to Ireland (effective rate 7.7%), Bermuda(2.6%), Cayman (9.1%) . By doing so, the MNC can defer their low taxed earnings and lower their overall effective tax rate. • For example Drug Company X transfers a patent (value $5million, 500k annual royalties paid by the US MNC) to Ireland (7.7%). The 500k would be taxed at 7.7% and the after tax earnings of 462k will be deferred indefinitely.

11. Tax Reform Proposal • If a US person transfers an intangible asset from the United States to a related controlled corporation that is subject to a low effective tax rate in circumstances that evidence income shifting, then an amount equal to the excessive return would be treated as subpart F income in a separate foreign tax credit limitation basket. • It is estimated that this proposal will raise 12 billion dollars annually.

12. “The art of Taxation is like plucking feathers from a goose. The idea is to pluck the maximum amount of feathers with the minimum amount of squealing” Bismark

13. Thank You Art Franczek President of The American Institute of Business and Economics artf@online.ru