As businesses look to capitalize on international opportunities and establish a global presence, the question of how to optimize tax planning across multiple jurisdictions becomes paramount.
If we look back to our article that provided three key steps for global expansion success, we shared the actions required to best administer and support a globally mobile workforce. These steps ensure effective tax planning for individuals critical to the global success of the company. A happy, growing workforce begets a healthy culture and a successful business. And companies growing globally also want to ensure happy, growing earnings. So, once the mobile workforce planning is in place, the next critical question arises: How do I ensure effective tax planning for my global business?
In this article, we explore three key steps to leverage transfer pricing principles to create an effective global tax strategy as your company expands globally.
Transfer pricing refers to the prices charged and profits earned in the exchange of goods, services, and intangible assets between parties, most often referring to companies under common control. For example, if a subsidiary sells goods or renders services to its parent or a sister company, the price charged can be referred to as the transfer price. Transfer pricing is a tax and accounting practice used by businesses to allocate profits and costs consistent with their transactions, most often between related entities across different countries.
As companies operate globally, transfer pricing becomes increasingly significant and complex due to varying tax regulations and potential risks. Three steps to alleviating a company’s transfer price risk are:
- Understand your organization’s evolution and establish tax-efficient frameworks.
- Document processes to minimize risk across your global footprint.
- Utilize specialized partners to maximize planning in a complex environment.
By following these steps, companies can execute a strategy that can maximize earnings and maintain compliance, while also facilitating a thriving workforce and healthy organizational culture.
Step 1: Understand your organization's evolution and establish tax-efficient frameworks
Your organization has grown internationally to capitalize on business opportunities and customer demands. For effective tax planning, the first step is reviewing your organization's history and how it has evolved over time in order to establish frameworks for the future.
Take, for example, Expansion Co. (Expansion), a software as a service company that started in the United States and quickly saw global opportunity and demand. Note: The company name and certain characteristics have been altered for anonymity.
Opportunity presented itself in the form of global resources, and seeing this opportunity, Expansion soon established software development teams in eastern Europe, Asia, and Latin America to allow for around-the-clock development. Demand presented itself in the form of global commerce, and Expansion soon sourced global customers wanting sales and service teams to support their business in western Europe, Asia, and the Middle East.
In the beginning, Expansion would send US employees to each country to build the business, and an effective global mobility program (maximized with the help of a mobility tax partner) allowed Expansion to grow accordingly. However, it soon became apparent Expansion needed to hire personnel in each jurisdiction to maximize effectiveness, permanently establishing software development entities in Romania, Singapore, and Brazil and sales entities in the UK, Singapore, and the UAE.
As Expansion entered new jurisdictions, they had to deal with new tax rules, requirements, and reporting obligations in each location. However, this also presented opportunities to plan for Expansion's future growth in a tax-efficient manner by structuring their operations and finances strategically across these different jurisdictions.
Expansion leveraged the favorable business conditions and significant talent availability in Romania, Singapore, and Brazil to capitalize on current opportunities while positioning for future growth.
As Expansion’s global operations expanded with more business activity, risk, and property across jurisdictions, their tax requirements grew increasingly complex. However, this complexity also unveiled more tax planning opportunities.
As you look to expand globally, some key factors to consider in establishing tax-efficient frameworks include:
- Where and how functions are performed in each jurisdiction, and which related parties are responsible
- The risks assumed by each related party across the various jurisdictions
- The tangible and intangible property owned by related parties in each jurisdiction, when it was developed, and for what purpose
Understanding your organization’s evolutionary journey—where you started, how and why you grew, and your future plans—lays the groundwork for effective tax planning.
Step 2: Document processes to minimize risk across your global footprint
As your organization expands from initial foreign activity such as sending personnel abroad or recording international sales, to establishing formal operations in other countries, the complexity of your tax obligations increases exponentially. With each new corporate entity or permanent establishment created in a foreign jurisdiction, your organization faces additional tax filing and reporting requirements.
Navigating these requirements can be daunting. However, by understanding your organization’s history and how it has evolved over time, documenting the necessary processes to minimize risk across your global footprint can significantly reduce this complexity.
For Expansion, the complex reporting requirements of its diverse operations were overwhelming, particularly to many of Expansion’s personnel who had never navigated a global enterprise. To these employees and the business, it was crucial to partner with tax advisors who could help them ensure, first and foremost, compliance with local regulations.
At Expansion, tax advisors assisted in formalizing initial processes and created others to help the business report its operations effectively to each government. Through this exercise, Expansion also better understood the complexity of transfer pricing—the pricing of their intercompany transactions.
Not only were tax authorities in the various locations concerned about Expansion’s financial results (especially taxable income) in their specific jurisdictions, they were also concerned about Expansion’s intercompany pricing both across and within other jurisdictions. The rules in each jurisdiction designed to prevent tax evasion and illegal distortion of income were creating additional, risky hurdles for a growing company.
Though complex, Expansion's clearing of these hurdles and minimization of tax risk in Step 2 led to maximized planning in Step 3.
Some of the key factors to consider to minimize your transfer pricing risk include:
- Identifying the transfer pricing documentation requirements in each jurisdiction you operate
- Assessing the company’s current needs as well as projected future needs
- Evaluating the size and scope of the company’s intercompany transactions across jurisdictions
Documenting compliance with the tax and transfer pricing rules can help minimize the risk of your global footprint and can save you from significant penalties, no matter how early or late in the expansion process you are. Even better, it places your company in a great position to effectively plan in Step 3.
Step 3: Utilize specialized partners to maximize planning in a complex environment
Amid maintaining compliance and minimizing risk across the tax landscape of your entire organization, the opportunity to maximize your planning efforts is an opportunity not to be lost. Utilizing effective partners will help you navigate your complex environment.
Expansion’s story exemplifies this navigation. Initially, when Expansion had only begun exploring international activities without having formal foreign operations, a large financial advisory firm was a suitable partner. This advisor was geographically close to Expansion's headquarters and had access to resources capable of supporting the company's preliminary international endeavors.
However, as Expansion grew its international presence, the large advisory firm faced increasing challenges in effectively meeting the company’s specific tax planning needs effectively. While the firm had the necessary resources and relationships to provide support, Expansion had outgrown their standard service model.
Expansion had become too large for the firm's local advisors to possess expertise on their complex, global tax issues. Yet, it was still too small for the advisory firm's non-local specialists to dedicate sufficient resources to promptly address Expansion's questions and requirements. The company had essentially outgrown the "one-size-fits-all" approach of the large advisory firm, necessitating a more specialized solution.
Recognizing the need for specialized expertise, Expansion connected with advisory partners who could provide focused support tailored to their complex global tax and transfer pricing needs. These specialized firms had the knowledge and ability to quickly respond to Expansion's needs, helping minimize compliance risks and maximize tax planning opportunities across their international operations. The support extended beyond just global mobility, with experts in transfer pricing and other disciplines providing guidance to comprehensively address Expansion's expanding global footprint.
No matter where an organization is in the global expansion journey—whether establishing tax-efficient frameworks, documenting processes for risk mitigation, or partnering for advanced planning—working with specialized advisory partners can be invaluable. Collaborating with subject matter experts ensures effective tax strategies are implemented to maintain compliance while maximizing opportunities as a company's global operations grow in scale and complexity.
