Transfer pricing and tax havens | Taxes | Finance & Capital Markets | Khan Academy

Transfer pricing and tax havens | Taxes | Finance & Capital Markets | Khan Academy


– Let’s say that I run a company that is based inside of the United States. So this right over here is my company. Maybe I have some
smokestacks of some kind. So that is my company, and it makes a million
dollars in pre-tax profits. One million dollars,
and this is before tax. So, pre-tax profits. And let’s say that the
country that I’m in, and the way I’ve drawn it,
this is the United States, let’s say at the time that
I make those pre-tax profits the corporate tax rate
is 35%, 35% tax rate. So, it’s pretty
straightforward to think about how much taxes I would have to pay. I would pay 35% on this
one million dollars, or essentially I would
pay $350,000 in taxes. Three-hundred and fifty
thousand dollars in taxes, and I would have 650,000 left in profit. So, 650,000 left in profit. Now what I want to think about, let’s say my company wants to
get a little bit more creative about how it might save on taxes. So what it does is, it
realizes that there’s an island not too far off the U.S. Coast, and there are actually several of them, that has a substantively lower tax rate. And I’m just picking it arbitrarily, but let’s say it has a 5%
corporate tax rate, 5% tax rate. So how can this company,
which is physically or for the most part
based in this country, somehow benefit from this lower tax rate that is happening offshore? Well, what they’ll typically do is set up another subsidiary, one that this company owns and controls, but it is set up in this
little island nation. So let’s set it up right over here. So that’s the other company. And what it’ll do is,
it’ll tend to give it maybe often times it’ll give it
some intellectual property, maybe patents, trademarks,
things like this. So it gets all of the
intellectual property of the parent company. So, given the intellectual property. And then, what it can say is– And this is owned by the parent entity, so I’ll draw a little dotted line here. It’s owned and controlled by this company that’s based in the U.S.,
and what they’ll say is, look, we don’t have a million
dollar pre-tax profit anymore, because we had to
essentially license the use of this intellectual property, whether it’s trademarks,
copyrights, patents, we’ve got to pay this
entity right over here some amount of money to use
that intellectual property. So let’s say that they say, we’re going to pay them,
I don’t know, $800,000, and this is essentially transfer pricing. In theory, there should
be a way of deciding what is the fair rate for
that intellectual property, but often times that intellectual
property is fairly unique, so it’s hard to determine a market rate, which really just leaves this company to decide it for itself. So let’s go into that reality, where instead of this reality, this company, before it had
a million in pre-tax profits, but now it’s paying 800,000
in royalties and licensing to this entity right over here. So out of that one million, you
have 800,000 going offshore. You have 800,000 goes offshore. And so, the real pre-tax
profit for this company now, based on accounting for it this way, based on paying this
subsidiary that’s offshore for use of the intellectual property, the company now has 200K
in pre-tax profits, 200K. So that was before the licensing. Now this is after the licensing. This is the new pre-tax number. This is the new pre-tax number. And so in the U.S., it would
only pay 35% of the $200,000. Instead of paying $350,000 in taxes, it would now pay– So it’s no longer 350 in taxes. Thirty-five percent of 200K
is 70K in taxes, 70K in taxes, and the U.S., I guess you
could say parent company, would show a profit of 200K
minus the 70K of $130,000. So, 130,000, I would call it net profit, or we could say post-tax profit. And then, this character right over here, let’s say it has very minimal costs. Let’s say it has no
costs, for simplification. It would have some, to do some paperwork. All of this would essentially be profit. Maybe have a few thousand
dollars in costs, but we’ll ignore that for now. So all of this would
be its pre-tax profit. It would have to pay 5% of it. Five percent in taxes to
this country right over here. So 5% of 800,000 is $40,000. So it would pay 40,000 in taxes to the government of this
island right over here, and then it would be left
with the remainder, $760,000. So, it would have 760,000. I guess you could call
that it’s net profit, after paying taxes, net profit. So you can see here the company saved substantially on taxes. It paid 70,000 in the
U.S. and 40,000 abroad. So it paid a total of 110,000 in taxes versus the 350,000 it
would have had to pay if it was based purely,
purely in the United States. So you might say, hey,
this is a great thing. Companies, why even have
an 800,000 transfer price? Why not do a million? And, obviously, if you do it
a little bit too ridiculously, it’ll get more and more scrutiny. So there’s some balancing influence there, and obviously if there is a market for this intellectual property or that type of intellectual property, or if you are licensing to other people, that might dictate what this is, but you might say, why
not do this night and day? Well, the question is,
you now have this profit, and it might be in the form of cash. We go into other videos in more
depth when it might not be. But you have essentially this profit, but you won’t be able to get
it back into the United States without paying a tax on it. So if you want to get it
back in the United States, and that’s actually the check. The reason why we do tax
repatriation of funds is so that companies can’t
do this night and day, essentially transfer profits abroad and then bring the cash back in. In order to close this loophole, that’s why the repatriation of these funds are actually taxed. And I’ll let you think about, and it obviously depends on what the transfer prices
are and things like that, but essentially what this
tax rate would have to be in order for a company
to come out neutral. And there’s other ways
of getting around it, and I’ll do other videos later, of ways that this cash can be put to use, and it still is not actually taxed.

