Rationale
Vietnam's accession to the WTO as its 150th member in 2006 marked the beginning of a new era of economic opportunities, significantly enhancing the country's appeal for foreign direct investment (FDI), which experts view as a vital component of its economic growth.
Foreign Direct Investment (FDI) in Vietnam experienced rapid growth and reached record levels from 2006 to 2008 Although the following three years saw a slight decline due to a global economic recession, FDI remained robust, with expectations of a resurgence by the end of 2012, projected to reach an increase of 17 million VND The influx of FDI has not only led to a rise in the number of projects but also improved project size and quality Numerous countries, including the United States, South Korea, Japan, Hong Kong, the UK, and Singapore, along with large multinational corporations, are increasingly entering the Vietnamese market.
Foreign Direct Investment (FDI) offers Vietnam significant opportunities to enhance its scientific expertise and global economic management skills, while also addressing unemployment through job creation As a key source of capital, FDI plays a crucial role in driving the economy forward, fostering a dynamic and competitive market for the future.
Foreign Direct Investment (FDI) can lead to significant economic benefits, but it also poses substantial risks if not managed properly Recently, many FDI enterprises in Vietnam have reported losses, contributing to a tax deficit for the government, which adversely impacts the national budget and hampers fair competition for local businesses This situation has resulted in inefficient use of FDI capital, weakened financial management, and undermined the government's goals of attracting and regulating foreign investment.
Among all of the possibly listed reasons, transfer-pricing is worth considering It is a sophisticated matter that is regularly executed by corporations to escape from tax duty.
On April 22, 2010, the Government issued circular 66/2010/TT-BTC, replacing the previous circular 117/2005/TT-BTC from December 19, 2005, to provide guidelines for determining market pricing in intra-group transactions.
The issue of transfer pricing has raised significant concerns among economists, particularly as its prevalence in Vietnam continues to grow rapidly However, the country faces challenges due to a lack of relevant experience in effectively addressing this complex problem.
We selected "Transfer Pricing in Vietnam" as our research topic due to the pressing nature of the issue and the critical need for timely interventions to address this phenomenon effectively.
Target
This research paper offers an in-depth analysis of transfer pricing in Vietnam, focusing on recent years marked by a surge in foreign direct investment (FDI) and the dynamic activities of multinational corporations.
To enhance the administration of foreign direct investment (FDI) enterprises and boost national revenue through increased tax income, we propose implementing effective measures to address transfer pricing issues.
This research paper will help domestic companies better understand international transfer pricing and develop strategies to mitigate risks associated with collaborating with foreign partners.
Subject and Scope
- Subject: FDI enterprises in Vietnam
- Scope: transfer pricing of FDI enterprises operated in Vietnam since 2006
Method of Research
- Methods used are statistics, listing, comparison and analysis of data source
DEFINITION AND THEORIES OF TRANSFER PRICING
Internal determinants
In an interview with The Saigon Times on July 14, 2011, Mrs Le Thi Thu Huong, deputy head of the Ho Chi Minh City Taxation Department, highlighted the internal issues surrounding transfer pricing, noting that some companies create multiple subsidiaries to manipulate their financial results and attract investments For example, after one subsidiary is publicly listed, others may transfer profits to it, artificially inflating its stock value This practice aims to enhance the company's public financial image, but it can lead to significant strategic errors, including poor product development and excessive advertising costs, ultimately resulting in long-term losses To mitigate these losses and appeal to shareholders, multinational corporations often engage in transfer pricing to allocate costs among subsidiaries, reduce tax liabilities, and present misleading profit figures to investors.
Multinational corporations (MNCs) are increasingly focused on entering and establishing a presence in rapidly developing economies As highlighted by Mr Nguyen Van Phung, the deputy head of the Taxation Policy Department at the Ministry of Finance, this strategic ambition is crucial for their growth and expansion.
On June 15, 2011, Electric Finance highlighted the link between transfer pricing and the necessity for collaboration with local enterprises These local businesses possess valuable knowledge of domestic customers and maintain established distribution systems, making their partnership essential in navigating the market effectively.
