The Importance of Our Low Corporate Tax Rate

hardCopy

I came across this article today, linked from an article about Twitter locating it's International Office in Dublin. The reporter claimed that the corporate tax rate is not what attracts companies to Ireland but rather the ability to transfer price to their Bermuda operations.

The article claims that google only pay about 2.4% in tax on their non-US operations.

I'm no expert in these things but it seems like we should be looking to protect our tax laws on transfer pricing as well as or instead of worrying so much about the actual rate.

Article available here

Guardian wrote:

If Google is in Ireland for tax reasons, why are most of its profits in Bermuda?

A 12.5% corporate tax is supposedly critical to keeping multinationals in Ireland - yet Google pays 20% there

WPP chief executive Sir Martin Sorrell revealed on Thursday that he was probably going to return the firm's tax base to the UK, three years after it moved to Dublin in an apparent bid to profit from Ireland's controversial low corporate tax rate.

Corporate tax – which is 12.5% in Ireland, less than half the current UK level of 28% – has been the subject of some blunt discussion in Europe in the past few weeks: with Nicolas Sarkozy and Angela Merkel have demanded that Ireland increases the rate in return for a renegotiation of its IMF/EU bailout.

But any compromise on the corporate tax rate is off the agenda at today's European summit. In a change of strategy, Enda Kenny has decided to hold off on demands for lower interest rates on its repayments until stress tests on the four main Irish banks are completed in March. In Ireland it is widely feared that the tests will show a further black hole in the banks that could require another mini-bailout.

The issue of corporate tax, however, remains a hot potato – but it may be more of a red herring. Ireland's rate is low, but it is one of several considerations for multinationals considering where to base their operations.

Take Google, for example – like WPP it has sited its European headquarters in Dublin although it most of its European revenues are generated outside Ireland - from the UK and other large EMEA economies such as Germany.

The internet giant doesn't pay 12.5% corporate tax in Ireland, it pays 20%. But that figure is not the interesting one. The interesting figure is the gargantuan "administrative expense" that reduces its gross profit from €5.5bn to just €45m.

Grant Thornton tax accountant Peter Vale, who works with multinationals in Dublin says the corporate tax rate of 12.5% may not be a critical factor for companies like Google.

The search engine is using Ireland as a conduit for revenues that end up being costed to another country where its intellectual property (the brand and technology such as Google's algorithms) is registered. In Google's case this country is Bermuda, according to an investigation by Bloomberg last year.

Vale points out that Bermuda is likely to be happy to receive tax revenues from such a huge company, saying: "To them, the 12.5% probably doesn't matter."

The 2009 Google Ireland Limited accounts show the company turned over a phenomenal €7.9bn in Europe for the year ending 2009 – up from €6.7bn the previous year.

The internet giant made a gross profit of €5.5bn, with an operating profit of €45m after "administrative expenses" of €5.467bn were stripped out.

Administrative expenses largely refer to royalties (or a licence fee) Google pays it Bermuda HQ for the right to operate.

Notes to the accounts show "administrative expenses" rose significantly between 2008 and 2009 – by €794m – because of increases in headcount, sales and marketing and the "royalties paid as a result of increases in recorded turnover".

Notes on page 16 of the accounts also show that the Irish corporate tax paid is €9.6m – an effective tax of around 20%.

The figures largely echo those uncovered by an investigation across six countries conducted by Bloomberg and UK-based tax accountant Richard Murphy last year.

They uncovered a highly efficient tax structure across six territories that meant Google paid just 2.4% tax on operations outside the US.

Google's income-shuffle is all above board and legal. A spokesman for the company said: "Google complies fully with all relevant tax legislation in all the countries in which it operates. That means that we contribute to all relevant local and national taxation schemes – as well as providing employment for approaching 2,000 people in Ireland.

"The profits of our Irish entity are consistent with the activities we perform in Ireland. Google's profits in Ireland or any other country are not solely due to the local operations but relate to significant investments in R&D, data centres and other functions and risks performed outside of Ireland."

But Vale and other tax accountants familiar with multinationals' intra-company structures believe the debate in Europe about corporate tax has a very narrow political perspective, saying that multinationals come to Ireland for a variety of reasons and corporate tax rate is just one of them.

