Lecture 2 - Introduction to Multinational Tax Management

Question 1

Approaches to Taxation

Answer 1

Worldwide Approach

Territorial Approach

Question 2

Worldwide approach

Answer 2

tax is levied on all income earned by the firm regardless of whether it was earned domestically or abroad

Question 3

Territorial Approach

Answer 3

Tax is levied on income earned within the jurisdiction of the host country

Question 4

2017 Changes to U.S. Tax Laws

Answer 4

• Highlights:
• -> reduction in corporate tax rate to ~26%
• -> limit on interest deductions
• -> change to treatment of foreign earnings; formerly worldwide tax system with relayed tax payments on earnings deemed to be permanently reinvested in foreign country
• -> temporary “full” depreciation of new equipment purchases till 2022

Question 5

Tax Changes: Will more U.S. Investment happen and result in job creation? Are U.S. firms “bringing cash home” from overseas? Will there be less foreign acquisitions and investments because of less trapped cash?

Answer 5

Early evidence is less foreign M&A but limited added U.S. jobs/investment, perhaps because MNEs already had many other ways to avoid U.S. tax

Question 6

Unremitted Foreign Earnings

Answer 6

• Also, beware that MNEs can sometimes defer income tax on foreign income until it is remitted to the parent firm –> RESULT: large amounts of unremitted foreign earnings
• -> may result in greater foreign investment and foreign jobs, at the expense of domestic ones

Question 7

Tax Treaties

Answer 7

• There are several bilateral tax treaties that define whether taxes are to be imposed on income earned in one country by nationals of another, and usually this avoids double taxation

Question 8

To prevent double taxation of the same income, most countries grant a “foreign tax credit” for income taxes paid to the host country

Answer 8

• the amount by which a domestic firm may reduce (credit) domestic income taxes for income tax payments to a foreign government

Question 9

Two alternative ways to give credit from taxes payable (foreign tax credit)

Answer 9

1. deduct foreign income tax from taxes payable (foreign tax credit)
2. deduct foreign taxes from taxable income (treat as an expense)

Question 10

Cross-Crediting

Answer 10

• because corporate income tax rates in Germany (40%) are higher than the .S. (35%) dividends remitted to the U.S. parent from Ganado Germany result in excess foreign tax credits
• because corporate tax rates in Brazil (25%) are lower than those in the U.S. (35%), dividends remitted to the U.S. parent from Ganado Germany result in deficit foreign tax credits
• The excess foreign tax credit can be cross-credited against the foreign deficits of the other

Question 11

Other types of corporates taxes:

Answer 11

• Withholding Tax: to ensure minimum tax payments on passive income (dividends, interest, royalties) earned by a resident of one country within the tax jurisdiction of another country
• Value Added Tax: national sales tax collected at each stage of production or sale of consumption goods, in proportion to the value added at that stage
• Also other National Taxes:
• -> turnover tax on purchase/sale of securities
• -> higher tax rate on R/E to encourage distributions
• -> property tax
• -> red tap charges for public securities

Question 12

Direct Taxation

Answer 12

Applies directly to the firm or person on which a tax is levied and cannot be shifted away to another party. Such as personal and corporate income tax and capital gains tax

Question 13

Indirect Taxation

Answer 13

Tax that is not levied on the final consumer on the final consumer of a good or service, but rather, is paid indirectly through a higher price

Question 14

Transfer Pricing Policy

Answer 14

• establishing prices for the transfer of goods, services and technology between affiliates in different countries
• can effect:
• -> fund positioning
• -> taxes
• -> tariffs
• -> measures of mgmt performance

Question 15

Problems that Arise When Transfer Pricing is Used to Reduce Income Taxes

Answer 15

• have to consider any impact on import tariffs, not just on income taxes
• what if there is a JV partner?
• How to convince creditors like local banks to lend to a sub that has reported poor performance?
• How to evaluate management performance?

Question 16

How do tax authorities regulate transfer pricing and determine what is reasonable?

Answer 16

• price the manufacturing sub charges to unrelated customers
• price the distribution sub would have had to pay for the same product from another supplier
• a “cost-plus” price, if there is no market price to work with

Question 17

Tax-Haven Subsidiaries or Conduits

Answer 17

• many help with deferral of tax on foreign source income
• a good location for a special tax haven subsidiary is one that has:
• -> a low tax on foreign investment or sales income earned by resident corporations
• -> a low dividend withholding tax paid to the parent firms
• -> a stable currency
• -> an easily convertible currency
• -> facilities to support financial service activities
• -> a stable government that encourages the establishment of foreign-owned financial and service facilities within its country borders

Question 18

Corporate Inversion

Answer 18

• The reincorporation of a company to a low tax country environment from a high-tax country environment –> typically involves reincorporating its territorial tax regime

Question 19

Tax strategies are making it hard for countries to collect their share of taxes such as:

Answer 19

• tax haven subsidiaries and offshore financial centers

- tax investors, transfer pricing