Multinational corporations (MNCs) engage in illegal transfer pricing and inflate intra-company transaction costs, leveraging their substantial financial resources to create artificial losses in their subsidiaries This practice threatens local partners with limited capital, often leading to the gradual exclusion of domestic firms from joint ventures Once they establish a foothold in the new market, MNCs typically increase prices to recover previous losses This type of transfer pricing is particularly prevalent in countries with perceived management deficiencies, such as Vietnam, Laos, and many African nations.
2 – External determinants a- Taxation liability difference
Taxation policies vary significantly across countries, creating opportunities for Multi-national Corporations (MNCs) to engage in transfer pricing Some nations, often labeled as tax havens, maintain lower tax rates compared to industrialized countries, allowing them to generate adequate revenue for their budgets while attracting foreign investment This strategy encourages conglomerates from developed nations to invest capital and share essential skills with the local workforce The following table highlights the corporate tax rates in various countries worldwide.
2011 that are ranked in ascending order From this graph, in general, nations which are more developed also impose higher corporate tax rate than less-developed nations.
Transfer pricing allows multinational corporations (MNCs) to strategically allocate costs and profits across different jurisdictions, often leading to tax avoidance and increased profits As noted by Sikka and Willmost in their 2010 study, this practice can result in significant tax minimization by positioning profits in low-tax or low-risk areas For instance, a subsidiary in a high-tax country may sell goods to a low-tax subsidiary at artificially low prices while purchasing from it at inflated prices This manipulation of transfer prices can substantially boost the after-tax profits of the MNC, despite minimal changes in overall revenue due to transaction costs Consequently, host countries experience a loss in tax revenue, creating an uneven playing field in the business environment.
(Source: Corporate and Indirect Tax Survey 2011, KPMG) b- Economic and financial conditions
Understanding a company's underlying economics is essential for establishing effective transfer pricing policies, as these economic factors can evolve due to changes in the business environment and broader economic conditions Key elements such as exchange rates and inflation significantly impact these dynamics, making it crucial for companies to adapt their transfer pricing strategies accordingly.
The exchange rate significantly impacts transfer pricing, as it influences the competitive stance of a subsidiary in foreign markets Fluctuations in foreign currency values affect demand, with depreciation leading to increased foreign-currency prices, potentially harming the subsidiary's competitiveness, especially for elastic products Consequently, to mitigate risks and maintain investment, multinational corporations (MNCs) may need to set lower transfer prices in domestic currency terms, ensuring they protect their capital and benefit from both operational profits and exchange rate variations.
Inflation significantly impacts the purchasing power of consumers and negatively affects export trade, particularly in countries facing hyperinflation It erodes the value of monetary assets, prompting multinational corporations (MNCs) to adopt strategies to mitigate these adverse effects One effective approach is for MNCs to transfer funds to more stable environments by implementing transfer pricing, charging subsidiaries in high-inflation areas inflated prices while paying lower prices elsewhere This strategy helps counteract the erosion of assets and protects the initial capital investment of MNCs, highlighting the importance of aligning the interests of joint venture partners with those of the MNCs.
Transfer pricing is crucial for multinational corporations (MNCs) to maintain their profit share in joint ventures By setting high transfer prices, MNCs may create tension with foreign partners who favor lower prices This conflict can lead to negative consequences for both parties if they cannot reach a compromise Therefore, it is essential to establish a mutually agreed-upon transfer pricing policy before forming a joint venture to ensure a harmonious partnership.
Shulman (1968) highlights a crucial factor in transfer pricing for multinational corporations (MNCs): when operating in countries prone to government upheaval or coups, it is prudent for companies to minimize cash holdings in those regions The heightened nationalism often seen during revolutionary periods poses additional risks to foreign assets, making profit repatriation essential Consequently, utilizing transfer pricing strategies allows MNCs to secure after-tax profits and mitigate potential financial instability.
III - Some usual behavior of transfer pricing
Tax and customs authorities actively combat transfer pricing, conducting inspections and enforcing regulations to manage and supervise compliance Each year, they penalize thousands of enterprises for fraudulent pricing and service charges, with transfer pricing being the most prevalent form of fraud detected.
