GLOBAL ACCOUNTING AND CONTROL: A MANAGERIAL EMPHASIS

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GLOBAL ACCOUNTING AND CONTROL A MANAGERIAL
EMPHASIS

• Sidney J. Gray, University of New South Wales
• Stephen B. Salter, University of Cincinnati
• Lee H. Radebaugh, Brigham Young University

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CHAPTER SIX

• TAXATION AND THE MULTINATIONAL ENTERPRISE

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INTRODUCTION

• Challenges to the MNE in terms of taxation of its
  global operation
• Variety of taxes and types of taxable income.
• Home govts. want to tax global income.
• Key taxes for MNEs
• Direct taxes, e.g., corporate income taxes
• Indirect taxes, e.g., Value Added Tax.

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DIRECT TAXES KPMG Corporate Tax Rate
Survey Statutory Corporate Tax Rates All 86
Countries 1993-2006
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DIRECT TAXES Statutory Corporate Tax Rates by
Global Region 2006
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DIRECT TAXES Statutory Corporate Tax Rates EU
1993-2006
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DIRECT TAXES Average Corporate Tax Rates EU
2000-2006
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DIRECT TAXES Statutory Corporate Tax Rates EU
2000-2006
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DIRECT TAXES Statutory Corporate Tax Rates
Comparison OECD 2000-2006
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DIRECT TAXES Statutory Corporate Tax Rates
Comparison OECD 2000-2006
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DIRECT TAXES Statutory Corporate Tax Rates
Comparison OECD 2000-2006
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DIRECT TAXES Statutory Corporate Tax Rates
Comparison G7 1993-2006
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DIRECT TAXES Statutory Corporate Tax Rates
Comparison by Global Region
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Direct TaxesDecline in Statutory Corporate Tax
Rates 1993-2006

• Consistent and dramatic reduction worldwide in
  corporate tax rates over last 14 years
• Reductions began in UK in mid-1980s when
  government of Margaret Thatcher lowered corporate
  tax rate from 52 to 35 between 1982 and 1986
  forcing other countries to follow suit.
• In past 14 years, average corporate tax rates of
  countries in KPMG Survey declined 28.7 dropping
  from an average of 38 to 27.1.
• Worldwide competition between trading blocs such
  as ASPAC nations, Group of 7, OECD, and EU has
  had impact on corporate tax rates

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Direct TaxesDecline in Statutory Corporate Tax
Rates 1993-2006

• Has been clear impact on EU tax rates from 10 new
  countries that joined EU in 2004.
• In 1993, when EU comprised 15 nations, average
  corporate tax rate was 38.
• By 2006, when EU comprised 25 nations, rates
  dropped 12.2 percentage points to 25.8, a
  decline of 32.
• With average corporate tax of 18.4, Eastern
  European states that joined EU in 2004 have among
  lowest tax rates in Europe.
• Among major nations in EU, Germany slashed its
  corporate tax rates from 59.7 in 1993 to 38.3
  in 2001, a decline of nearly 36.
• The German government recently decided to reduce
  its corporate tax rate from 38.34 to about 29
  beginning January 1, 2008.
• With reduction, Germany will move from highest
  tax rate to a rate that is in line with other
  countries in Western Europe

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Corporate Statutory Tax Rates Around the World
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Corporate Statutory Tax Rates Around the World
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Corporate Statutory Tax Rates Around the World
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Corporate Statutory Tax Rates Around the World
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Corporate Statutory Tax Rates Around the World
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Corporate Statutory Tax Rates Around the World
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Corporate Statutory Tax Rates Around the World
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DIRECT TAXESCorporate Income Tax

• Key questions
• what income is taxable?
• what expenses are deductible?
• what additional taxes will be charged when
  dividends are paid.

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DIRECT TAXESWhat Income is Taxable?

