Tax Guide: International Happenings
Universal Advisor, 2007 Issue No. 3

Pieces of eight were often a large part of a pirate’s treasure. Spanish dollars (the actual name for pieces of eight coins) were manufactured in the Americas for use in Spain. Since the coins were often transported from America to Spain in merchant ships, they often became the spoils of a pirate’s attack. Due to the large numbers minted, Spanish dollars became the first world currency with significant use as common tender in Europe, the Americas, and even the Orient.

China VAT Export Refund Rate Reforms

Value-added taxes (VATs) are used in most countries outside of the United States as an efficient and broad-based revenue-raising tax. VATs are similar to a sales tax except that they apply to all transactions in the supply chain in addition to the final consumer transaction. As products or raw materials move through the supply chain, each business collects VAT on sales to its customers and receives credits for VAT paid on products it purchased from its suppliers. Ultimately, VAT is still borne by the consumer. Governments like VATs since they collect tax revenues at an earlier stage, and the VAT provides a useful “self audit” feature for businesses since they must obtain invoices from their suppliers that allow them to claim VAT credits.

Prior to July 1, 2007, China gave its exporters a full refund on all VAT that was paid on raw materials or inventory by an exporter. This full refund gave Chinese exporters an advantage by reducing the costs connected with exported products.

On July 1, 2007, China reduced the refunds that exporters may receive. The smaller refund will increase the cost of exporting products and, ultimately, increase the price of Chinese exports. U.S. products affected include wood products (including furniture), metal products (including most steel and aluminum products), and many other items. The amount of the increase depends on the refund reduction and the amount of labor added by the exporter but will generally be 5-10 percent on affected products.

Transfer Pricing

U.S. companies that sell to related companies overseas (parents, subsidiaries, or brother-sister companies) must adopt transfer pricing policies that comply with U.S. standards as well as with standards set by the other foreign countries they operate in. The enforcement of transfer pricing policies has been a recent focus by the IRS and is a required issue upon audit for all companies that sell to related companies overseas.

In general, transfer pricing policies must satisfy an “arm’s length” standard, generally by meeting one of the following tests:

• Comparable transactions with unrelated companies — If you sell comparable products on comparable terms to both related and unrelated companies, the prices should be comparable.

• Profit-split calculations — Profits are split between related companies based on the relative contribution of each company to the earning process.

• Comparable profit methods (cost-plus, resale markup and other) — When no other method applies (or can be easily computed), the company must analyze transactions and business statistics for comparable companies to determine appropriate cost-plus percentages, resale markups, or overall profitability indicators.

Though these methods may not seem overly complicated, the documentation requirements under the applicable U.S. tax regulations are quite detailed, and the analysis must generally be completed before the tax return for the year in question is filed to avoid potential penalties on any future tax assessment.