Democrats & Liberals Archives

Transfer Taxing

NAFTA, the free trade agreement among the U.S., Canada and Mexico, was touted as a big gift to business and to labor in all three countries. As it turns out, it is a great gift to multinational corporations at the expense of workers. American corporations dumped their employees in the U.S. and opened maquilidoras where Mexicans labor under horrible conditions and for a fraction of the American wage.

A maquilidora may be a subsidiary of an American company, producing components it "exports" to the home factory to be used in a finished product, such as an electronic game. The two parts of the company work together to swindle the U.S. of taxes by a technique called transfer pricing.

Under normal circumstances, a company uses components from various sources, and all suppliers as well as the company itself make a profit and pay taxes. Here is a simple example:

The supplier has costs of $80 and sells the component for $100, thereby earning $20 profit. The company's costs are this $100 added to its own costs of $80 making a total cost of $180. If the company sells the finished product for $200, it makes $20 profit. Both supplier and manufacturer earn 20% profit and pay taxes accordingly.

Transfer pricing between a subsidiary and the home company changes everything by changing prices. This next diagram shows how:

The subsidiary's costs are still $80. However, it charges the home company $120 for a doubled profit of $40. The home company has now a total cost of $200 ($80 + $120). If it sells the product for the same $200 it makes zero profit. And that's the point: No profit, no taxes. Sure, the subsidiary makes a big profit, but it is subjected to low or no taxes.

The company can beat our tax system also by selling to its subsidiary, but this time at a bargain rate.

Pretty neat! This is how our tax system is not only helping multinational companies dump American workers and go abroad for cheaper labor, we lose corporate taxes as well. Who is in charge here: the American government or the corporations? We should not call these shenanigans transfer pricing but transfer working, or better still, transfer taxing.

We can stop this run on our treasury and this run on our workers. With all the brilliant tax experts in Washington, I am sure we could find a way to make corporations pay their fair share and to slow down employee dumping.

Posted by Paul Siegel at November 29, 2006 7:02 PM
Comments
Comment #196938

Mexican tax rates are not that low and they have VAT taxes.

It is true that U.S. corporate taxes are significantly higher than those in most of the developed world. We should probably lower that rate.

Posted by: Jack at November 29, 2006 7:21 PM
Comment #196944

Jack:

I might support lower taxes if they actually paid any.

Posted by: womanmarine at November 29, 2006 7:37 PM
Comment #196949

Paul:

“Who is in charge here: the American government or the corporations?”

The American government of course—which is owned by the corporations and the rich.

And a major way of correcting this? Public funding of federal elections. This would also enable non-wealthy people with ideas, energy and integrity to run for office.

And, I’m sure as soon as the corporations and the plutocrats figure out a way around such reform, and to make sure that it is reform in name only, public funding of elections will be enacted with great fanfare.

Posted by: Tim Crow at November 29, 2006 8:19 PM
Comment #196951

Womanmarine

I invest in corporations. They pay taxes and a lot of them. Then when they pay dividends individuals pay taxes too. When you think about how much the government spends every day, it is clear that they must be taking taxes from someplace other than people like us.

Posted by: Jack at November 29, 2006 8:39 PM
Comment #196962

Jack,
Just like PGE paid all of the $10 amt to Oregon back a couple of years ago on their $26million dollars NET profit.
Sure wish I could get that total tax amount. I paid Over 100X that amount on just $30K gross income that year. Yeah, I really believe that the corperations are paying their fair share when looking at those comparisions. Oh year PGE also raised their energy costs by over 13% the next year to the consumer. Guess they have everyones best interest at heart?
I have a rental and got a little look at the corperate tax system, yeah its on a differnt level then personal taxes. I get to write off lots of things that if I didn’t have a rental would not be able to write off. I get to claim a net loss on my rental property because I get to write off my insurance for my car vs. income. I get to write off interest on my line of credit and mortgauge that I wouldn’t be able to because I do not make enough to itemize so claim the standard deduction. I get to write the milage off on my car everytime I go up to visit family because I fix one little item with the house even if it could wait weeks or mounths. I get to write off tools that I use on the house even if I use them only once and then use them personally 100’s of times.
I am actually thinking of starting a buisness just so I can write eveything thing that I would like to buy against the income of the company. You would be amazed what you get to write off for a company. Companies compared to regular income get a free ride. This is from someone who hasn’t studied the tax code to see how to avoid even more taxes. Companies are concerened about profit not paying their fair share.

