Risk Management And Strategy On Transfer Pricing For Foreign Investment

Following the past two to three decades of accelerated globalization, theMulti-national companies (MNCs) are facing the tremendous pressures from marketprices and quality, as well as significant and ever-changing supervisory andnon-supervisory constraints. These pressures in turn urge MNCs to constantly innovate,produce and select various effective means to go about their business in order to maintaintheir competitive strength and gain competitive edge. Driven by globalization, anincreasing number of MNCs begin to carry out business transactions between differentsubsidiaries within a group, which indicates that international related-party transactionsas such will lead to distribution of MNCs’ profits among many countries, therefore,transfer pricing (TP) has become increasingly important to stakeholders such as taxauthorities, investors, competitors and management of MNCs.NCs, by taking advantage of different taxation systems between countries, maymanipulate TP improperly to minimize their global tax obligations, which goes againstthe principle of fair taxation for international taxpayers and the principle of fairinternational tax revenue distribution. To protect their own economic interests,governments impose constraints and controls on improper TP manipulation from ataxation perspective, and take measures to rectify the distortions it causes to internationaltax revenue distribution, hence the TP taxation system. TP taxation system refers tospecial tax regulations aimed at preventing affiliated enterprises from infringing upon acountry’s tax benefit through TP business tactics and related-party transactions. Ratherthan a specific tax system, it is a particular component of an accomplished tax systemthat broadly encompasses governments’ approaches and measures to control andadministrate MNCs’ TP to achieve policy objectives.The arm’s length principle (ALP) is the fundamental principle of TP taxation system.Compliance with the arm’s length principle is an important criterion and basis for theestablishment and perfection of TP taxation system. The arm’s length principle states thatthe prices set between affiliated enterprises in an intra-transaction should be comparableto the prices determined between independent enterprises under the same or similar conditions, and that tax authorities of the related country have the right to makeadjustments to the prices if there are disparities. The arm’s length principle offers equaltax treatment among affiliated and independent enterprises, removes MNCs’ initiative tolessen tax burden through TP, and prevents international economic distortions caused bytaxation. TP methods are the specific application of the arm’s length principle in TPadjustment. In the present economic environment, TP is ever more vital for companies,and global TP methodology and policy has become a key role of the tax departments ofMNCs. How to select the appropriate price competition methods is also a decisive factorin companies’ operation as well as tax risk management and control. It has now become aprofessional trend and requirement to employ a defensive TP policy and prepare relevantTP documentation. In addition, tax authorities’ inspection on TP has had newdevelopment and requirements in terms of both quantity and quality. Taxpayers areobliged to cope with new challenges followed by with great concentration. Thesecircumstances have a practical significance for the improvement of China’s TP taxationsystem. We should draw lessons from the advanced experience and mature practices ofwestern countries in a selective manner, extend our knowledge of TP and relevantmeasures adopted taking into consideration China’s character in order to enhance theinitiatives to the increasingly complex of the TP.