Google, which has just bought a brand new office block in Ireland to cater for further expansion, will optimise its tax structure wherever it is. According to Vale it could do exactly what it does in Ireland in the UK, France or anywhere else in Europe.

"It is likely that Google's tax treatment in Ireland could be replicated in most European countries. If the IP is offshore, then you would expect that royalty payments to Bermuda would suck up most of the profits" said Vale.

So it may infuriate France, Germany and the UK that online revenues generated by Google in those countries are taxed elsewhere, but a change in Ireland's nominal corporate tax rate isn't the answer, it seems.

If anything it is the US public who should be most vexed by the issue.

Bloomberg last year found that Google had cut its taxes by $3.1bon in the past three years using income shifting. Strategies known to lawyers as the "Double Irish" and the "Dutch Sandwich" helped reduce its overseas tax rate to 2.4% – the lowest of the top five US technology companies by market capitalisation – according to regulatory filings in six countries.

But, as Vale says: "As long as the intellectual property is in Bermuda, that is where the profits reside. Ireland has no rights to the profit earned by the intellectual property based in another country.

"Accordingly the key issue is how the IP was migrated to Bermuda in the first place and that is essentially an issue for the Internal Revenue Service in the US. As far as we understand, SEC filings indicate that the transfer pricing arrangements were agreed with the IRS in 2006."

beeftotheheels

hardCopy wrote: »

I'm no expert in these things but it seems like we should be looking to protect our tax laws on transfer pricing as well as or instead of worrying so much about the actual rate.

Firstly, we now have transfer pricing rules, we brought them in in 2010, but that is not what this is about.

The double Irish is a US tax play because the US sees all the income as being Irish, they don't see Bermuda. So Google, talking to its investors etc can point to x00 employees in Ireland and talk about 12.5%. This plays well in the US, creating jobs in "the old country".

Decisions are made, as you noted, based on the effective tax rate but that is way too complicated a concept for most mortals and the definition varies from country to country, talk is almost always about the headline rate.

If we put our headline rate up to 25% then Google would have to explain to its investors why it continued to use Ireland and highlight to them the fact that the headline rate is irrelevant and that the effective rate is the real driver. This would involve highlighting the fact that no one is taxing the income Ireland views as being in Bermuda, and that the US doesn't see leaving Ireland. Which would up the pressure on US lawmakers to change their rules.

So headline rate is important, not least as a fig leaf for the double Irish!

But it is also important for European headed groups who cannot use the "double Irish" and who have to comply with transfer pricing regulations anyway. 12.5% is better than the rate you will get in most European jurisdictions and it does encourage investment here.

WPP was not about the double Irish since it only works for US headed groups. It wouldn't work for a European headed group, almost all big European jurisdictions would spot the untaxed income in Bermuda and tax it.

WPP was not about 12.5% since they put no trading profits here, so wasn't about transfer pricing either.

WPP was all about the UK Controlled Foreign Company rules i.e. the rules which would allow the UK tax the untaxed profits of a Bermuda subsidiary as they arise. By putting Ireland on top of the group and shifting the low tax subs up under Ireland instead of leaving them under the UK this allowed WPP to keep untaxed/ low taxed profits offshore because Ireland doesn't tax such profits until they are brought on shore.

The UK changed these rules and made them less nasty so WPP are talking about going home. Since we'll have made sod all extra tax out of them (we get VAT and payroll taxes from Google which dwarf the CT they pay us because they have real ops here rather than just corporate HQ which is what WPP put here) good riddance. WPP is a case in point of the type of business we don't want here, they make us look like a tax haven without paying us any tax. Google may use us as a haven but they do pay us tax and create jobs which is exactly the sort of tax haven we set out to be.

ei.sdraob

The internet giant doesn't pay 12.5% corporate tax in Ireland, it pays 20%. But that figure is not the interesting one.

But it is interesting, what exactly is this statement based on, where did the Guardian pull 20% out of?

beeftotheheels

ei.sdraob wrote: »

But it is interesting, what exactly is this statement based on, where did the Guardian pull 20% out of?

Effective tax rate based on accounting profit which is never 12.5% because of differences between accounting profits and taxable profits.

cash tax paid/ accounting profit is 20%.

ei.sdraob

beeftotheheels wrote: »

Effective tax rate based on accounting profit which is never 12.5% because of differences between accounting profits and taxable profits.

cash tax paid/ accounting profit is 20%.