• Two approaches to taxation of foreign source
• income
• Territorial approach, e.g., Hong Kong. Only
  income earned in Hong Kong should be taxed there.
• Worldwide approach, e.g., U.S.. Taxes both
  domestic and foreign source income. Can lead to
  double taxation but this can be minimized through
  tax credits and tax treaties.

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DIRECT TAXESDetermination of Expenses

• The way expenses are treated for tax purposes,
  can cause differences in tax paid

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DIRECT TAXESWithholding Tax and Taxing Dividends

• The income earned by a foreign subsidiary is
  taxable in a foreign country when cash is
  returned to the parent through
• dividends,
• royalties
• interest on intra company debt,
• When cash is returned to parent withholding taxes
  are often deducted.

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DIRECT TAXESWithholding Tax and Taxing Dividends

• There are two approaches to taxing
• corporate income
• Classic System e.g., US
• income is taxed when the corporation earns it and
  when dividends are received by the shareholders.
• Integrated System
• tries to eliminate double taxation.

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DIRECT TAXES Statutory vs. Effective Tax Rate

• Differences in treatment of income and
• expenses can result in differences between
• statutory tax rates and effective tax rates.

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DIRECT TAXESStatutory vs. Effective Tax Rate

• Statutory Total Taxes Paid
• Tax ----------------------------------
  -----
• Rate Taxable Income based on
• Tax Laws
• Effective Total Taxes Paid
• Tax --------------------------------
• Rate Net Income before Taxes
• based on Accounting Rules

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Statutory Tax Rates (STR)vs Effective Tax Rates
(ETR)EU Member States (1990-1996)
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Corporate Effective Tax Rates Around the World -
2005
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Corporate Effective Tax Rates Around the World -
2005
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AVOIDANCE OF DOUBLE TAXATION OF FOREIGN SOURCE
INCOME

• Credits and Deductions
• When subsidiaries are based in a country which
  uses a worldwide approach to taxation, income may
  be taxed twice
• when earnings are realized in the foreign
  location
• when earnings are realized in the parent
  country.
• This is double taxation

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AVOIDANCE OF DOUBLE TAXATION OF FOREIGN SOURCE
INCOME

• For income earned outside the country, most
  developed countries offer credits to offset the
  foreign tax paid
• In the US, taxes paid on foreign income
• can be treated as a credit applied against tax
  liability
• can be deducted from income to reduce taxable
  income.

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AVOIDANCE OF DOUBLE TAXATION OF FOREIGN SOURCE
INCOME - Table 3
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AVOIDANCE OF DOUBLE TAXATION OF FOREIGN SOURCE
INCOME

• Foreign Tax Credit (FTC) Limitation
• Corporation's FTC is equal to the percentage of
  its US tax laibility that results from its
  foreign source taxable income being included in
  its total US taxable income
• Amount of FTC US taxes before FTC times
  (taxable income from foreign sources/total
  worldwide taxable income)
• Amount of FTC cannot exceed amount of foreign
  taxes paid during year

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AVOIDANCE OF DOUBLE TAXATION OF FOREIGN SOURCE
INCOME

• Tax Treaties
• can specify that certain classes of income would
  not be taxable
• can reduce the rate on income and/or withholding
  taxes
• can specifically deal with the issue of tax
  credits

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MINIMIZING GLOBAL TAXTax Havens

• Is a place where foreigners may receive income
  or own assets without paying high rates of tax.
• can offer low taxes or no taxes on certain
  classes of income

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MINIMIZING GLOBAL TAXTax Havens

• Examples of tax havens
• No Income Taxes - Bahamas, Bermuda, Cayman
  Islands.
• Low Tax Rates - British Virgin Islands
• Exempt foreign source income - Panama, Hong Kong.

