Transfer pricing is uncommon among multinationals who aim at maximizing their profits through reduction of the amounts that they pay out to governments as taxes. In an effort to maximize their profits through tax evasion, multinationals have found themselves in a dilemma regarding the upholding of the interest of shareholders which entail profit maximization, and the interests of other stakeholders which involve the communal obligations of the companies towards the stakeholders other than shareholders. The dilemma is contained in the shareholder and stakeholder theories which entail the corporate social responsibility activities of the corporations. This paper discusses the shareholder and stakeholder theories and their effects on corporate social responsibility. The paper also gives examples of corporations that utilize transfer pricing to increase their revenues in various countries, majoring on Apple as a multinational corporation and Ireland, Australia and the United States as the major countries involved in the emerging tax issues. By expounding on the events, the paper cites recommendations that are based on the Organization for Economic Co-operation and Development guidelines while citing the advantages and disadvantages of the recommendations.
In the corporate worlds, multinationals and large corporations have taken advantage of tax differences between the different countries that they invest in by using the strategies of transfer pricing. Companies such as Google Inc. and Apple Inc. who have invested in various nations all over the world and earn billions of dollars in revenue have been revealed to utilize tax friendly countries as a strategy to increase their net profits after tax by paying low amounts of tax . To take advantage of low tax countries, Apple and Google, as well as other multinationals, have used transfer pricing in such a way that their income is recorded in low-taxing countries even though these profits may have been made in high and moderate taxing countries. Even though transfer pricing as a strategy to evade paying high taxes is not illegal, the large corporations have received a high degree of negative publicity that has cost them their customers. The loss of customers in majorly attributed to the corporate social responsibility which these companies fail to uphold when they implement the transfer pricing schemes to avoid paying high taxes, something which consumers deem ethically unfit.
To comprehend how transfer pricing is worked out so as to increase profits and reduce the amount taxed as well as how corporate social responsibility is undermined through such processes, it is important to understand the meaning of transfer pricing. Transfer pricing can be referred to as the transactions that occur between companies, especially globalized companies, which involve the movement of money across different branches of one company normally located in different countries. Although transfer pricing may be used for various internal company factors, a high number of multinationals have used transfer pricing to influence external organizational factors such as taxation (Sheppard, 2010; Agarwal, 2016)). Aiming at maximization of revenue and minimization of taxes, corporations have transferred finances to low tax countries which normally are underdeveloped and offer tax incentives to encourage foreign investments. As a result, they avoid paying taxes in developed countries whose tax rates are higher and in the long run, they would have gained more revenues without breaking the law.
Despite transfer pricing being legal, there are organizations which have developed guidelines that have been developed to regulate transfer pricing procedures and the activities and objectives of transfer processes by multinationals . One such organization, the Organization for Economic Co-operation and Development (OECD) which has developed guidelines that govern the transfer pricing activities by multinationals. The OECD mainly concerns transfer pricing guidelines with tax avoidance and some major corporates’ tendency to take advantage of low-taxing countries. Despite insistence by the OECD that the transfer prices by these multinationals should be kept at an “arm’s length,” the corporations conduct trade that moves their finances to their subsidiaries located in low-taxing countries.
The OECD has set guidelines and policies to deal with the issue of “base erosion and profit shifting” (BEPS) which refers to the tendency of multinationals to take advantage of the different tax laws in different countries so as to shift their profits to those countries whose tax rates are low or those that have no tax rates on their line of production at all (Sheppard, 2012). To increase uniformity of taxation and tax laws that relate to these multinationals, the OECD has encouraged more than a hundred countries to join the movement to amend their tax laws so as to ensure uniform taxation of the multinationals. As regarding the BEPS, the OECD is also encouraging member countries to require the multinationals to make periodical mandatory disclosures of their transactions and transfer pricing activities so as to facilitate monitoring of the transactions. The OECD also encourages countries to engage in constant consultations in efforts to ensure that information on tax rates are monitored in a uniform manner .
Transfer pricing in multinationals such as Apple has been aimed at maximizing their profits through legal tax evasion strategies. However, these corporations conduct the transfer pricing activities in the disguise of transacting between their various branches and subsidiaries in various countries. Some these companies have been revealed, Apple being a major one and this has cost them their reputation amongst their customers and the society in which they operate in (LTEconomy, 2013; Knight, 2012). Transfer pricing as a tax evasion strategy brings rise to two dilemmas in the corporation: the interests of the shareholders which is profit maximization, and the interests of the stakeholders which mainly entails corporate social responsibility and creating proper impressions amongst the company’s customers . Normally, the corporations aim at sustaining the interests of the shareholders by ensuring continuous profits while at the same time, to realize the profits they need to recognize and appreciate the customers and the market in which they operate in as key stakeholders to the company. The issue of balancing the interests of shareholders and that of other stakeholders begs the need for an understanding of the shareholder and stakeholder theories in corporations.
