1. What do you mean by transnational company (TNC)?

State the motivation for

international engagement of firms.

Transnational company (TNC) is a commercial enterprise that operates substantial

facilities, does business in more than one country and does not consider any particular
country its national home. One of the significant advantages of a transnational company
is that they are able to maintain a greater degree of responsiveness to the local markets
where they maintain facilities.

Motivations for International Engagement:

1. Seek opportunities for growth through market diversification.

- Offer services that are not offered by businesses in home country.
- Provide products and services which reached maturity at their home country.

2. Earn higher margins and profits

- Coping with intense competition of international firms.
- Operation in countries where there is a high demand rate of the offering.

3. Gain ideas about products, services and business methods

- International businesses are characterized by tough and ability to constantly meet
customer’s ever changing demands.
- New environment expose foreign firms to new ideas, products, processes and business
methods.

4. Serve customers who have relocated abroad

- Serve customers who have moved to foreign markets.

5. Be close to supply sources, benefit from global sourcing advantages and gain
flexibility to product sourcing.
- Companies establishing its operations located abroad next to the suppliers.
- The firm look for an easy access operation and where they can easily acquire raw
materials.

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6. Gain access to lower-cost or better value factors of production.
- The international business targets low cost operation and value of factors of
productions.
- Access to capital, material, low labor costs and new technologies.
- Example businesses targeting china as it is a market where labor costs are low and
better productivity.

7. Develop economies of scale in sourcing, production, marketing and R&D.

- Reducing economies of scales per unit cost manufacturing due to operating in high
volume.
- Producing more units is much cheaper than producing little units.
- Firms may operate in countries where demands are high to be able to produce more
units.

8. Confront international competitors more effectively or growth of competition in

home market.
- The international market is increasing and competition is becoming tough.
- Multinational competitors are invading different countries worldwide.

9. Invest in a potential rewarding relationship with foreign partners.

- Firms joining ventures with profitable partners.
- Developing partnerships to grow business with partners for profit making
opportunities.

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2. What is a tax treaty? Justify the reasons for tax treaties.

Tax Treaty: A tax treaty is a bilateral agreement made by two countries to resolve issues
involving double taxation of passive and active income. Tax treaties generally determine
the amount of tax that a country can apply to a taxpayer's income, capital, estate, and
wealth. Countries with tax havens are the only countries that typically do not enter into
tax treaties.

Reasons of Tax Treaty:

1. To facilitate outbound investment by residents by:
- removing or reducing double taxation on investment in the other country;
- reducing excessive source country taxation;
- in the case of low tax countries, creating a competitive advantage for its residents by
reducing or removing source taxation;
- removing or reducing tax discrimination on investment in the other country;
- country on outbound investment by residents.

2. To facilitate and encourage inbound investment and inbound transfers of skills

and technology by residents of the other country by:
- removing or reducing double taxation on the inbound investment or transfers;
- reducing excessive source taxation;
- providing certainty and/or simplicity with respect to taxation of the inbound
investment or transfers;
- developing a closer relationship between tax authorities and business e.g. through the
mutual agreement procedure;

3. To reduce cross-border tax avoidance and evasion through:

- exchange of tax information;
- mutual assistance in collection of taxes.

4. Political reasons,
- to send a message of willingness to adopt international tax norms;
- to strengthen regional diplomatic, trade and economic ties with other countries
- to comply with international obligations e.g. under regional economic agreements;
- to respond to pressure from the other country.

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3. What is international taxation? Differentiate between worldwide taxation and
territorial taxation.

International taxation
International taxation is the study or determination of tax on a person or business
subject to the tax laws of different countries or the international aspects of an individual
country's tax laws as the case may be. Governments usually limit the scope of their
income taxation in some manner territorially or provide for offsets to taxation relating to
extraterritorial income. The manner of limitation generally takes the form of a territorial,
residence-based, or exclusionary system.

Differentiation between worldwide taxation and territorial taxation

Territorial System
Under a pure territorial system, a country only taxes the income that is earned in that
particular country. For example, if a taxpayer lives in country X, but works in country Y,
country X will not tax the income earned in country Y. A pure territorial system is not
realistic though because a taxpayer can avoid taxes in a country by simply moving his
income to a foreign country. For this reason, countries using a version of the territorial
system exempt most types of income from foreign sources, but do tax certain types of
foreign source income, such as passive income or income earned in certain low-tax or
no-tax jurisdictions.

Worldwide System
Under this system, a domestic taxpayer’s worldwide income, regardless of source, is
subject to taxation by the country of residence. For example, if a citizen of the United
States earns half her income in the United States and the other half in a foreign country,
all of her income is subject to taxation in the United States. The worldwide system
standing alone would subject a taxpayer to double taxation, since a taxpayer’s foreign
source income is subject to taxation in the foreign country where it was earned while the
foreign source income is also subject to taxation in the taxpayer’s country of residence.
In order to mitigate this international double taxation, the country of residence grants
domestic taxpayers a credit for foreign income taxes paid.

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4. What is double taxation? Illustration your answer to show how a company’s
welfare deteriorates for double taxation.

Double Taxation
Double taxation is a taxation principle referring to income taxes paid twice on the same
source of earned income. It can occur when income is taxed at both the corporate level
and personal level. Double taxation also occurs in international trade when the same
income is taxed in two different countries.