Thanks, maybe you would know about the transfer pricing bits as well, didnt the Finance Bill of 2010 bring us in line with rest of OECD? > http://download.pwc.com/ie/pubs/finance_bill_2010_transfer_pricing_1.pdf

beeftotheheels

beeftotheheels wrote: »

Firstly, we now have transfer pricing rules, we brought them in in 2010, but that is not what this is about.

We did. The thing is, transfer pricing is about ensuring that the profits sit in the right entity and are not artificially diverted to a lower tax entity.

So with the double Irish structure for example, all of the IP sits in the entity Ireland sees as being in Bermuda and so it is right that Bermuda is paid for a licence for that IP. So transfer pricing doesn't prevent any deduction in Ireland, unless Ireland is paying more for the IP than the IP is worth.

Transfer pricing specialists figure out what assets and risks to move to the lower tax entity in order to justify the profits being generated in that entity. So bringing in the TP rules won't necessarily make Ireland less tax friendly because most global groups will already have ensured that the risks and moveable assets are sitting in the right entities in the global group, and that the right charges are being made.

femur61

I am very suspect about the mantra about our low corporation tax being such a big player in our attraction for business. If this was the case then why have Dell relocated, Talk Talk, we couldn't keep Waterford Crystal. As the article inicates it is not abourt the low CPA but beind able to transfer money.

Scofflaw

beeftotheheels wrote: »

We did. The thing is, transfer pricing is about ensuring that the profits sit in the right entity and are not artificially diverted to a lower tax entity.

So with the double Irish structure for example, all of the IP sits in the entity Ireland sees as being in Bermuda and so it is right that Bermuda is paid for a licence for that IP. So transfer pricing doesn't prevent any deduction in Ireland, unless Ireland is paying more for the IP than the IP is worth.

Transfer pricing specialists figure out what assets and risks to move to the lower tax entity in order to justify the profits being generated in that entity. So bringing in the TP rules won't necessarily make Ireland less tax friendly because most global groups will already have ensured that the risks and moveable assets are sitting in the right entities in the global group, and that the right charges are being made.

You'd be hard-pressed to knock down almost any valuation a software company puts on its IP - there's not much else to them, bar supplier relationships and intangibles like goodwill.

cordially,
Scofflaw

beeftotheheels

Scofflaw wrote: »

You'd be hard-pressed to knock down almost any valuation a software company puts on its IP - there's not much else to them, bar supplier relationships and intangibles like goodwill.

cordially,
Scofflaw

Not entirely true. Say X Inc has a market cap of $2bn which, liabilities aside, supports an IP valuation of $3bn. 40% of sales are US, 60% are ROW (via Ireland/ Bermuda).

So you could challenge a valuation of the IP in Bermuda based on its proportion of global IP, you could challenge it compared to competitors IP valuation.

'Tis not an exact science but for the most part the rules require you to find a third party comparable (never exact) and then try to adjust their pricing back to yours. 3rd party comparables are pretty easy when dealing with something like Jam, and pretty difficult when dealing with something like the Coke recipe which would never be sold to a third party.

Other methods suggest looking for a cost plus mark-up, or a sales price minus basis.

One of the problem with this being such a grey area is that a lot comes down to enforcement. GSK took a big hit because the US went after them on the recharges back to the UK, the UK (unsurprisingly) agreed with GSK's methodology. So GSK effectively had to increase their taxable profits in the US yet the UK refused to make the corresponding adjustment so they paid tax twice on the same profits.

Now the US/ UK tax treaty obliges the US and UK to agree the position, but they took so long about it GSK has taken the hit through their P/L and agreed the position with both tax authorities leaving it out of pocket.

The moral of this story is that the same TP rules can be very nasty or pretty benign depending on the aggressiveness of the tax authority involved and their willingness to make challenges which will take at least 10 years to complete. So, historically one would assume Irish Revenue to be pretty friendly to US MNCs and less likely to challenge their valuations, whereas if Ryanair or Paddy Power used the same (similar, the same is impossible since no two businesses are the same) methodologies to underpin their pricing of IP payments offshore then chances of a challenge might be a bit higher.

Scofflaw

beeftotheheels wrote:

Not entirely true. Say X Inc has a market cap of $2bn which, liabilities aside, supports an IP valuation of $3bn. 40% of sales are US, 60% are ROW (via Ireland/ Bermuda).

