Tax Analysts Blog

Will EITI Kill Transfer Pricing?

Posted on Mar 5, 2013

Sometimes big things have small beginnings.

Back in 2010 Congress approved the Dodd-Frank Wall Street Reform Act, which included a two-page addendum known as the Cardin-Lugar Amendment (section 1504 of Dodd-Frank). Strictly speaking, the amendment is not a tax law. It's not contained in the Internal Revenue Code, and is administered by the SEC rather than the IRS. The purpose of the legislation is to impose country-by-country reporting on firms engaged in the extractive industries (oil, natural gas, minerals, etc.). If the amendment strikes you as inconsequential, think again.

Affected firms will soon be required to report all foreign payments. That includes bribes paid to corrupt foreign officials, and taxes paid to foreign governments. The SEC disclosures must be made public, so the entire world will soon know how much tax these firms pay, and to whom. The regime goes live in September 2013, with the first round of filings shortly thereafter. Tax Analysts' Randall Jackson has written an excellent article on the issue that appears in the March 4 edition of Tax Notes International.

The Cardin-Lugar Amendment represents one prong in our federal government’s attempt to join the global EITI movement. A separate prong exists within the Department of the Interior, where a similar project is being promoted. The two efforts vary in detail, but share the common goal of addressing the so-called 'resource curse' that afflicts many developing countries. Think of a place like Nigeria, which is rich in natural resources, but perpetually poor and disadvantaged — in part because the government never collects much in the way of tax revenue, and when it does those funds never make their way to helping the people.

The EITI movement views rampant corruption and weak tax administration as major obstacles holding back these poor countries. It also believes that revenue enhancement is critically important if these nations are to become less dependent on foreign donors and IMF loans. As they see it, transparency of corporate payments is an anti-corruption measure that promotes revenue self-reliance, and thus economic development.

EITI has an international secretariat in Oslo, Norway, and a web site that details their activities. The EITI concept grew out of the ‘Publish-What-You-Pay’ project (PWYP), which operates a separate secretariat in London with similar objectives. The stated goal of both EITI and PWYP is to make mandatory country-by-country reporting a new global standard.

Okay, but say you’re a rude boy who doesn’t care about poor countries in Africa. Let's say you only care about economic outcomes right here in the United States. Why should you care about EITI?

For better or worse, there are major tax implications to the public disclosures that EITI will soon make compulsory. It just might blow the lid off of transfer pricing as we know it. Allocating group profits between affiliates in country X and country Y will take on a whole new dimension when you're staring at a public SEC filing, attested to by senior management, which lays out the group's global disbursement profile. Routine audits will suddenly resemble joint audits because taxpayers will no longer be able to pitch different stories to tax administrators in different countries.

EITI could emerge as the ultimate back-stop to the arm's-length standard. We note that IRC section 482 already contains a 'commensurate with income' requirement. EITI might give the doctrine real teeth, which it has previously lacked. The policymakers at the OECD are well aware of the topic, as evidenced by this article by Will Morris, senior international tax counsel at GE and chairman of the BIAC Tax Committee.

In case you’re wondering, country-by-country reporting could be a massive revenue raiser depending on how it’s scored. Frankly, any measure that dramatically constrains transfer pricing opportunities is bound to draw a high revenue score.

EITI could also influence the congressional discussions on corporate tax reform. After all, the intellectual case for territoriality is partially premised on the notion that there's a source country out there that will tax our multinationals' foreign-source income (hence the resident country can safely forgo taxing those profits). Country-by-country reporting would illuminate how much — or how little — foreign tax is actually paid to source countries. Those who fret about stateless income and double-nontaxation anticipate that EITI will generate a treasure trove of supportive data to bolster their arguments.

Keep in mind that EITI affects only those taxpayers in the extractive industries .... for now. Once the framework is in place, the next logical step would be to extend country-by-country reporting to all commercial entities operating over a di minimus threshold (say $100,000/year). That would be an enormous revenue raiser, although it's not even a "tax hike" in the traditional sense — nobody's statutory tax rate would increase under EITI, and nobody's deductions or credits would go away. It's just transparency, folks.

Like we said, big things sometimes have small beginnings.

Read Comments (1)

vivian darkbloomMar 4, 2013

As you note, the EITI movement seeks to gain greater transparency on tax (and
other) payments made to foreign jurisdictions, primarily in the developing
world. A few thoughts on this:

1. As global citizens, I suppose we should be in favor of ensuring that
multinational companies pay their "fair share" of taxes to those
jurisdictions. But, what exactly is a "fair share"? (This, also, by the way,
gives a different slant to the term "extractive industries").

2. As citizens of individual developed countries (e.g., the US), we may also
have an incentive to root for the home team. In the long run, would ensuring
that US multinationals pay *more tax* to *non-US jurisdictions* help the home
team, particularly in competition with other countries that use a
territoriality rule? I doubt it. In the long run, it may be an initiative to
ensure that US companies pay more foreign and less US tax, particularly if our
credit method of tax relief and global taxation of resident companies is

3. Disclosing payments and taxes paid (or accrued) is already the law;
however, disclosure is made to the IRS. That's the agency you know, not the
SEC, that is in charge of enforcing tax laws. We already have information
exchange with cooperative foreign jurisdictions. How does expanding this to
the public domain help? Does it discourage some jurisdictions that don't
participate in the initiative to get the advantage of the publicly disclosed
information of other countries but not the corresponding duty to disclose for
their own resident companies? This sounds like unilateral disclosure which
would be a big break from our treaty practice of requiring reciprocity in
information sharing. The law of unintended consequences may be operating here
at several levels.

4. The title to this post is, confusingly to me, "Will the EITI Kill Transfer
Pricing"? Strictly speaking, "transfer pricing" in my nomenclature at least,
is the endeavor by which one seeks to arrive at the correct (arm's length)
price between related persons so that each jurisdiction is entitled tax tax the
"correct" amount of profit attributable to that jurisdiction. The author here
states that the EITI would be a "backstop" and "give teeth" to that standard.
Whether this would, in fact, be the case is debatable; however, if that
premise is accepted, the idea would be that the EITI would *save* transfer
pricing; not end it.

On the other hand, it's possible the author is using "transfer pricing" in a
pejorative sense (given the bad reputation it has) such that "transfer pricing"
is the endeavor to both arrive at the improper price and thereby evade tax.

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