Finance Assignment

FINANCE AND ACCOUNTING ASSIGNMENT 1

Corporation Tax paid by Multinational Corporations

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FINANCE AND ACCOUNTING ASSIGNMENT 2

Debate on Corporation Tax in UK

Introduction

There has been an amplified debate in the United Kingdom about corporate tax issues and

specifically around concerns that government revenue from corporate taxes has been reducing

due to multinational companies shifting their profits to other countries where they have branches.

A statement from one backbench Member of Parliament (MP) in 2013 stated that there is a

growing crisis of the national tax system operating in the international business environment, and

this calls for radical action. It was observed that the UK was borrowing more than predicted,

especially because of lesser corporation tax collections from companies. Issues of morality and

the line between tax evasion and avoidance were cited severally. One MP said that tax avoidance

should be a matter of law and not moral persuasion, and another still asserted that companies that

avoid tax simply reflect rational behavior. However, there have been different opinions among

the committee members of the House of Commons over what constitutes avoidance. These came

up partly from a lack of understanding about what the UK is trying to tax and fairly because it

could be theoretically hard to define tax avoidance. It has also been unclear how much revenue is

mislaid as a result of UK firms transferring profits offshore, not least because there are no good

actions (Devereux et al., 2014). The paper proceeds to explore the key elements of the debates on

corporate tax paid by multinational corporations in UK as well as how the government can deal

with the issue.

Amazon, Google, and Starbucks were interrogated by the Public Accounts Committee of

the House of Commons on the levels of corporation tax paid by those groups. After years of

being overlooked, the whole topic of tax evasion and avoidance has ascended to the top of the

political agenda and whether multinational enterprises are paying their “fair share” of tax has

FINANCE AND ACCOUNTING ASSIGNMENT 3

become a substance of public concern. Politicians are constantly keen to come up with proposals

that fit the public mood, and thus there have been plenty of reports and initiatives in the UK.

There is a serious challenge of corporation tax avoidance faced by the UK partly due to the

regime tax complexity in the UK, but majorly because the tax system offers multinational

companies chances to shift profits between countries in ways that reduce their liabilities in the

UK. The House of Lords Economic Affairs Committee opines that this damages the economy

and undermines trust in the tax system (King et al., 2010).

The happenings in 2012 elevated public and political awareness of multi- nationals’

transfer pricing practices radically. Much of this came up from the Public Accounts

Committee’s (PAC’s) annual examination of HMRC’s accounts, which led to the public

questioning of representatives from Starbucks, Amazon, and Google. The PAC’s s report,

released in early December 2012, termed the situation as “outrageous”. It also called for a

change in attitude at HMRC, which was to be more aggressive in policing and prosecuting

companies that paid too little tax and to challenge ill practices. In 2013, the potential role of

transfer pricing and avoidance of corporate tax remained in the news and very firmly on the

political agenda (Grant et al., 2014).

The debate on the subject matter encompasses several elements as follows. Firstly, Tax

avoidance that commonly involves taking advantage of ‘loopholes’ between taxed activities and

those not taxed or favorable interpretations of uncertainty in tax legislation. Chances of

avoidance also arise because it can be difficult to outline ‘UK profits’. Broadly, firms can

decrease UK taxable profits by increasing the deductions allowable from taxable revenue and by

shifting income to a lower-tax authority. HM Revenue and Customs (HMRC) defines tax

avoidance as bending the rules of the tax system to gain a tax advantage that Parliament never

FINANCE AND ACCOUNTING ASSIGNMENT 4

intended. It involves operating within the letter but not the spirit of the law. The reasons why

avoidance is hard to characterize precisely and causes much debate is that not everyone agrees

on, nor feels obliged to adhere to, the ‘spirit’ of the law. Tax avoidance incorporates a wide

range of activities. Firms may reposition their real activities in response to the incentives in the

tax system. Such behavioral responses may be greater than the government projected but

arguably are not avoidance. Companies may use intra-group prices, embark on wholly artificial

transactions or launch tax haven corporations. It is these strategies that are commonly

characterized as ‘aggressive’ or ‘abuse’ forms of tax avoidance that draw the most criticism.

Avoidance can result in less tax revenue being collected than was planned. It can also create

alterations between different companies or different investments if some have greater ability to

avoid taxes. This is as revealed by the investigation by public accounts committee (PAC) on the

books of account of HMRC. The UK experiences a fatal challenge of corporation tax avoidance,

partly due to the complexity of the taxation system in the UK, but mainly because the

international tax system provides multinational companies openings for shifting profits between

countries in ways that reduce their obligations or tax liabilities in the UK. The House of Lords

Economic Affairs Committee says that this harms the economy and demoralizes trust in the tax

system (Karkinsky et al., 2012).