The result primarily involves the reimbursement of import-export tax, value-added tax, and corporate income tax; unfortunately, these instances are not included in the statistical classification and analysis related to transfer pricing issues.
Based on review of cases of transfer pricing which were inspected in recent years, it is reasonable to recognize the signs of transfer pricing under the following forms:
Modification of capital contribution
As Vietnam has opened its economy to attract more foreign cash-flows with the expectation of improved tax revenue, employment and economic activities, numbers of
Multiple National Corporations (MNCs) choose Vietnam as their investing destination.
Foreign companies often utilize transfer pricing methods to adjust capital contributions during international transactions, particularly in Vietnam According to Kim Chi, a Vietnamese economic expert, overvaluing initial investment equipment allows multinational corporations (MNCs) to repatriate funds to their parent companies early in the investment phase Most MNCs entering the Vietnamese market opt to form joint ventures with local partners, leveraging each other's strengths; local partners provide insights into the domestic market and regulatory landscape, while foreign partners contribute advanced technologies and management expertise However, due to inadequate management and evaluation systems, MNCs frequently overstate their initial contributions, enabling them to secure majority ownership and transfer significant capital back to their home countries, while local assets are often undervalued.
A joint venture golf enterprise between Long Thanh Golf JSC and Macau Entertainment Corporation is set to launch next month The Macau partner is contributing $5 million to the venture, but an assessment by the International Appraisal Organization values the foreign assets at only $3 million As a result, the Vietnamese company faces a loss of $2 million, representing a significant 67% decrease in value.
Through modification of capital contribution, there are three subjects sustaining losses:
Vietnamese companies are experiencing reduced profits and benefits compared to their potential, while the government is facing substantial tax revenue losses due to significant capital outflows to foreign territories Additionally, consumers in Vietnam are compelled to buy overpriced products, further impacting the local economy.
Transfer pricing often leads to foreign partners holding majority ownership in joint ventures, enabling them to control management and operational activities This can result in foreign corporations artificially generating net losses, which undermines local financial stability Consequently, Vietnam is compelled to concede equity and ownership to these foreign entities Ultimately, these strategies contribute to the gradual absorption of local joint ventures by multinational corporations (MNCs).
Technology transfer
Technology transfer involves the movement of skills, knowledge, and technologies from developed nations to developing countries This process includes the sharing of manufacturing methods, samples, and facilities, enabling institutions and corporations in developing nations to utilize these advancements As a result, they can transform the transferred technology into innovative products, processes, applications, materials, or services, fostering scientific and technological growth.
In "New Trends in Technology Transfer," Prof John H Barton highlights concerns regarding the high costs associated with technology transfer, many of which are obscured by transfer pricing practices.
Transfer pricing through technology transfer has become a significant aspect of financial transactions, exemplified by the Vietnam Brewery Joint Venture Company, established through an agreement between Food No.2 State-owned Company and Heineken International Beheer B.V The company's operating license, issued in 1991, underwent a change in 1994, transferring ownership to Asia Pacific Breweries Pte Ltd, with a total initial investment of $49.5 million Despite the Vietnam party holding a 40% stake, the venture faced severe financial challenges, primarily due to escalating copyright fees that disproportionately affected local operations, leading to substantial losses while the foreign partner continued to thrive by leveraging their exclusive rights.
In the historical process of development, Vietnam must take full advantage of technology transfer from other developed countries which have higher productivity than our country.
The Vietnamese government is focused on promoting technology transfer to rural and mountainous areas, as well as to emerging industries like automobile manufacturing and high-tech sectors, aiming to align with neighboring countries such as Thailand and Malaysia in the short term, and more powerful nations like the United States and European countries in the long term However, Vietnam is cautious about technology transfer, considering essential factors such as the overall economic impact and issues related to transfer pricing To prevent complications, it is crucial to clearly differentiate between transfer pricing and technology transfer, as they are not directly linked.
Transfer pricing with a view to market domination
When multinational companies (MNCs) enter a new market, their primary goal is to capture market share from local competitors To achieve this, MNCs often prefer forming joint ventures with domestic firms instead of fully investing their foreign capital.