Posted by: timesend at November 29, 2006 10:08 PM
Comment #196970

Paul:

As you might guess, I disagree with your analysis. It does not take into account competition. It assumes that multinational companies are not competing with each other.

Here is my explaination. In the late 1990’s the dollar soared in response to many factors including developments in south east asia. As the dollar took off, it made great sense to build overseas because of cheap labor. Strong dollar means cheap junk, and cheap labor overseas.

At the same time the Internet opened a huge channel of information two and from the US. Capital markets in the US were opened and foreign money flowed in to buy our securities which drove down interest rates.

The end of it all is that our trade deficit has shot up to an unsustainable percentage of GDP.

Now the dollar is falling. That is a good thing as long as it does not rekindle inflation. Todays’ headlines were “Dollar falls to furthest level in 15 years”. Another translation would be, “The dollar returned to where it was before it’s massive run up in the late 1990’s”. Same fact, different effect.

What that means to your point is that now (since the dollar has fallen 15%) that American workers are 15% more competitive. Multinational companies are going to follow the money, and have their products built at the lowest unit labor cost possible. Now that is trending americas way instead of outside our boarders.

Look for this trend to continue for some time. The trade deficit needs to come down, and it will to the benefit of american workers.

Craig

Posted by: Craig Holmes at November 29, 2006 10:55 PM
Comment #197010

timesend,

You had better be careful with your write-off scheme. If you get audited by the state or IRS, you WILL be paying them back taxes with penalties. I have several rentals and am a CFO as well and you would be wise to consult the tax regs before you continue writing off some of the things you mentioned…(car insurance???)

Companies are concerned with profit…why do think they are in business? If they are not in business to make money, then what is the point?

I guarantee you; they are not in business so they can pay taxes. That would be stupid.

Posted by: cliff at November 30, 2006 10:21 AM
Comment #197094

Every time I hear the term NAFTA I immediately also hear Ross Perot admonishing of the “giant sucking sound” of American jobs and money across the border.

I once wrote Thomas Sowell (Rose and Milton Friedman Senior Fellow
The Hoover Institution
Stanford University
Stanford, California 94305)

Asking him about the trade deficit his only reply was, I am more concerned about my shoelaces than the trade deficit…


JayTea


Posted by: JayTea at November 30, 2006 4:11 PM
Comment #197198

I read an artical a few years back talking about how great NAFTA was because our exports to mexico had risen dramatically. The thesis was challenged. It seems materials and parts that would have been used by American workers are being sent to Mexico,assembled and sent back as cars. They still count as exports. Any wonder why I am cynical?

Posted by: BillS at December 1, 2006 3:04 AM
Comment #197199

Jack
You may be surprised to hear this from a lefty but I am not a big fan of corporate taxes. Corps. do help create jobs.However I favor a steeply graduated income tax. The idea behind this is to make sure that the only way for wealthy to keep their wealth is to keep it in their companies. For example a CEO getting a 100 mil bonus would have most of it taxed away. He might even have to squeak by on a million or so but his company could replace more ageing equiptment,pay down debt,pay higher dividends, increase workers saleries,invest in new tech,higher more people etc.Come on.Don’t tell me he earned it.What, lots of overtime?

Posted by: BillS at December 1, 2006 3:28 AM
Comment #215733

International coporations are required to allocate their income to the countries where it is generated using transfer pricing rules. The rules apply when a subsidiary of a company in one company conducts a transaction with a parent company in another country. The amount charged for goods or services in the transaction need to comply with an “arm’s length rule.” In other words, the amount charged needs to be the same as it would be in the open market between unrelated parties.

This is a long-winded way of explaining that it is not fair to characterize transfer pricing as just being a tax scam that allows companies to avoid paying taxes in the U.S. Certainly, if companies twist the rules to allocate income to low-tax jurisdictions, the IRS needs to go after them, but there are plenty of companies who comply with the letter and the spirit of the law.

For information on U.S. transfer pricing laws and regulations, please visit:
http://www.ustransferpricing.com

Posted by: Transfer Pricing Editor at April 9, 2007 4:27 PM
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