InternationalTaxEnvironmentChapterTwenty-OneCopyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.ChapterOutlineTheObjectivesofTaxationTypesofTaxationNationalTaxEnvironmentsOrganizationalStructuresTransferPricingandRelatedIssuesBlockedFunds21-2Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.TheObjectivesofTaxationTwobasicobjectivesoftaxation:Taxneutralityisaprincipleintaxation,holdingthattaxationshouldnothaveanegativeeffectonthedecision-makingprocessoftaxpayersTaxequityistheideathatallsimilarlysituatedtaxpayersshouldparticipateinthecostofoperatingthegovernmentaccordingtothesamerules21-3Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.TaxNeutralityTaxneutralityisdeterminedbythreecriteria:Capital-exportneutralityisthecriterionthatanidealtaxshouldbeeffectiveinraisingrevenueforthegovernmentandnothaveanynegativeeffectsontheeconomicdecision-makingprocessofthetaxpayerNationalneutralityistheideathatanidealtaxontaxableincomewouldtaxallincomeinthesamemannerbythetaxpayer’snationaltaxauthority,regardlessofwhereintheworlditisearnedCapital-importneutralityistheideathatanidealtaxburdenimposedbyahostcountryonaforeignsubsidiaryofanMNCshouldbethesameregardlessofwhichcountrytheMNCisincorporatedinandshouldbethesameburdenasplacedondomesticfirms21-4Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.TaxEquityUnderlyingprincipleoftaxequityisthatallsimilarlysituatedtaxpayersshouldparticipateinthecostofoperatingthegovernmentaccordingtothesamerulesOperationally,thismeansthatregardlessofthecountryinwhichanaffiliateofanMNCearnstaxableincome,thesametaxrateandtaxduedateapplyPrincipleoftaxequityisdifficulttoapply,astheorganizationalformofanMNCcanaffectthetimingofataxliability21-5Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.TypesofTaxationThreebasictypesoftaxationthatnationalgovernmentsthroughouttheworlduseingeneratingrevenue:IncometaxWithholdingtaxValue-addedtax21-6Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.IncomeTaxManycountriesintheworldobtainasignificantportionoftheirtaxrevenuefromimposinganincometaxonpersonalandcorporateincomeAnincometaxisadirecttax,thatis,onethatispaiddirectlybythetaxpayeronwhomitisleviedAnincometaxisleviedonactiveincome,resultingfromproductionbythefirmorindividualorfromservicesthathavebeenprovidedNationaltaxratesvaryfromalowof0percentto40percentormoreinsomecountries21-7Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.EXHIBIT21.1CorporatePercentageIncomeTaxRatesfromCertainCountries

Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.WithholdingTaxWithholdingtaxisgenerallyleviedonpassiveincomeearnedbyanindividual/corporationofonecountrywithinthetaxjurisdictionofanothercountryIndirecttaxthatisbornebyataxpayerwhodidnotdirectlygeneratetheincomeWithheldfrompaymentsthecorporationmakestothetaxpayerandturnedovertolocaltaxauthorityManycountrieshavetaxtreatieswithoneanotherspecifyingthewithholdingtaxrateappliedtovarioustypesofpassiveincomeWithholdingtaxratesimposedthroughtaxtreatiesarebilateral,negotiatedbetweentwocountries21-9Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.Value-AddedTaxAvalue-addedtax(VAT)isanindirectnationaltaxleviedonthevalueaddedintheproductionofagood(orservice)asitmovesthroughthevariousstagesofproductionSeveralwaystoimplementaVAT,but“subtractionmethod”isfrequentlyfollowedInmanyEuropeancountries(especiallytheEU)andLatinAmericancountries,VAThasbecomeamajorsourceoftaxationonprivatecitizens21-10Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.EXAMPLE21.1

Value-AddedTaxCalculation21-11Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.EXHIBIT21.3

Value-AddedTaxCalculation21-12Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.Value-AddedTax(Continued)AdvantagesofVAT:DiscouragesunnecessaryconsumptionFostersnationalsavingEasiertocollectthanincometaxbecausetaxevasionismoredifficultProblemwithVAT:NotallcountriesimposethesameVATtaxrate,andconsumerswhoresideinahigh-VATcountrycanpurchasegoodslessexpensivelybysimplyshoppingacrosstheborderinalower-VATcountry21-13Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.NationalTaxEnvironmentsInternationaltaxenvironmentconfrontinganMNCoraninternationalinvestorisafunctionofthetaxjurisdictionsestablishedbytheindividualcountriesinwhichtheMNCdoesbusinessorinwhichtheinvestorownsfinancialassetsTwofundamentaltypesoftaxjurisdiction:WorldwidetaxationTerritorialtaxationUnlessprevented,doubletaxationwouldresultifallnationsweretofollowbothmethodssimultaneously21-14Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.WorldwideandTerritorialTaxationTheworldwideorresidentialmethodofdeclaringanationaltaxjurisdictionistotaxnationalresidentsofthecountryontheirworldwideincomenomatterinwhichcountryitisearnedNationaltaxauthorityisdeclaringitstaxjurisdictionoverpeopleandbusinessesTheterritorialorsourcemethodofdeclaringataxjurisdictionistotaxallincomeearnedwithinthecountrybyanytaxpayer,domesticorforeignNationaltaxauthorityisdeclaringitstaxjurisdictionovertransactionsconductedwithinitsborders21-15Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.ForeignTaxCreditsApproachestoavoidingdoubletaxation:Anationcouldchoosenottotaxforeign-sourceincomeofitsnationalresidentsAlternatively,anationcouldgranttotheparentfirmforeigntaxcredits,acreditgiventotheparentfirmagainsttaxesdueinthehostcountrybasedonthetaxespaidtoforeigntaxauthoritiesonforeign-sourceincomeUsedfrequentlybytheUnitedStatesInagiventaxyear,anoveralllimitationappliestoforeigntaxcreditsMaybedirectorindirect

