Page 8 - Working Paper (Multinational Firms Losses and Profit Shifting Behavior in Indonesia: Some Comments)
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DDTC Working Paper 1215

                         simplification  measures  in  transfer  pricing.   formula.42 Secondly, fixed debt to equity ratio
                         The  project  stands  on  the  position  that  the   approach provides great deal of certainty and
                         application of arm’s length principle should not   simple to implement.43 Moreover, the impacts
                         increase  compliance  cost  and  administrative   of  this  policy  to  firms’  capital  structure  are
                         burden for the taxpayers.  Any thresholds for   relatively promising, at  least  it  can  ensure
                         eligible  taxpayers  to  submit  documentation   towards more balance between debt and equity,
                         or safe-harbor measures (reference value that   and therefore creates less macroeconomic
                         can be considered as arm’s length value) are   risk  (for  instance:  current  account  deficit
                         now  acceptable  and  will  be  included  on  the   or  volatility  of  exchange  rate).  Thirdly,  this
                         revised version of the OECD Transfer Pricing   reference point may not necessarily represent
                         Guidelines.                                   market reality.44 This was supported by the fact
                      •  More  focus  on  value  creation  as  stated  in   that in principle, fixed debt to equity ratio does
                         Action 8, 9, and 10 of BEPS. As a consequence,   not contemplate any circumstances of company,
                         functional  analysis  and  value  chain  analysis   e.g., industry  sector, development phase  of
                         will  play  more  important  rule  to  allocate  the   firms, and others.45 On the other hand, another
                         profit. Again, value chain analysis is a tool to   approach such  arm’s length  capital  structure,
                         examine  the  contribution  (value  creation)  of   offers more comprehensive approach on how to
                         the entity within the multinational enterprise.   assess excessive debt especially on dealing with
                         Value  creation  also  relates  to  the  origin   intercompany loan.46
                         principle, where the substantial of economic-
                         producing  activity  is  take  place,  and  ensure   At the end, the combination between fixed
                         fairer share of profit across country.        debt  to  equity  ratio  and  arm’s  length  test  is
                      •   Lastly, country by country reporting (CbCR).   considerably the best solution, since  both
                                                                       of them can  cover each other’s  weakness.
                         As  emphasized  on  previous  section,  separate   Combination in here refers to the flexibility for
                         accounting approach (ALP) offers opportunity   taxpayers  to choose  which approach is more
                         for  the  taxpayers  to  hide  their  income.  In   suitable for them.
                         Action 13 of BEPS, OECD/G-20 promotes the
                         modification of transfer pricing documentation
                         into   country-by-country   reporting.   The   5. Conclusion
                         idea  is  to  have  transparency  and  allow  tax
                         administration  in  other  jurisdiction  to  access   For Indonesia, tax revenue is a vital source to
                         financial information of their taxpayer’s related   finance its development. Moreover, profit shifting
                         party.                                     problem is  particularly important because the
                                                                    share of income tax  revenue from corporation  is
                         As a conclusion, the flexibility of the ‘new’
                      arm’s length and alignments to value creation
                      under  OECD  BEPS  will  provide  great  benefits   As  with  the  case  of  independent  firms,
                      for Indonesia.                                multinational  firms  could  also  sustain  genuine
                      4.3. Thin capitalization rule                 losses  whether caused by extraordinary market
                                                                    condition, business cycle, their function and risk,
                                                                    or driven by non-economic factors. However, when
                         Although  not  a  dominant  profit  shifting
                                                                    independent  firms  that  are  involved  in  the  same
                      strategy, debt  shifting could also  erode tax
                                                                    business activities are not  tolerable  with  such
                      base  through  interest  expense.  Up  to  now,
                                                                    continued losses; then there will be an indication
                      Indonesia does not have thin capitalization rule
                                                                    that multinational firms has intentionally created
                      to tackle such problem. In the authors’ opinion,
                      Indonesia should use the combination of fixed
                      debt to equity ratio with the arm’s length test.   42. See Jennifer Blouin, et al., “Thin capitalization Rules and Multinational
                                                                    Firm Capital Structure,” CEPR Discussion Paper, No. 9830 (2014).
                      There are two main considerations to support
                                                                    43. OECD, “Thin Capitalization Legislation: A Background  Paper for
                      this view:.
                                                                    Country Tax Administrations”, Tax and Development – Draft, (2012), 12.
                                                                    44. Roberta Augusta Assad Dib, “The New Brazilian Thin Capitalization
                         Firstly, as proved  on empirical study by
                                                                    Rules and How  the Other BRICs Approach the Subject,”  Bulletin  for
                      Blouin et al.,  the thin capitalization  rules   International Taxation, Vol. 64, No. 6 (2010): 340.
                      were more effective if referred to automatic   45. Detlev J. Piltz, “General Report, Subject II: ’International Aspects of
                                                                    Thin Capitalization’”, Cashier de droit fiscal international, Vol. LXXXIb
                                                                    (The Hague: Kluwer Law International, 1996), 91.
                                                                    46. Detlev J. Piltz, “General Report, Subject II: ’International Aspects of
                   40. The idea also supported by various tax stakeholders. See Michael C.   Thin Capitalization’”, Cashier de droit fiscal international, Vol. LXXXIb
                   Durst, “Pragmatic Transfer Pricing for Developing Countries,” Tax Notes   (The Hague: Kluwer Law International, 1996),125. However, application
                   International, Vol. 65, No. 4 (2012): 249.       of arm’s length principle to limit intra-group excessive debt applies if and
                   41. See Eric C.C.M. Kemmeren, Principle of Origin in Tax Conventions:   only if intercompany transactions existed. This rule seemed to neglect
                   A Rethinking of Models (Dongen: Mr. Eric C.C.M. Kemmeren/Pijnenburg   the facts that ‘back to back loan’ or independent loans with guarantee
                   vormgevers, 2001).                               (collateral) are quite popular nowadays.
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