So you could challenge a valuation of the IP in Bermuda based on its proportion of global IP, you could challenge it compared to competitors IP valuation.

Taking Google's case, where they book 88% of their $12.5bn non-US sales through Ireland ($11bn), and then pay $5.4bn to Google Ireland Holdings in Bermuda, which along with other costs results in them claiming a 1% pre-tax profit, it seems to me that what counts is the valuation of the IP in Bermuda - and I can't see how one goes about challenging that (I accept your point that the Revenue is unlikely to want to)?

cordially,
Scofflaw

beeftotheheels

Scofflaw wrote: »

Taking Google's case, where they book 88% of their $12.5bn non-US sales through Ireland ($11bn), and then pay $5.4bn to Google Ireland Holdings in Bermuda, which along with other costs results in them claiming a 1% pre-tax profit, it seems to me that what counts is the valuation of the IP in Bermuda - and I can't see how one goes about challenging that (I accept your point that the Revenue is unlikely to want to)?

cordially,
Scofflaw

It comes mostly down to valuation, but not entirely because you can challange from both sides, and from the middle.

So, option one is to maintain that the IP is over priced or the licence fees into Ireland are excessive compared to e.g. the licence fees other IP heavy businesses charge. To this end Google would maintain that they should not be compared to x other businesses because their model is so different whereas a fisc might want to use a basket which encompasses not just search engines or even just IT companies but which encompasses a lot of pharma too arguing that the nuts and bolts of manufacturing a drug is comparable to the nuts and bolts of supporting google. Depending on the search criteria you put into a database like Amadeus it can throw up wildly different transfer prices and the company will always be motivated to use the friendliest criteria they can stand over, an aggressive fisc is likely to go after the least friendly case they can stand over and then it all comes down to horse trading over the most appropriate methodology.

Option 2 is that you challenge from the other side. You say "to hell with what you value your IP at, no third party would employ x00 staff in Country A and incur these costs etc to operate on that margin". In essence you question the valuation of the IP to the business model as a whole and you probably reference the educational standards of the support staff required, lower paid staff tend to operate on lower margins.

Option 3, which is related to option 2, is that you find things not valued properly at all. So, google says that x% is intrinsic in the IP but hypothetically fail to take into account customer credit risk. Aggressive fisc then says, okay Google, a licence fee of €xbn is right based on the valuation of the IP but since X subsidiary is carrying the credit risk for RoW and Google inc tends to have bad debts of $ybn Google Bermuda should be repaying the subsidiaries to carry that credit risk and making a recharge based on that.

So, with TP it is not only about valuing the assets, but also about ensuring that you have captured all assets and liabilities which ought to have been valued. Something like the current climate can throw our previous thoughts on their heads when looking at the pricing of intra-group debt and third party credit risks which were arguably woefully under-priced in the run up to 2007, because third parties were woefully underpricing risk.

And finally, there is almost always a rogue contract somewhere that it should not be. The random huge contract which the COO in the US signed instead of the director in Ireland. You find them and try to unwind them to get the value back into the group structure where it was supposed to have been (in the eyes of the tax advisers and group tax strategy) and you're going to be pretty worried about a TP audit. But that is the nature of the beast when it comes to MNCs, someone, and usually someone too senior to tell off, does something they're not supposed to have done which is when all the best laid plans...

Scofflaw

...that all sounds like simply enormous fun.*

cordially,
Scofflaw

*to some extent, I genuinely mean that, and am appropriately disturbed.

daithimacgroin

So let me get this right,
Google made 6 billion in Europe this year, but only paid 9.6mil in taxes!

That's just....great!

Google, when I ran their ads on my website, they constantly under-reported traffic and adclicks, just to make an extra few bucks. This from a company that makes 6 billion a year in Europe alone!
The pure greed boggles the mind

ei.sdraob

daithimacgroin wrote: »

So let me get this right,
Google made 6 billion in Europe this year, but only paid 9.6mil in taxes!

That's just....great!

Google, when I ran their ads on my website, they constantly under-reported traffic and adclicks, just to make an extra few bucks. This from a company that makes 6 billion a year in Europe alone!
The pure greed boggles the mind

You could try a competitor such as Microsoft who are ... oh wait never mind