The shareholder theory is based on the premise that the corporations have an obligatory duty towards ensuring that their activities are solely based on ensuring that the best interests of the shareholders are taken into consideration. This theory does not consider other factors such as the rest of the stakeholders to the corporation, and the corporation is only obliged to ensuring that it generates continuous profits and continuously adopts various strategies aimed at maximizing profits after accounting for all interests and tax . Shareholder wealth maximization is also a major aim of the shareholder theory. As a justification, the shareholder theory stresses that the managers and directors appointed to steer the corporations are only agents of the corporations who act as a catalyst for business growth, and therefore their sole obligation is to ensure that the best interests of the business owners and shareholders – profit maximization – is ensured in the best possible way. In multinational corporations, shareholder theory is manifested in various ways, one of them being transfer pricing. By conducting transfer pricing, corporations transfer their profits to their subsidiaries located in low-tax states to reduce taxes charged thus increasing their net profits after tax. The shareholder theory, however, has some weaknesses that limit its usefulness. The theory does not take into account the revenue earned by a company owing to goodwill. By working towards profit maximization and disregarding stakeholder interests, they risk exposure which may cause negative publicity thus undermining stakeholder interests.
Stakeholder theory has replaced shareholder theory to the extent that shareholders have now begun to appreciate the benefits of the stakeholder theory. The stakeholder theory is based on the premise that an organization or corporation does not only have an obligation towards satisfying the shareholders as stakeholders but also representing the desires of other stakeholders such as human resource, the market, creditors, suppliers as well as the surrounding community in which the corporation operates in. The stakeholder theory can be traced as the origin of corporate social responsibility (CSR) of corporations which explains the communal responsibilities of organizations towards the public. Corporate social responsibility may not necessarily be a legal obligation by the organizations, but organizations are expected by the community to fulfill these obligations fulfill these roles as a way of creating a good impression amongst their stakeholders – most of whom are the target market. Currently, a large number of corporations have incorporated corporate social responsibility as a key process in their organizations. However, fewer of the companies have completely fulfilled their social obligations towards their customers and the community on which they operate in. Multinationals have continuously announced various corporate social responsibility programs, but tax evasion strategies through transfer pricing undermine companies’ CSR accomplishments. For example, when corporations are exposed to evade paying taxes by taking advantage of low-taxing countries, they are seen to be taking advantage of such countries. As a result, the society will think of such companies as obsessed with profits to the extent of manipulating their revenues to pay lower taxes at the expense of causing the countries to lose their main revenue streams – taxes. The stakeholder theory has, however, proven to have a weakness. The theory requires a corporation to take into account interests of all stakeholders which is hard to implement since they may conflict in issues regarding prioritization, revenues and taxes. For this reason, it is difficult to fully implement the theory in corporation.
Apple Inc. has received a considerably wide acceptance by consumers despite the extremely high prices of its products, all of which have contributed to the billions of dollars’ worth of revenue that Apple earns every financial year. Despite the high amounts of revenue, Apple continues to adopt tax avoidance strategies which, although legal, can be interpreted as manipulative and socially imprudent as regarding the corporate social responsibility that they owe to the public . Apple, being among the numerous global corporations that have taken up tax avoidance strategies to increase their revenues, have been exposed to avoid taxes by conducting transfer pricing with its subsidiaries mainly in Ireland and Australia, both countries of which charge comparatively lower tax rates as compared to various nations including the United States and United Kingdom where other premises of the corporation are located at . Countries such as Australia and Ireland have been cited as Apple’s tax havens, with Apple having being investigated to avoid millions of dollars’ worth of taxes through transfer pricing to these countries .
The European Commission, upon learning that Apple was using transfer pricing to avoid paying higher taxes, launched a case against the multi-billion corporation. Apple has been in the past found to use transfer pricing to transfer their finances to their subsidiaries in Australia and Ireland where they pay extremely low taxes. The transfer pricing, which has been used to misrepresent arm length payments by Apple, has benefitted Apple financially in the sense that they pay an average of less than a dollar as tax for every 1000 dollars that they make. This has cost nations such as Ireland who do not get a fair share of the profits that Apple makes in the form of profits, an act that has pushed the European Commission to challenge Apple into compensating Ireland a total of $20 billion as a compensation for the amounts that they have been hoarding through avoiding taxes . Through the strategies that Apple used, they paid taxes at a rate as low as less than one percent which is far much less than the normal rate provided by the countries in which they pay their taxes. For example, Ireland taxes at a rate of 12.5%, but Apple paid tax to the Irish government at a rate much less than 1 percent .
