A multinational corporation (MNC) is a corporation or an enterprise that manages production or delivers services in more than one country. It can also be referred to as an international corporation.
Transfer pricing or the pricing of goods or services for cross-border transactions between related parties for tax purposes has been a bone of contention between the taxman and corporate houses. OECD Transfer Pricing Guidelines state, “Transfer prices are significant for both taxpayers and tax administrations because they determine in large part the income and expenses, and therefore taxable profits, of associated enterprises in different tax jurisdictions.” (OECD, 2001)
Reports CNBC-TV18’s Ashwin Mohan shows that “Budget 2011 may have added to the bad blood. For starters, the +/- 5% variation allowed to companies for the purpose of determining the appropriate price has been taken away. That means old calculation of good pricing will become unsuitable in 2011, +/- 5% variation will make them have to adjust all their active from producing to sales to offer new suitable price for their products, making their profits can change and meet difficulties.
Balbir Singh, Senior Tax Partner, DSK Legal feels, “taking away of this margin of 5% is going to further enhance litigation in India because this +/-5% was giving benefit to lot of industries and margin if error permitted is by and large to my mind acceptable even to the tax authorities.”
A clear example The Wind Group is a multinational company manufacturing wind turbines. It has two subsidiaries: Dutch Parts which makes circuit boards for the turbines in The Netherlands and Turbines UK which assembles them in the UK. Dutch Parts are subject to 20 per cent tax in The Netherlands while Turbines UK is subject to 40 per cent tax in the UK. Each year Dutch Parts sells 10,000 circuit boards to Turbines UK. The sale is made at a transfer price of €100 per board, totaling €1,000,000. In the first year both subsidiaries make a pre-tax profit of €800,000 each, earning the Wind Group a total pre-tax profit of €1.6 million . Turbines UK pays €320,000 tax at 40 per cent on its profits, while Dutch Parts only pays €160,000 because of the lower tax rate of 20 per cent in The Netherlands. As a result, the total net profit of the Wind Group for the year is €1,120,000 and its tax bill is €480,000. In the second year Dutch Parts raises the transfer price to €150 per board increasing the total cost of the sale to €1.5 million. Thus, the profits of Dutch Parts rise by €500,000, while those of Turbines UK fall by the same amount.
At the end of the second year the balance sheet of Turbines UK shows a reduced pre-tax profit of €300,000 (reflecting the increased cost of the boards) while Dutch Parts enjoys a rise in pre-tax profits to €1.3 million.
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