Globalisation increases complexity of Transfer Pricing, according to new Ernst & Young survey

International
Globalisation increases complexity of Transfer Pricing, according to new Ernst & Young survey
By Finfacts Team
Nov 17, 2005, 14:02

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In 2004, the US journal Tax Notes said: In low-tax Ireland, for instance, profits of subsidiaries of US multinationals have doubled in four years, from $13.4 billion to $26.8 billion. Profits from operations of U.S. multinationals in no-tax Bermuda have tripled, from $8.5 billion to $25.2 billion. Not surprisingly, those two tax havens rank as the number one and number two locations in terms of profitability for U.S. corporations operating abroad- surpassing long-time leading investment partners like the United Kingdom and Canada. But Ireland and Bermuda are only part of the story.

The increase in cross-border business investment by multinational corporations in Eastern Europe and Asia is presenting new transfer pricing challenges, according to a new survey by Ernst & Young.

Global Transfer Pricing Trends, Practice and Analysis, the second of four Ernst & Young 2005-2006 Global Transfer Pricing Surveys, indicates that, with more countries taking action on transfer pricing, including imposition of documentation requirements and a focus on transfer pricing audits, transfer pricing risk management is a dominant issue for multinational corporations (MNCs).

Transfer pricing involves the price at which transactions between units of multinational companies take place, including the inter-company transfer of goods, property, services, loans and leases.

“Multinational companies are elevating the importance of transfer pricing and dedicating more resources to understanding, planning and documenting their inter-company pricing,” said Joel Segal, Partner in Ernst & Young’s Transfer Pricing and Tax Effective Supply Chain Management group. “More than ever, MNCs must ‘think globally and act locally’ when it comes to their transfer pricing policies if they want to effectively manage transfer pricing opportunities and risks.”

The Ernst & Young Survey points to an increasingly diverse investment landscape: survey respondents are investing globally in new markets, stimulated in part by emerging economies in Asia, Central Europe and elsewhere.

“Today’s playing field has changed as China and India have become attractive alternatives to locate manufacturing, research and development activities,” said Segal. “As companies invest in new markets, these investments create tax-planning opportunities, because many of these regions differ in their approach to taxation.”

More than twenty percent of respondents reported either new or relocated manufacturing operations in the past two years. Thirty-five percent of those survey respondents identified China as the leading relocation destination. Eastern Europe (Hungary, Czech Republic and Poland) followed with 25 percent. Eastern Europe’s proximity to the consumers of Western Europe and advantages in labor costs make it a particularly attractive location for the automotive sector and other manufacturing industries.

The survey also reveals that Tax Directors are more involved in business change. Globally, 68 percent of corporations surveyed indicated that the tax function is involved with business change at the concept and initiation phases, compared to 43 percent five years ago. U.S. respondents said that 80 percent of Tax Directors are involved in the concept or initiation phase, compared with only 40 percent involved in those stages five years ago.

Key findings of the survey also include:

Thirty-eight percent of respondents list transfer pricing as the most important item on the agendas of their corporate tax directors.
Approximately 70 percent of respondents believe transfer pricing documentation is more important today than two years ago, as reported by the previous Ernst & Young transfer pricing survey.
An increased level of transfer pricing audit activity, with 65 percent of parent companies and 59 percent of subsidiaries having experienced examinations of their transfer prices since 2001. More than 40 percent of known outcomes involved adjustments.
Thirty-four percent of MNCs have elevated responsibility for transfer pricing policies to the CFO level.

On an industry basis, two sectors stand out from the rest. Transfer pricing is the “single most important issue” for 57 percent of respondents in the pharmaceutical sector and 46 percent of respondents in the retail sector. Additionally, the pharmaceutical sector reported the highest level of multi-country documentation (48 percent of respondents), the highest number of respondents with an expectation of an audit (81 percent) and an expectation of double taxation (85 percent).

Download report (in pdf format)