Multinational corporations (MNCs) often seek to leverage the distribution channels and market shares of local companies through joint ventures However, these partnerships may eventually be dissolved as MNCs employ strategies such as transfer pricing to marginalize local firms, ultimately converting the joint venture into a fully foreign-owned entity.
Multinational corporations (MNCs) leverage strategic techniques to dominate local markets, effectively outpacing domestic companies in similar sectors By sidelining local partners in joint ventures, MNCs can maximize their profits from operations in the host country, all while minimizing their investments in market research and advertising.
In the e-Finance issue dated November 30, 2011, Mr Nguyen Van Phung, a senior economic specialist and deputy head of the Taxation Policy Department at the Ministry of Finance, emphasized the importance of recognizing the role of domestic enterprises in transfer pricing practices.
Domestic enterprises, including both foreign direct investment (FDI) and locally invested companies, play a crucial role in supporting multinational corporations (MNCs) by securing exclusive contracts for the import and distribution of goods, as well as for the sale and consumption of their products This collaboration helps MNCs maximize profits and efficiently utilize resources Implementing thorough inspection, market comparison, and supervision can help determine if products, particularly in the pharmaceutical and dairy industries, are subject to transfer pricing practices.
In 2009, Vietnam hosted over 6,000 foreign-invested enterprises, with total committed capital reaching $33 billion These foreign companies contributed to 13.8% of the nation's total export output.
Foreign companies have captured 80% of the export market for high-quality processed products in Vietnam, highlighting their increasing market share This trend demonstrates the success of foreign direct investment (FDI) enterprises in effectively penetrating and expanding their production scales within the Vietnamese market.
Transfer pricing through differentials in tax rates
According to Eric J Bartelsman from the Free University of Amsterdam, the enforcement of transfer pricing rules by tax authorities significantly impacts income shifting among multinational corporations (MNCs) When there is a substantial difference in income tax rates between countries, MNCs often employ transfer pricing strategies to minimize their tax liabilities by transferring profits to jurisdictions with lower tax rates Additionally, they may inflate operating costs in high-tax countries, resulting in reported losses and further reducing their tax burden.
Foster, a beer manufacturing company, priced a keg of its beer at 240,000 VND, with a special consumption tax rate of 75% This results in a significant tax burden for each keg sold, highlighting the financial implications of beverage taxation.
- Price for computing special consumption tax = Selling price including special consumption tax/(1 + tax rate) = 240,000/(1 + 75%) = 137,143 VND
- Amount of special consumption tax = 137,143 x 75% = 102,857 VND
Foster Vietnam faces a special consumption tax of 102,857 VND on a keg of Foster's beer priced at 240,000 VND To mitigate this tax burden, the company established Foster Vietnam Limited Company, which purchases complete products from two Foster's breweries at a reduced price of 137,500 VND per keg Consequently, this strategic move lowers the special consumption tax for each keg of beer significantly.
- Amount of special consumption tax = 137,500/(1 + 75%) x 75% = 58,929 VND
Foster Vietnam Limited Company is required to pay a 5% value-added tax on its products sold in the market With a consistent market selling price of 240,000 VND per keg of beer, the company must calculate the corresponding value-added tax amount based on this price.
- Amount of value-added tax = 240,000/(1 + 5%) x 5% = 11,429 VND
Investors forming a Foster's Vietnam Limited Company benefit from a total tax payment of 70,358 VND per beer, which includes a special consumption tax of 58,929 VND and a value-added tax of 11,429 VND This represents a tax savings of 32,499 VND, or 31.60%, compared to the tax amount prior to the company's establishment Additionally, while the income tax obligations remain unchanged, investors can strategically reduce their taxable income by incorporating business management, depreciation, and advertising costs into their expenses.
One transfer pricing strategy utilized by multinational corporations (MNCs) involves manipulating the prices of goods based on varying tax rates across countries When faced with high import tariffs, parent companies often sell raw materials or finished products at reduced prices to minimize import tax liabilities To compensate for these lower prices, they may enhance services such as consulting, training, and marketing support Conversely, when import tariffs are low, MNCs may engage in high-priced import contracts to inflate operational costs and reduce their overall tax burden.
