Country-specific regulations. A new global tax plan. COVID-19. Just when you thought the world of international tax couldn’t get any more complicated, global experts have started to speak a new tax language.
Words like BEPS, tax avoidance, and tax transparency, are rolling off tongues, filling offices, websites, and Zoom calls, and participants kinda, sorta, loosely, maybe know what people are talking about.
Well, don’t you think it’s time everyone understood what global tax leaders, authorities, and executives are talking about? We do—and that’s why we’re defining common tax terms, custom-made for the 21st century.
Tax Transparency noun [taks trans-pair-uhn-see]
What it means: Describes how much a company reveals—to the public or to tax administrations—about its tax practices. A business with a high level of disclosure would be considered highly transparent.
Transfer pricing context: By now, you’re certainly aware that tax authorities are on the lookout for profit-shifting and moves towards more transparency—exchanging country-by-country reports (CbCR), or gulp, public CbCRs—make it easier for tax authorities to determine if profits are shifted out of their jurisdictions. Today, more than 130 countries participate in exchanging CbCRs, which the OECD has dubbed, “The largest tax information exchange event in history.”
Worth knowing: With great power, it’s said, comes great responsibility, and that’s certainly the case in terms of tax transparency. Revealing information is one thing, but the audience has to have the ability to understand what it really means. Without such expertise, tax transparency can cause unfounded reputational damage—or praise. It also raises compliance costs for companies and, according to some businesses, can weaken competitiveness.
Transfer Mispricing verb [trans-fur mis-prahys-ing]
Translation: Also known as “misinvoicing,” mispricing is used to describe the act of manipulating transfer prices to a company’s own advantage. Usually, it involves shifting profits into low-tax countries and assigning expenses to high-tax ones to lower tax bills.
Transfer pricing context: An MNE’s transfer prices have to be at arm’s length. In 2013, the OECD created an action plan to stop base erosion and profit shifting (BEPS). BEPS Action 13 calls for three-tier transfer pricing documentation: a master file, a local file, and a CbCR. The purpose of such thorough documentation is to give tax authorities a view into how a company operates and if its intercompany pricing aligns with fair-market value—if not, it’s “mispriced.” CbCR is one of four BEPS minimum standards, which means all 139 members of the Inclusive Framework are committed to implementing.
Worth knowing: Tax authorities are well aware of the transfer mispricing art form; certain types of transactions lend themselves to this practice—and those are heavily scrutinized. Intercompany management services are a key area, where companies turn profits into fees for related-party services, which may shift IP to low-tax jurisdictions, allowing subsidiaries to collect royalties with little or no taxes.
Tax Evasion verb [taks ih-vey-zhuhn]
Translation: This illegal activity occurs when a company (or person) deliberately avoids or underpays a true tax liability. Tax evasion is a criminal act and under the US internal revenue code, it’s a federal offense.
Transfer pricing context: Deliberately manipulating transfer pricing to avoid paying taxes can be seen as tax evasion. In the U.K., HMRC is keenly aware of transfer pricing abuse (did we just create our own new term?) and is pursuing criminal investigations against MNEs who deliberately avoid legitimate tax liabilities through these practices.
Worth knowing: Tax evasion is a willful act—and the IRS must prove that evading taxes was intended for a tax evasion charge to stick.
Tax Avoidance verb [taks uh-void-ns]
Translation: Like tax evasion, tax avoidance happens when a company (or individual) cleverly avoids paying taxes, but here the difference is they do it through legal means—often tax loopholes, credits, deductions, and so on.
Transfer pricing context: Profit-shifting is a form of tax avoidance, and tax administrations are aware of how companies use intercompany transactions to earn profits in high-tax jurisdictions and then transfer them through a legal loophole to a low- or no-tax jurisdiction, instead of paying taxes where profits were earned.
Worth knowing: Many tech companies have been accused of tax avoidance, as they’ve legally shifted taxable income through tax loopholes into tax havens—a move that is especially common with intangible assets. The OECD wants to close those loopholes, and the organization has proposed a new global tax plan, consisting of profit allocation for 78 high-earners and a global minimum tax. Will countries sign-on? Stay tuned.
Tax Morality noun [taks muh-ral-i-tee]
Translation: Think of this as a moral compass for taxpayers. Essentially, it describes a company’s willingness to pay taxes and follow the rules.
Transfer pricing context: No doubt, transfer pricing leaves lots of room for multinationals to take advantage of tax, um …planning. The question is: If you see a questionable opportunity, will you take it?
Worth knowing: Base erosion is serious business. Last year, The Tax Justice Network reported that $1.38 trillion is lost to tax havens each year, costing governments $245 billion annually in tax revenue. This year, governments need to recoup revenue, not just from profit-shifting but from COVID-19 relief programs, as well. Corporate tax dollars help them do this. There’s a fine line between being strategic and milking the system—and wherever that line falls for you (and your company) is what tax morality is all about.