In Australia, Apple has made it to one of the most debated corporations owing to the amount of taxes it pays. The Australian Taxation Office has launched series of investigations and audits on Apple to investigate the company’s payment of taxes and whether the taxes represent the revenue streams earned by the company . For example, in 2016 Apple paid the Australian government a total of 85 million dollars as tax. As much as this value can be considered high, it is very low considering that in the same year, the proportion of revenues earned by Apple that can be traced to Australia amounted to 8 billion dollars. Apple has since then been under audit by the Australian authority auditors and a politician from Australia has even stated that the tax paid by Apple is too little, that not Australian pays tax at a rate that low. This depicts the extent of which Australia has suffered deficit in tax collections from Apple, all of which can be traced to Apple’s tendency to utilize transfer pricing to pay lower taxes. America, on the other hand, has not made a move to counter transfer pricing by Apple but has, instead, distanced itself from the debates that Apple has had with Europe concerning the tax evasion by the corporation. The United States of America taxes its companies a constant rate of 35% regardless of whether or not the company trades and conducts internal trading between subsidiaries . It also means that the effect of transfer pricing to the United States will be hard to implement to reduce the taxes paid by Apple .
To curb the issue of transfer pricing with the aim of tax avoidance and increasing revenues at the expense of countries’ tax revenues, the Organization for Economic Co-operation and Development (OECD) has developed various guidelines and policies. By increasing its membership as much as possible, the OECD has been creating unison by various countries all over the world in the efforts to ensure that multinationals fulfill their tax obligations and disclose their real amounts of revenues. Multinationals including Google, Microsoft, Alibaba, and Apple, all of which are globally famous for their billions of revenues, are the main targets of the OECD guidelines as these corporations struggle to create continuous policies that limit the amounts that they spend on taxes. Moreover, these corporations try as much as they can to protect their reputation by ensuring that their acts, though legal, are not exposed. To ensure this, they come up with various other activities aimed at improving their corporate social responsibility programs.
One major solution suggested by the OECD is the principle of “arm’s length” which suggests that the corporations, although transacting within its subsidiaries, need to use the normal market rates as the prices in the transactions . The multinational corporations are known to exaggerate the prices they pay to their subsidiaries located in low-taxing countries so as to transfer their profits to the subsidiaries in such countries as Ireland. By doing this, they can use the disguise of payments to transfer money to be taxed in lower taxing industries. However, with the introduction of the arm’s length theory which can be viewed as a sales regulations strategy, it will be harder for the corporations to avoid taxation since they will have little control over the prices of products and hence the amount of money they transact within their subsidiaries. The amounts retained in the country with higher tax rates by the corporation will, hence, be of a moderate amount and the taxes deducted from the retained revenues will be higher. This system is beneficial in the sense that its implementation will monitor transaction by the corporations so as to control the amounts transacted at a reasonable proportion. In the long run, the taxes paid to countries will be more balanced and the rates at which the counties tax these incomes will be more equal. However, the policy might be ineffective since there are products whose average market price might be hard to moderate. For example, it might be hard to approximate the price of newly created chips or devices that Apple transacts between its subsidiaries. This limits the application of the policy and will be a way for multinationals to continue with their transfer pricing procedures.
Moreover, the OECD suggests a government regulation measure which involves a country to country reporting mechanism that will create uniformity of countries’ tax laws. In the policy suggested by the OECD, countries are advised to conduct constant independent audits on the multinationals in efforts to monitor the transactional processes of these multinationals between their subsidiaries . Furthermore, the countries should create a system whereby they can occasionally share findings on the multinationals thus monitoring taxation and ensuring that their real revenues are revealed. This policy by the OECD is beneficial in the sense that countries that host the transacting affiliates of the branches can communicate, share histories on revenues of the company, and take necessary steps to ensure that the corporation does not evade tax or misrepresent its revenues. In the process, the corporations will not manage to evade the taxes they pay, and the challenge of tax evasion through transfer pricing would have been curbed. However, the process is faced by a major limitation – lack of uniformity in the tax law and auditing processes in the countries that the multinationals are located in. Moreover, some countries may lack sufficient human and financial resources to effect quality auditing purposes given the dynamic nature of multinationals’ financial books.
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