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MINIMIZING GLOBAL TAXTax Incentives

• There are two major types of tax
• incentives.
• tax holidays
• given by countries to attract foreign investors
• export incentives
• given by countries to encourage exports of goods
  and services

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INDIRECT TAXESValue Added, Goods and Services Tax

• Examples of indirect taxes
• consumption taxes (sales tax),
• VAT,
• excise tax,
• estate tax,
• gift tax,
• employment tax,
• user fees.
• In Europe, VAT is a considerable source of
  revenue.
• tax applied at each stage of production for the
  value added to the goods.
• tax burden eventually falls on the consumer
  because companies can reclaim taxes paid.

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INDIRECT TAXESValue Added, Goods and Services
Tax - Table 6.2
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Indirect Tax Rates Around the World
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Indirect Tax Rates Around the World
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Indirect Tax Rates Around the World
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Indirect Tax Rates Around the World
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Indirect Tax Rates Around the World
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Indirect Tax Rates Around the World
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Indirect Tax Rates Around the World
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TAX DIMENSIONS OF EXPATRIATES

• Most countries tax earnings of their residents.
• The US taxes the worldwide income of its
  citizens.
• The US does provide some relief if you have been
  resident outside the US for a certain
  uninterrupted period.

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International Comparison of Individual Income
Taxes
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Individual Statutory Tax Rates Around the World
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Individual Statutory Tax Rates Around the World
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Individual Statutory Tax Rates Around the World
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Individual Statutory Tax Rates Around the World
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Individual Statutory Tax Rates Around the World
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Individual Statutory Tax Rates Around the World
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Individual Statutory Tax Rates Around the World
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INTRACORPORATE TRANSFER PRICING

• This is also known as transfer or internal
  pricing.
• Refers to the pricing of goods and services
  bought and sold between members of a corporate
  family.
• Includes transfers of raw materials, semi or
  finished goods, loans, fees, etc.

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INTRACORPORATE TRANSFER PRICING - Example

• German subsidiary of US parent company
  manufactures goods and sells them to its Irish
  subsidiary that then sells them back to the US
  parent company. Why?
• Goods cost German subsidiary 80/unit and were
  sold to Irish subsidiary for 80/unit
• German tax rate 45
• German taxable income 80 80 0/unit
• German income taxes 0 45 0/unit
• Goods cost Irish subsidiary 80/unit and were
  sold to US parent company for 150/unit
• Irish tax rate - 4
• Irish taxable income 150 80 70/unit
• Irish income taxes 70 4 2.80/unit
• Goods cost US parent company 150/unit and were
  sold for 150/unit
• US tax rate 35
• US parent company taxable income 150 150
  0/unit
• US parent company income taxes 0 35 0/unit
• Total income taxes paid 2.80/unit
• If German subsidiary sold goods directly to US
  parent company for 150/unit, German subsidiary
  would have had taxable income of 70 and paid
  income taxes of 31.50/unit (70 45)

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TAX PLANNING IN THE INTERNATIONAL ENVIRONMENT

• There are several ways in which a firm can
• choose to service its foreign markets
• exports of goods and services
• foreign branches
• foreign subsidiaries
• location of foreign operations.

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TAX PLANNING Exports

• Should products be serviced from the parent
  country or foreign location?
• What are the benefits
• Can use the Foreign Sales Corporation (FSC) which
  allows
• substantial tax benefits if operations are
  legitimate
• setting up in a tax haven country to shelter
  income.
• Be aware of withholding taxes and treaties.

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TAX PLANNING Foreign Branches

• There are benefits to operating abroad
• Branch profits/losses not subject to deferral so
  beneficial during initial years which are
  normally loss years.
• Can offset home office income for tax purposes.
• Branch remittances usually not subject to
  withholding taxes (subsidiaries are).

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TAX PLANNING Foreign Subsidiaries

• Major benefit is that income is usually
• sheltered from taxation in the home
• country until a dividend is remitted.

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TAX PLANNING Location of Foreign Operations

• Influenced by three major tax factors
• Tax incentives
• can materially reduce the cash outflow for an
  investment project
• Tax rates
• have competent tax and legal help in local
  country.
• Tax treaties
• can help choose location of legal operations.