Page 4 - Working Paper (Multinational Firms Losses and Profit Shifting Behavior in Indonesia: Some Comments)
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DDTC Working Paper 1215

                   a higher risk is assumed.  Therefore, multinational   From  business  perspective,  corruption  is
                   firms with simple FAR, such as commission agent   sometimes  considered as informal  tax  to the
                   or toll manufacturer should have a normal profit   government. Stable political environment and good
                   but have less probability of financial loss.     governance  influences  business  decision  making
                                                                    and  discourages  multinational  firms  to  allocate
                      Secondly,  the  impact  of  business  cycle  and   profits abroad.
                   strategy should  be considered.  Every  industry
                   sector have their  own  particular  business cycle   Based on the above arguments,  it  could  be
                   patterns,  for  instance:  the tourism  section  is   observed that  losses could  have been  driven
                   greatly influence by seasonal demand. Even within   by  non-tax  factors.  However,  the  next  question
                   a sector each firm have own particular life-cycle,   would  be: for how  long,  could  a  multinational
                   starting from start-up  phase, growing  phase,   firm,  from  economic  rationale  perspective,  suffer
                   matured company, decline phase, and finally  when   such losses? Two, five, ten years or even longer?
                   the enterprise is shut-down. Business life cycle also   Again, it depends on the whether such losses could
                   have an impact on how firms design and formulate   be tolerated  thereby taking  into  consideration
                   their business strategy.  For instance, a firm that is   remuneration from future profits. From economic
                   contemplating to enter into a new market (start-up   rationale  perspective,  when  multinational  firms
                   phase) would probably interested in implementing   continue to operate  their  business,  while most
                   a market penetration strategy, either  by offering   of  independent  firms  are  not;  this  could  be  an
                   products to the customers with significant lower   indication of profit shifting strategy (tax motive).
                   prices than existing products from competitors or
                   to  offer  significant  discount.  Such  strategy  could   3.  Financial  Loss  as  Profit  Shifting
                   create a financial loss for the firm.
                      Thirdly, the impact  of extraordinary market
                   conditions should  be  considered. In  their        When  multinational  firms  suffer  losses,  they
                   operations,  firms  would  always  anticipate  their   may  not  be  receiving  adequate  compensation
                   future operations by making  market  projections   from the multinational  group of which  it is a
                   based on most recent economic  conditions,  for   part  in  relation  to  the  benefits  derived  from  its
                   instance, when setting their pricing policy. However,   activities.  Multinational firms’ losses can therefore
                   in  the  case  of  market  volatility  (disequilibrium)   be  associated  with  profit  shifting  strategy.  Profit
                   projections might fail and lead into financial loss.   shifting is a strategy to minimize the multinational
                   The global financial crisis during 2008-09 could be   firm’s  global  corporate  tax  burden  by  placing  or
                   robust illustration.  Both multinational firms and   allocating  profit  to  the  entity  that  operates  in
                   independent firms are impacted by the probability   the country that  provides  the most favorable  tax
                   of  unexpected  risk  in abnormal  situation. There   regime.  As  a  result,  profit  shifting  can  erode  a
                   are three different sources of abnormal situations:   country’s tax  base. From basic economic  model
                   (i)  internally  from  the  company  (e.g.  fraud  or   of  profit  shifting,  multinational  firms’  reported
                   inefficiencies); (ii) industry or sector (volatility of   profit was a result between ‘true profits’ minus the
                   price  for  raw  material);  and  (iii)  macroeconomic   shifted profit. Thus, financial loss (negative profit)
                   condition. 7                                     might be the outcome of excessive profit shifting
                                                                    strategy. Discussion on such issue in the context of
                      Fourthly, non-economic  conditions  should  be   Indonesia, need further understanding on why and
                   considered. For multinational firms,  political risk   how profit shifting can be occurred, beforehand.
                   could  also create uncertainties  to their business.
                   Furthermore, there  is  a negative  relationship    3.1. The Causes
                   between  corruption  and corporate tax  payment.
                                                                          Interdependency  of the world economy
                                                                       marked by global value chain and free movement
                   4. See Romi Irawan, “Analisis Fungsional” in  Transfer Pricing: Ide,   of products and production input has brought
                   Strategi,  dan  Panduan  Praktis dalam  Perspektif Pajak  Internasional,
                   eds. Darussalam, Danny Septriadi, and B. Bawono Kristiaji (Jakarta:   more concern on international aspect of public
                   Danny Darussalam Tax Center, 2013), 107-135.        finance.  Tax  policy  is  extended  from  local  to
                   5. Robert Feinschreiber, “Life-Cycle Analysis and Transfer Pricing,”   global,  from national  to international.  It is
                   in  Transfer  Pricing  Handbook,  3rd  Edition:  Volume  1,  ed.  Robert
                   Feinschreiber (New Jersey: John Wiley & Sons, Inc., 2001), 37.9-37.10.  merely concern  that  any country’s corporate
                   6. Christian M. Scholz, “Recession Transfer Pricing Returns,” in Transfer
                   Pricing in Recession. Tax Planning: Special Report, ed. Lilian Adams   Compliance?” Beiträge zur Jahrestagung des Vereins für Socialpolitik
                   (Washington D.C.: BNA International Inc., 2009).  No. A17-V1 (2010): Ökonomie der Familie - Session: Corporate Taxation,
                   7. Deloris R. Wright, “Extraordinary Market Condition,” in Transfer Pricing   No. A17-V1.
                   Handbook, 3rd Edition: Volume 1, ed. Robert Feinschreiber (New Jersey:   9. OECD Transfer Pricing Guidelines 2010, Paragraph 1.71.
                   John Wiley & Sons, Inc., 2001), 16.3-16.4.       10. Richard A. Musgrave and Peggy  B. Musgrave,  Public  Finance  in
                   8. See Clemens Fuest, Giorgia Maffini, and Nadine Riedel, “How Does   Thory and Practice: 4  edition (New York: McGraw-Hill, 1984), 759-
                   Corruption in Developing Countries Affect Corporate Investment and Tax   760.
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