Mr Nguyen Van Phung highlights that FDI enterprises often reduce their output prices in export contracts with their parent companies or their foreign partners However, Vietnamese management authorities and joint ventures lack information regarding the relationships between these partners and the FDI enterprises This lack of transparency complicates efforts to develop plans and impose sanctions related to market price determination in compliance with legal standards.
In an interview with Mr Nguyen Dinh Tan from the Taxation Department in Ho Chi Minh City, it was revealed that during a comprehensive inspection of the tea manufacturing sector among FDI enterprises in Lam Dong, tax authorities discovered that export prices were significantly lower than operational costs By referencing the equivalent prices of similar products in the domestic market, the authorities were able to ensure compliance with the Tax Administration Law, resulting in a reduction of losses amounting to hundreds of billions of VND This manipulation of pricing for both outputs and inputs leads to financial statements that consistently reflect losses A poignant example highlighted the disparity between the international market, where "Made in Vietnam" products are sold for tens or hundreds of dollars, and the meager earnings of domestic workers, who often receive only one or two dollars.
Financial experts noted that while state authorities recognized the situation as transfer pricing, the laxity of Vietnamese law at the time meant there were no effective sanctions in place This lack of strict regulations hindered state authorities from managing Foster's separation techniques in production and commercial procedures, allowing the company to evade taxes and minimize its tax liabilities.
Transfer pricing in the form of increasing management and administrative costs.16 IV Effects
Mrs Le Thi Thu Huong, Deputy Head of the Ho Chi Minh City Taxation Department, highlighted that numerous foreign direct investment (FDI) enterprises, particularly in the restaurant, hotel, and rental office sectors, are incurring excessive costs for foreign staff in accounting, financial advisory, and asset management She emphasized that the tax authorities have yet to implement effective measures to combat this issue of transfer pricing.
Parent companies frequently compel their subsidiaries to engage consultants or intermediaries, often resulting in joint-venture partners hiring specialists who are costly yet inefficient This burden of expenses falls entirely on the subsidiary companies, impacting their financial performance.
Certain subsidiary companies invest significantly in hiring FDI managers, offering them high salaries They also incur substantial costs to foreign firms that supply these managers Additionally, if the company supplying the human resources is a subsidiary of the same corporation, this arrangement may indicate potential transfer pricing practices.
In some other cases, transfer pricing is implemented through abroad training such as appointing specialists and workers to study and intern at parent companies with high costs.
A common method of transfer pricing used by foreign direct investment (FDI) companies involves payments to consultants dispatched from parent companies Assessing the quantity and quality of these consulting services is challenging, allowing many FDI firms to exploit this ambiguity Consequently, they often engage in transfer pricing practices that effectively shift profits back to capital-exporting countries under the guise of consulting fees.
An illustrative case highlighted by Mrs Duong Thi Nhi from the Ministry of Finance's Financial Advisory Group reveals a Foreign Direct Investment (FDI) enterprise in Ho Chi Minh City that significantly raised its management fees to foreign parent companies from 3% to 40% This practice exemplifies transfer pricing through inflated management and administrative costs If tax regulations under Circular No 05/2005 and Circular No 134/2008 were enforced, government tax revenue would remain minimal compared to the substantial profits siphoned off by FDI enterprises and their parent companies Additionally, implementing a fixed cost structure could present challenges due to existing foreign investment laws.
On MNCs
Multinational corporations (MNCs) can leverage favorable investment policies, such as tax deductions and diverse investment opportunities, allowing them to minimize their responsibilities in host countries Through transfer pricing strategies, MNCs can safeguard their capital investments while rapidly generating cash flows for new ventures This approach enables MNCs to swiftly establish market dominance in their target countries.
Multinational corporations (MNCs) face severe penalties, including hefty fines and potential revocation of their business licenses, if found guilty of transfer pricing violations Such infractions can also tarnish their reputation and lead to increased scrutiny from tax authorities in the countries where they operate.
On the countries receiving foreign investment capital
In case of a reverse transfer pricing, if the country receiving foreign investment has low income tax rates, it can increase the national income.
Mr Le Xuan Truong from the Academy of Finance highlights that foreign investment significantly alters a country's capital structure, as multinational corporations engage in transfer pricing, leading to rapid capital inflows However, this influx is often followed by a swift outflow of capital, resulting in a distorted economic image of the country over time.