Double Taxation and Company's Welfare

Company's welfare deterioration means that the welfare of the shareholders deteriorate.
This happens when the situation like double taxation occurs.
Double taxation often occurs because corporations are considered separate legal
entities from their shareholders. As such, corporations pay taxes on their annual
earnings, just like individuals. When corporations pay out dividends to shareholders,
those dividend payments incur income-tax liabilities for the shareholders who receive
them, even though the earnings that provided the cash to pay the dividends were
already taxed at the corporate level.

The concept of double taxation on dividends paid to shareholders has prompted

significant debate. Some argue that taxing dividends received by shareholders is an
unfair double taxation of income because it was already taxed at the corporate level.
Supporters of dividend taxation point out that dividend payments are voluntary actions
by companies and, as such, companies are not required to have their income "double
taxed" unless they choose to make dividend payments to shareholders.
Most tax systems attempt, through the use of varying tax rates and tax credits, to have
an integrated system where income earned by a corporation and paid out as dividends
and income earned directly by an individual is, in the end, taxed at the same rate.

International businesses are often faced with issues of double taxation. Income may be
taxed in the country where it is earned, and then taxed again when it is repatriated in
the business' home country. In some cases, the total tax rate is so high, it makes
international business too expensive to pursue.
By this process, the company has a lower gross/net margin than it should have. And
through the above two ways discussed above, the welfare of the company deteriorates
for double taxation.

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1. What do you mean by substance over form? How is this different from the
sham transaction?

Anti-Avoidance Law:
Generally, anti-avoidance law is a series of common law doctrines that prevent a
taxpayer from manipulating the tax code and/or transactions in such a way as to
bastardize congressional intent.
For example, a corporate reorganization is a tax-free event. Therefore, taxpayers will try
to make a transaction look like a reorganization when in fact it is not.

There are 5 Anti-Avoidance Rules:

 Substance over form
 The Sham Transaction
 Business Purpose
 Economic Substance
 The Step Transaction
Substance Over form
In these Circumstances, the facts speak for themselves and are susceptible of but one
interpretation. The whole undertaking, though conducted according to the terms of
subdivision, was in fact an elaborate and devious form of conveyance masquerading as
a corporate reorganization, and nothing else. To hold otherwise would be to exalt
artifice above reality and to deprive the statutory provision in question of all serious
purpose.

Sham Transaction
It is well established that a transaction entered into solely for the purpose of tax
reduction (the Goldstein prong) and which has no economic or commercial objective to
support it (the Knetsch prong) is a sham and without effect for Federal income tax
purposes.

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The Business Purpose Test
In construing words of a tax statute which describe commercial or industrial transactions
we are to understand them to refer to transactions entered upon for commercial or
industrial purposes and not to include transactions entered upon for no other motive
but to escape taxation.

The Economic Substance Doctrine

- Prong One: The transaction in rationally related to a useful non-tax business purpose
that is plausible in light of the taxpayer's conduct and economic situation.
- Prong Two: The transaction results in a meaningful and appreciable enhancement in
the net economic position of the taxpayer other than to reduce tax.

The Step Transaction Doctrine

- A given result at the end of a straight path is not made a different result because
reached by following a devious path.

- The mutual-interdependence test finds that the step-transaction doctrine applies

where individual transactions were so interdependent that the legal relationship created
by one transaction would have been fruitless without a completion of the series. The
relationship between the steps, rather than their end result is examined.

- In the end results test, purportedly, separate transactions will be amalgamated into a
single transaction when it appears that they are really component parts of a single
transaction intended from the outset to be taken for the purpose of reaching the
ultimate result. Put another way, separate steps will also be integrated if they are a part
of a single scheme designed to achieve a single result.

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3. What is transfer pricing? State the role of transfer pricing in corporate strategy
selection of an MNE.

Transfer Price:
Transfer pricing refers to pricing arrangement between related business enterprises and
applies to intra-company dealings such as sales or purchase of goods, provision of
services, sale or transfer of tangible and intangible assets, borrowing and lending of
money and any other transaction which may affect profit and loss. Transfer pricing is
concerned with pricing of intra-company trade.

Role of transfer pricing in corporate strategy selection of an MNE:

For management accounting and reporting purposes, a multinational company (MNC)
has a certain amount of discretion in determining how to apportion expenses and
returns to its subsidiaries in different countries. Subsidiaries may be accounted for as
standalone businesses, or they may be integrated into larger business segments or
geographies.

By contrast, national governments are interested only in statutory returns to the MNC's
local entity. Because the profitability of a given MNC subsidiary will depend on the
prices at which intercompany transactions take place, and because of the recent global
recession, intercompany transactions are coming under increased scrutiny by
governments around the world as they seek to maintain or increase their tax bases.

At the same time, MNCs understand that transfer pricing can impact shareholder wealth
because it influences how taxable income is distributed among countries with various
tax rates -- impacting after-tax free cash flow.

It is therefore important that businesses with cross-border intercompany transactions

understand the concept of transfer pricing, defined as the prices at which companies sell
goods, services and intangible assets to related parties, as well as the global
environment in which transfer pricing takes place, the requirements for compliance, and
risks of non-compliance.

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4. What do you mean by deemed international transactions? Write your answer
with Examples.

Deemed International Transaction-Sec 92B(2)

The transaction with non-associated enterprise shall be deemed to be transactions

between AEs and shall be subject to transfer pricing regulations in certain cases

Transaction between A and

3rd party also subject to
transfer pricing norms, if:
 a prior agreement exists
between A’s parent and 3rd
party (both non-residents) in
relation to services rendered
by A to the 3rd party; or
 terms of transaction are
determined in substance by
A’s parent and 3rd party

 Amendment as per Finance Act 2014- Deeming provision would also apply to
cases where the third party is an Indian resident