Referring to the report by PAC, some of the companies with scandals on tax avoidance

include; Starbucks, which made sales of £400m in the UK, but paid no corporation tax. It moved

some money to a Dutch sister company in royalty payments, bought coffee beans from

Switzerland and paid high-interest rates to borrow from other parts of the business. Amazon, had

sales in the UK of £3.35bn in 2011, but only stated a "tax expense" of £1.8m. And Google's UK

unit paid the only £6m to the Treasury in 2011 on UK turnover of £395m. Facebook’s latest

FINANCE AND ACCOUNTING ASSIGNMENT 5

accounts filed at Companies House shows it made a pre-tax loss of £28.5m in the year 2014.

However, it is recorded to have offset 362 staffs from the UK their wages a great amount. The

resultant pre-tax loss on their UK accounts permitted it to pay next to nothing in corporation tax.

However, the company confirmed that all their staff whose bonuses were disbursed remitted their

income tax afterward. This definitely would have increased the tax take for the UK exchequer to

more than £14m, compared to the £1.5m it would have received on the net profit that the

company would have otherwise banked. It is more pressing whether the company only made the

£105m revenue it officially posted in the UK last year as it reported $2.9bn (£1.9bn) globally.

Avoidance of corporation tax causes loss of revenue to the Exchequer. It also means an irregular

playing field for trade in the UK in that firms based at home remit corporation tax while

multinationals escape it. Open avoidance also saps trust in the tax system entirely. Continued

effective taxation depends on agreement, which requires taxes to be broadly accepted as fair. In

contemporary democratic societies where public expenditure ranges up to half of GDP or more,

the related high levels of tax make the agreement more offending (UK parliament, 2014).

According to the debate also, HMRC has been mentioned as having had a problem in

their accounts after examination by PAC. Due to this fact the UK government stipulated the

responsibilities of HMRC, which included; safeguarding the flow of money to the Exchequer

through the collection, compliance, and enforcement activities, making sure that there is cash

available to facilitate public services. HMRC should as well facilitate legitimate international

trade, and protect the UK’s fiscal, economic, social and physical security within and at the border

as well as collect UK trade statistics. It is their mandate to administer Statutory Payments such as

statutory sick pays and maternity pay. Help individuals and families with a certain amount of

money through payment of tax credits. They must aim to administer the Government Banking

FINANCE AND ACCOUNTING ASSIGNMENT 6

Service and the tax system in the simplest, customer focused and efficient way. The HMRC

should, therefore, ensure that taxes are collected. HMRC has not sufficiently challenged

multinationals’ noticeable artificial tax structures. It is acceptable that HMRC is limited by

funds, but it is strange that it has not been more challenging the Google’s corporate arrangements

given the vast disparity between where profit is produced and where tax is paid. Variations

between the form of the company’s structure and the material of its activities only came to light

through the efforts of investigative journalists and whistleblowers. Any common sense reading

of HMRC’s guidance and tests suggests HMRC should strongly question Google’s claim that it

is acting lawfully. In disparity to the evidence given previously, Google has also conceded that

its engineers in the UK are contributing to product development and creating economic value in

the UK. It is important to note that HMRC has never confronted an internet-based company in

the Courts on the question of its permanent establishment (Dharmapala, 2008).

Clausing, (2009) points out that UK tax rules are complicated and have not kept pace

with the way businesses operate globally and through the internet. While people are

apprehensive about HMRC’s effectiveness in tackling tax avoidance, they also admit that it has

to operate within the restrictions of complicated UK tax laws and international tax agreements. It

is very simple for companies to exploit the rules and set up structures in low-tax jurisdictions,

rather than pay tax where they conduct their business and sell their goods and services. There is a

concern about the out-of-date tax frameworks covering worldwide internet based commerce that

depend on a fully computerized process. The British tax system has become very complex. There

is also a complex international framework governing where global companies pay tax.

Multinationals and the digital economy have a rising share of world business. The particulars of

national and international tax rules and the global nature of business offer a possibility to

FINANCE AND ACCOUNTING ASSIGNMENT 7

manipulate the system and to decrease or avoid corporation tax by shifting profits to low-tax

jurisdictions. This fuels dependence on tax advisers. HMRC are amongst the tax administrations

in the nation that are always behind the curve (King et al., 2010)

There are various means in which companies can shift profits from the UK to lower-tax

jurisdictions including; Greater debt where a multinational can lessen its taxable profit in the UK

by taking on debt through its British subsidiary. Interest payments on the dues would be tax

deductible from British corporation tax. Subject to anti-avoidance rules, the British subsidiary

can also borrow from an overseas subsidiary within the group to accomplish the same result.

Secondly, in transfer pricing, prices at which parts of a multinational buy and sell goods and

services to each other are supposed to be on an arm’s length basis, meaning, and the same price

as they would purchase and sell from autonomous third parties. But they can be used to cut

profits in the UK and increase them in subsidiaries in lower tax jurisdictions. Although

requirements on the act book against artificial transfer pricing may not be wholly effective.