Countries labeled as "tax havens" may initially benefit from short-term transfer pricing, but they ultimately confront significant financial challenges when multinational corporations withdraw their investments This withdrawal occurs due to the unsustainable nature of short-term gains, which fail to accurately represent the underlying economic strength of these nations.
The introduction of transfer pricing and market price manipulation poses significant challenges for governments in recipient countries, hindering their ability to formulate effective macroeconomic regulatory policies and support the growth of domestic infant industries.
Transfer pricing can upset the equilibrium of international payments and hinder the economic strategies of nations attracting investment Consequently, it is essential for host countries to closely monitor and regulate the operations of multinational corporations (MNCs) Failing to do so may result in increased dependency on these corporations, potentially leading to long-term political reliance.
On the capital-exporting countries
In her article "The Impact of Transfer Pricing on Intrafirm Trade," Mrs Kimberly A Clausing from Reed College highlights that capital-exporting countries can enhance their balance of trade and international payments by gaining more foreign currency Improved operational efficiency of parent companies not only boosts social and economic efficiency but also increases tax contributions to the state, positively influencing the GNP growth of these capital-exporting nations.
When investment capital flows to countries with lower tax rates compared to capital-exporting nations, it creates an imbalance in tax strategies, resulting in reduced tax revenue for the latter This disparity poses challenges for macroeconomic management in capital-exporting countries, as they encounter unexpected fluctuations in investment flows that complicate government oversight and planning.
BRIEF SITUATION OF TRANSFER PRICING IN VIETNAM
Some typical cases about transfer price in Vietnam since economic reform
Multinational companies aim to lower costs and boost revenues to expand their markets and maximize shareholder profits A key strategy for achieving these goals is tax reduction, particularly in Vietnam, where high tariffs present significant financial challenges.
Vietnam's transfer pricing laws remain incomplete, allowing multinational companies to exploit loopholes and evade compliance This situation poses significant challenges for the Vietnamese tax authorities, making it difficult to detect and penalize such transfer pricing practices effectively.
Founded in 1994 as a joint venture between Hanoi Electrical Equipment Joint-Stock Company and ABB Asia Pacific, VNTRA Company began with an initial capital of $24.7 million, with Vietnam holding a 35% stake worth $3.84 million However, after seven years, the company faced ongoing losses due to unstable product quality and ineffective market strategies, compounded by the Vietnamese partner's insufficient financial resources to sustain operations.
In May 2002, the Vietnamese party successfully completed the legal processes to withdraw their initial equities and transfer them to ABB Asia Pacific Company, a wholly foreign-owned entity Following this transition, VNTRA saw a significant increase in profits, averaging a growth rate of 22% per year, driven by ABB's robust financial resources and extensive experience In March 2005, in line with state privatization policies, VNTRA was rebranded as Hanoi’s transformer manufacturing joint-stock company.
ABB is a leading global company in the fields of electricity and automation, operating in over 100 countries with a workforce of approximately 117,000 employees Since its establishment in Vietnam in 1993, ABB has expanded its presence with more than 600 staff members across major cities including Hanoi, Bac Ninh, Danang, Vung Tau, and Ho Chi Minh City The company manufactures mid-voltage products, such as switchgear, utilizing the latest technology to cater to the domestic market, while also supplying components for high-voltage accessories to support ABB's global operations.
The issue at hand revolves around whether VNTRA truly experienced a loss, particularly given its partnership with a globally recognized company known for its extensive management and marketing expertise This situation raises important questions regarding transfer pricing within the VNTRA association.
ABB Company has significantly inflated the prices of imported products, leading to elevated market prices and consistently high operational costs.
In an effort to project an image of high-quality products and minimize income taxes, this company has consistently reported losses over the years, seemingly to exclude its Vietnamese partner from the association While the reported losses appear illusory, they align with the company's strategic goals During this time, the incomplete legal framework in Vietnam and the limited capacity of tax officials made it challenging to identify ABB's violations.
Vietnam P&G is an association company between Procter & Gamble Far East Company and The East Company and was established on 23 November 1994.
