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Global challenge

Released at: 03:42, 28/07/2014 Transfer Pricing

Global challenge

Associate Professor Edmund Malesky from Duke University in the US and Lead Researcher for the Vietnam Provincial Competitiveness Index (PCI), shared his thoughts with VET's Hai Bang on transfer pricing and how Vietnam should address the issue.

by Hai Bang

There are two separate opinions on transfer pricing. The majority think that Vietnam should take an aggressive stance and increase its transfer pricing enforcement activities, while others believe that transfer pricing is just part of the global game and Vietnam should learn to live with it. What comment would you care to make?

Associate Professor Edmund Malesky from Duke University in the US and Lead Researcher for the Vietnam Provincial Competitiveness Index (PCI)

I 100 per cent agree that transfer pricing is an international dilemma that is caused by globalisation and the prevalence of multinational production networks. No single country can solve the problem on their own, because tax changes in one country affect the strategies of others in a particular company’s production network. Individual countries can only do so much. Eventually, this is an issue that will require an international agreement and administration through an organisation like the WTO.

In the meantime, the PCI report suggested that Vietnam could do three things on its own to mitigate the transfer pricing issue: (i) harmonise its corporate income tax with other countries in the region; (ii) limit the volatility in tax policy in particular industries, which is strongly associated with transfer pricing behaviour, as companies generate tax predictability through internal policies; (iii) continue to pilot the Advanced Pricing Agreement (APA) programme to see if it is effective in generating a reliable revenue stream and satisfies affected multinational corporations.

A number of multinational companies in Vietnam say they are long-term investors and so are willing to take long-term losses before turning a profit. Is this a fair argument?

    It really depends on the industry. Certain industries are capable of generating profits quickly, while other industries definitely have long gestation periods before achieving profitability. In fact, companies that require the longest start-up periods before profits are the same companies that Vietnamese policymakers have said they are interested in attracting - high technology and high value-added companies. Generally, I think the argument is a fair one. Vietnam is a complicated emerging market, and managers often need some time to learn the ropes and understand the environment.

Based on your observations here in Vietnam, what are the difficulties facing local tax authorities in combating the abusive use of transfer pricing? Are authorities better placed to handle transfer pricing issues now than a few years ago?

    Transfer pricing is almost always difficult to detect. The only place where it is easy is in sectors where there are obvious arm’s length prices for internal inputs. In industries with proprietary technology or intangible assets, such as patents or franchise licences, establishing a true arm’s length price is a real challenge. Looking at the new techniques and policies of tax authorities, it does appear there is improvement in the sophistication of auditors. But it is also clear that they face a daunting task.

What would you like to recommend to the government on curbing transfer pricing abuse?

    I listed a few above. Beyond the specific recommendations, I would push Vietnam to be a voice for emerging markets in establishing an international organisation that addresses the problem on a global scale. Generally within Vietnam, I would argue that working with companies through APA-like pilots is a useful way forward. Working with companies, making them partners in developing a solution, would be fruitful. The further Vietnamese authorities can move away from a “cat and mouse” game, the more likely they are to see compliance.

    One very radical solution that has been proposed by The Economist magazine that I am still thinking through is to do away with Corporate Income Tax entirely. Vietnam would then make up for the lost revenue by adjusting Value Added Tax, Personal Income Tax, and High Income Earners Tax, and add a tax to address externalities on the environment and natural resources. The attraction for foreign investors would be obvious, but there are three downstream questions that need to be answered: (i) would this generate sufficient revenue for the country’s long-term development goals? (ii) would individuals then try to escape the Personal Income Tax by shifting their income to companies? I don’t think we know the answer to those yet. And, (iii) is this more suitable for developed countries with well-functioning stock markets and sufficient personal income?

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