Lastly, royalties can be paid among a multinational’s subsidiaries for the usage of intellectual

property rights and brands. Royalty fees charged to subsidiaries can be raised so as to cut profits

in the UK and raise them in subsidiaries in lower tax jurisdictions (Markle et al., 2011).

Based on the facts of the ongoing debates about corporation tax by multinationals, the

government must be vigilant in taking the initiative to control this matters. HMRC should be

much more effective in challenging the artificial corporate structures created by multinationals

with no other purpose than to avoid tax. They must fully investigate companies whenever

evidence as small as rumors is provided. HMRC and HM Treasury must urge and fight for an

international obligation to improve tax transparency, including by coming up with precise

proposals to improve the quality and reliability of public information about companies’ tax

FINANCE AND ACCOUNTING ASSIGNMENT 8

undertakings, and use that to information to collect a fair share of tax from profits generated in

each country. This data should include full findings from companies’ based in tax havens. There

should be a limit or elimination of the legal standing of blacklist firms or ownership from

jurisdictions with cannibalistic tax and secret establishments. Restrictions to qualifying

conditions for offshore and residency statuses are also vital. Off-shore ownership should be

substantive not non-domicile" status partial and limited in time and "non-resident" status omits

those with lives, businesses or wealth in essence from the UK. Restrain the benefits and

permissiveness of offshore, proprietorship and residency statuses. Non-domicile, non-resident,

trusts and partnership benefits all need cutting back. Correspondingly, reverse the privileged

treatment of overseas profits and firewall between submitted and non-submitted earnings. The

increase in the costs and disadvantages of ownership or residency statuses is a bold strategy. Tax

charges may be ballooned, and in particular, made more advanced. Possibly the government

should reintroduce an exit tax for British companies or citizens taking overseas residency,

repositioning or emigrating.

It should be a requirement for companies to provide transparent country-by-country

accounts (Devereux 2008). Moreover, the accounting and tax presumption for the calculation and

validity of inter-group or cross-border charges would be a strict distribution of national sales and

authentic costs. The government must tax UK accessible remote sales where the sale is made;

rather than as at present often "supplied" from abroad to avoid VAT or "booked" in another

country to avoid company taxes. If a business exists or is owned in the country, it should be

taxed there. It is necessary to employ a hindrance to cross-jurisdiction costs, charges and tax

exclusions that can be deducted for tax purposes, particularly between linked companies. These

FINANCE AND ACCOUNTING ASSIGNMENT 9

must be essential, substantive and equivalent but with specific restrictions on inter-group costs,

dues, intellectual assets and goodwill charges (Deveurex et al., 2014).

Spontaneous information exchanges with other countries not just existing by-request

arrangements (where the number of UK needs is little) but joining the existing European network

is a good start. The UK should confront avoidance implementers and organizers. Limit banks

licensed or operating in Britain from operating in or providing facilities to British citizens or

companies from "restricted jurisdictions". Require UK financial companies to disclose

spontaneously all offshore accounts and holdings and make advisory firms directly liable for tax

penalties from avoidance they have sponsored or aided. Enacting tough general anti-avoidance

provisions significantly heighten HMRC's assessment powers, funds, staffs and increase tax

avoidance penalties. It is imperative to have major tax reforms (Grant, 2014). Avoidance

inducing inconsistencies of tax treatment join improving economic performance, major monetary

problems and greater fairness in making reform long overdue. Today's complexity of taxes and

rates necessitates substitution with steady, equal treatment of all types of earnings employment,

unearned revenues, company profits and capital gains while balancing between over-taxing of

work and under-taxing big companies.

FINANCE AND ACCOUNTING ASSIGNMENT 10

References

Clausing, K. A. 2009. Multinational firm tax avoidance and tax policy. National Tax Journal,

703-725.

Devereux, M. P., Liu, L., & Loretz, S. 2014. The elasticity of corporate taxable income: New

evidence from UK tax records. American Economic Journal: Economic Policy, 6(2), 19-53.

Devereux, M. P., & Loretz, S. 2008. The Effects of EU Formula Apportionment on Corporate

Tax Revenues*. Fiscal Studies, 29(1), 1-33.

Dharmapala, D. 2008. What problems and opportunities are created by tax havens?. Oxford

Review of Economic Policy, 24(4), 661-679.

Grant, D., & McLarty, R. 2014. Business focus. Oxford University Press.

Karkinsky, T., & Riedel, N. 2012. Corporate taxation and the choice of patent location within

multinational firms. Journal of International Economics, 88(1), 176-185.

King, M. A., & Fullerton, D. 2010. The taxation of income from capital: A comparative study of

the United States, the United Kingdom, Sweden and West Germany. University of Chicago Press.

Markle, K. S., & Shackelford, D. A. 2011. Cross-country comparisons of corporate income

taxes (No. w16839). National Bureau of Economic Research.

FINANCE AND ACCOUNTING ASSIGNMENT 11

UK Parliament. 2014. The Public Accounts Committee publishes its 35th report of 2013-14 on

access to clinical trial information and the stockpiling of Tamiflu.

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