The initial investment for the association was 14.3 million USD, which surged to 367 million USD by 1996, with Vietnam holding a 30% stake and the foreign partner 70%, each contributing 28 million USD However, in 1995 and 1996, the association faced significant financial losses totaling 311 billion VND, representing three-fourths of its gross capital Specifically, the losses amounted to 123.7 billion VND in 1995 and 187.5 billion VND in 1996.
In 1995 and 1996, P&G entered the Vietnamese market with the goal of establishing its brand and increasing product popularity among local consumers This initial phase focused on building a strong market presence, which ultimately contributed to significant expenditures during this period.
In 1995 and 1996, P&G invested significantly in advertising, spending 65.8 billion VND to dominate the market, marking a record high in Vietnam's advertising landscape during that period.
During this time, advertisements of its products such as Safeguard, Lux, Pantene, Header
Major broadcasting channels and press outlets prominently featured brands like Rejoice and Shoulder, familiarizing audiences with catchy advertising slogans such as "Rejoice makes hair smooth and defeats scurf."
Pantene's advertising expenses, which account for 35% of its net revenue, significantly exceed the permissible limit of 5% set by tax law, highlighting a substantial discrepancy from initial economic data.
In addition to advertising costs, initial economic data revealed that other expenditures surpassed these expenses The company initially allocated a salary fund of 1 million USD for its first year, but ultimately, it incurred a total salary expenditure of 3.4 million USD, which is 3.4 times the original budget.
The main reason was that P&G employed 16 foreign experts while it was only from 5 to
In the initial economic assessment, foreign experts noted a significant loss for the company, with actual sales achieving only 54% of the target, leading to a loss of 123.7 billion VND in the first year The following year mirrored this trend, resulting in an additional loss of 187.5 billion VND, bringing the cumulative losses over two years to 311.2 billion VND, which accounted for three-fourths of the association's total capital In July 1997, P&G's CEO made an illegal investment of 6 million USD, forcing the company to borrow funds to cover employee salaries Consequently, foreign companies were required to inject 60 million USD in capital, with Vietnam contributing 18 million USD.
Because Vietnam party lacked of financial capacity, they had to sell their shares to foreign ones and that made P&G become 100% foreign owned company.
3- Transfer price in Coca cola Chuong Duong Joint Venture Company.
REGULATION AND MANIPULATION OF TRANSFER PRICING
Current approaches to transfer pricing
Transfer pricing has become a significant issue as transactions involving foreign elements continue to increase The initial legal framework addressing transfer pricing was established by Circular 74/1997/TT-BTC, which provided tax guidelines for foreign investors This was subsequently followed by Circular 89/1999/TT-BTC.
Circular 05/2005/TT-BTC, which provided guidance on contractor tax, effectively removed previous issues regarding transfer pricing Subsequently, on December 19, 2005, the Ministry of Finance issued Circular 117/2005/TT-BTC, reiterating the importance of transfer pricing in determining market prices for intra-group transactions among multinational organizations This circular is recognized as a key legal document that establishes transfer pricing measures, particularly through its methodology aimed at aligning transaction prices within multi-divisional organizations to reflect accurate market values.
On 22 April 2010, the Ministry of Finance issued Circular 66/2010/TT-BTC (Circular
66), providing taxpayers (MNCs) with updated transfer pricing regulations Circular 66 was superseded by the regulations issued under Circular 117 (which was applied from
In 2006, regulations were established to guide various aspects of transfer pricing, including the requirement for contemporary documentation to demonstrate arm's length transactions These regulations also mandate the annual declaration of related-party transactions in tax returns It is crucial to note that failing to submit these annual declarations and maintain proper transfer pricing documentation may lead to deemed taxation.
A new platform has been created to facilitate information exchange between the Vietnamese tax authority and foreign tax authorities, aimed at preventing double taxation This initiative allows for the legal acquisition and sharing of information regarding multinational transfer pricing, ensuring transparency between taxpayers and tax authorities.
The tax reform strategy for 2011-2020, approved by the Prime Minister’s Decision
732/QD-TTg dated 17 May 2011, plans introduction of regulations on a number of complex transactions: business restructuring, asset valuation, thin capitalization, and advance pricing agreement.