21-16Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.OrganizationalStructures:

BranchandSubsidiaryIncomeOverseasaffiliateofaU.S.MNCcanbeorganizedasabranchorasubsidiary:Aforeignbranchisnotanindependentlyincorporatedfirmseparatefromtheparent.Activeorpassiveforeign-sourceincomeearnedbythebranchisconsolidatedwiththedomestic-sourceincomeoftheparentfordeterminingtheU.S.taxliabilityAforeignsubsidiaryisanaffiliateorganizationoftheMNCthatisindependentlyincorporatedintheforeigncountry,andoneinwhichtheU.S.MNCownsatleast10%ofthevotingequity21-17Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.OrganizationalStructures:

TaxHavensAtaxhavencountryisonethathasalowcorporateincometaxrateandlowwithholdingtaxratesonpassiveincomeE.g.,Bahrain,Bermuda,CaymanIslands,ChannelIslands(GuernseyandJersey),andtheIsleofManOnceusefulaslocationsforanMNCtoestablishawhollyowned“paper”foreignsubsidiary,thatinturnwouldowntheoperatingforeignsubsidiariesoftheMNC21-18Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.OrganizationalStructures:

TaxHavens(Continued)BenefitofataxhavensubsidiaryforU.S.MNCshasbeengreatlyreducedbytwofactors:PresentcorporateincometaxrateintheU.S.isnotespeciallyhighincomparisontomostnon-taxhavencountries,thuseliminatingtheneedfordeferralRulesgoverningcontrolledforeigncorporationshaveeffectivelyeliminatedtheabilitytodeferpassiveincomeinataxhavenforeignsubsidiary21-19Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.OrganizationalStructures:

ControlledForeignCorporationTaxReformActof1986createdanewtypeofforeignsubsidiarycalledacontrolledforeigncorporationPurposeofreformwastopreventthetaxdeferralofcertainincomeintaxhavencountriesControlledforeigncorporation(CFC)isaforeignsubsidiarythathasmorethan50%ofitsvotingequityownedbyU.S.shareholders21-20Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.TransferPricingandRelatedIssuesPriceassigned,forbookkeepingpurposes,tothereceivingdivisionwithinabusinessforthecostoftransferringgoodsandservicesfromanotherdivisionisthetransferpriceDifficult

todecideontransferpriceswithindomesticfirms,butespeciallysoforMNCsduetothefollowing:ExchangerestrictionsonthepartofthehostcountrywherethereceivingaffiliateislocatedDifferenceinincometaxratesbetweenthetwocountriesImportdutiesandquotasimposedbythehostcountry21-21Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.TransferPricingandRelatedIssues:

MiscellaneousFactorsTransferpricingstrategiesmaybebeneficialwhenhostcountryrestrictsamountofforeignexchangethatcanbeusedforimportingspecificgoodsLowertransferpriceallowsagreaterquantityofthegoodtobeimportedunderaquotarestrictionTransferpricesalsoinfluencehowdivisionsofanMNCareperceivedlocallyHighmarkuppolicyleaveslittlenetincometoshowontheaffiliate’sbooks,whilelowmarkuppolicymakesitappear,atleastsuperficially,asifaffiliates,ratherthantheparentfirm,arecontributingalargerportiontoconsolidatedearnings21-22Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.TransferPricingandRelatedIssues:

MiscellaneousFactors(Continued)TransferpricingstrategiesalsoinfluenceinternationalcapitalexpenditureanalysisVerylow(high)markuppolicymakestheadjustedpresentvalue(APV)ofasubsidiary’scapitalexpenditureappearmore(less)attractiveAssuch,toobtainameaningfulanalysis,arm’s-lengthpricingshouldbeusedintheAPVanalysistodetermineafter-taxoperatingincome,regardlessoftheactualtransferpriceemployed21-23Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.TransferPricingandRelatedIssues:

AdvancedPricingAgreementAnadvancepricingagreement(APA)isabindingcontractbetweentheIRSandamultinationalfirmbywhichtheIRSagreestonotseekatransferpricingadjustmentunderSection482oftheInternalRevenueCodeforsomesetoftransactionscalledcoveredtransactionsAPAprogramprovidesameanstoresolvetransferpricingissuesbeforetheyariseinanauditIncreasestheefficiencyoftaxadministrationbyencouragingtaxpayerstopresenttotheIRSallrelevantinformationforittoproperlyconductatransferpricinganalysis21-24Copyright?2021bytheMcGraw-HillCompanies,Inc.Allrightsreserved.TransferPricingandRelatedIssues:

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