2- OECD and the transfer pricing regulations
The OECD has been pivotal in shaping international transfer pricing rules, with its Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations serving as a primary resource for developed countries Alongside the OECD Model Tax Treaty and U.S regulations, these guidelines significantly influence the regulatory framework for transfer pricing globally.
The arm’s-length principle, established by OECD members, dictates that related parties must set transfer prices for inter-company transactions as if they were unrelated entities This principle ensures that prices are determined based on market competition, reflecting what independent corporations would charge If the agreed price deviates from this standard, tax authorities have the authority to adjust taxable income to reflect the profit that would have been realized under arm’s-length conditions.
The guidelines outline five key methods for determining the arm's-length price: the comparable uncontrolled transaction price method, the resale price method, the cost-plus method, the comparable profit method, and the profit split method These methods primarily leverage transactions between unrelated parties to establish appropriate pricing for transactions between related parties.
The Vietnamese government can effectively regulate transfer pricing by utilizing various market price determination methods, which provide both evidence and a legal framework These methods are outlined in Circular 66/2010/TT-BTC and align with the guidelines established by the OECD for assessing market prices in associated transactions.
- The comparable uncontrolled transaction price method;
The market price of products can serve as a foundation for calculating their unit price, either directly or indirectly through gross profit or profitability ratios Notably, when employing indirect price calculation methods, it is not essential to determine specific unit prices for the purpose of calculating business results for enterprise income tax declarations One such method is the comparable uncontrolled price method.
The comparable uncontrolled transaction price method determines the unit price of products in associated transactions by analyzing the unit prices of similar products in uncontrolled transactions, provided that the conditions of these transactions are comparable.
Company V, a Vietnam-based enterprise fully funded by foreign company S, specializes in the processing of textile and garment products In the year 200x, it conducted two transactions involving the processing of trousers categorized under cat 347.
- Transaction 1: Processing for parent company S 1,000 dozens of trousers at the price of USD 60/dozen and delivering the goods at port X in Vietnam (S will he responsible for exporting them).
- Transaction 2: Processing for country N’s company M 1,000 dozens of trousers at the price of USD 100/dozen and delivering the goods in city Y of country N.
- Company M is not associated with company V and company S.
The two transactions share similar conditions, with a significant distinction being the freight and insurance cost of USD 3 per dozen for transporting goods from port X to city Y in country N.
- In comparing transaction I (associated transaction) with transaction 2 (uncontrolled transaction), it is found that transaction I did not accurately reflect the market price.
Therefore, company V shall adjust the revenue from the transaction with company S as follows:
- Company V shall declare the processing charge received from company S being USD 97,000, instead of USD 60,000. b - The resale price method
The resale price method determines the cost of products purchased from associated parties by referencing the resale price at which these products are sold to independent parties This approach ensures accurate pricing by utilizing the selling price as a basis for calculating the cost.
Example: Enterprise V, a Vietnam-based associated party of foreign company H, deals in the distribution of watches supplied by company H has the following information:
- In the year 200x, company H delivered to enterprise V 1,000 watches and requested enterprise V to pay an amount of USD 330,000 (inclusive of CIF price and tax: import tax was paid by company H).
- At the end of the year, the net revenue earned by enterprise V from the sale of all of these watches to consumers in Vietnam was USD 400,000.
- Enterprise T, an independent enterprise in Vietnam, also deals in the distribution of watches Enterprise T's gross profit ratio for the year200x was 20%.
Enterprise T qualifies for a comparative analysis of the gross profit ratio with enterprise V Enterprise V is required to disclose reasonable deductible expenses related to the purchase of watches from company H.
Enterprise V may only deduct reasonable expenses from the cost of goods of USD 320,000, instead of the payable amount of USD 330,000.
If Company H offers goods sale consultancy services and requests payment from Enterprise V, this transaction should be treated separately To determine the reasonable expenses that can be deducted for this service, one of the transaction price determination methods outlined in the relevant Circular must be applied, such as the cost plus method.
The cost plus method is based on the cost (or cost price) of products for determining the selling price at which such products are sold to an associated party.