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Comments

  1. Are you suggesting to me that in a free market system, that it is completely impossible for any company, anywhere, at any time, under any set of circumstances to gain a monopoly over anything that is a prerequesite for either living, or interacting with society in a meaningful way. Even if there were no monopolies, there would still be some people who had no access to an alternative, and who would be open to exploitation. And I still don't see how you can get past the courts and military issues.

  2. I don't understand how you can possibly imagine characterising the relationship between people, corporations and governments as simple. I am a musician myself, and just because music is abstract does not mean the concepts that someone has to learn in order to understand it on a functional level are complicated. Most concepts involved in teaching young kids music are things like how to read rhythm, pitch and so on, things that follow consistent, rules that are easy to follow once learned.

  3. By contrast, something like the relationship between people, corporations and governments is immensely complicated and something that we simply don't have enough data on to make the short, simple, black and white assertions such as the ones you are making.

  4. I never said I could teach music, and I don't see how that's relevant. The point is that I have enough understanding of the concepts required to learn music to make an informed judgement on whether or not your analogy is logically consistent and it isn't.

  5. No, no no. Buisnesses do not form to fill needs. Buisnesses form to make money. Filling a need that people are willing to pay to have filled is a means, not an end. Furthermore, governments can form for any number of reasons, it is literally impossible to list all of the reasons a government can be formed for and for you to think there is only one is ludicrous.

  6. I never said that. But you'd have no army, it's not profitable and no private entity would ever provide it. Same for police and firefighting. And prisons. And the FAA. No grants for science or R&D anymore. No education for those who can't afford, or healthcare. Maybe poor people don't deserve health or education, no? Private roads and trains would be disastrous. No one to stimulate a failing economy. No one would provide parks. No one to try protect the environment. Have fun in that dystopia.

  7. Well, the american government for one, at least initially formed to protect the rights of people from being infringed by the tyrannical(at that time, the british). You might argue that the government has strayed from that role, but that was still why it was initially formed, and it could have, in theory continued to fill that function, and I would argue that to a small extent it has.

  8. The government doesn't have the exclusive privilege of taking away rights. Why do you think it does? In a democratic system, the government requires the approval of the general population in order to infringe on the rights of it's citezens. It would only be theorhetically possible for the president to circumvent democracy and even then, it would only work with the co-operation of the supreme court and the military. Something the military would never provide in such a situation.

  9. Where are your observations to suggest that monopolies don't form naturally? Because, actually we've never had a completely free market capitalist system in teh world before, and in the places that have been close to free market, monopolies have frequently formed. What observations suggest that the capacity for monopolies to form would not be magnified by corporations having access to things like private armies? Its hard for a competitor to survive if it's owners have all been assassinated

  10. How do you suggest everyone is going to find out if they poisoned his food and didn't leave any witnesses or evidence? And, for that matter what if they're not software companies? What if they were the only two water companies in competition and now there's only one left? What are people going to do? Stop drinking the only clean drinking water that's left because the company that makes it used shady methods to eliminate the competition? Doubtful.

  11. No there weren't 250 million people killed by their own governments in the 20th century IN AMERICA. And that is beside the point, the holocaust was a result of a opportunistic government taking advantage of a downtrodden people that wanted someone to blame for all their problems. It would not have happened if the populace had been properly informed, the right checks had been in place to prevent it and so on.

  12. I can't say I blame you for wanting to end this discussion. I have found it rather exhausting. I would just like to say that, despite your repeated attempts to characterise my position as being otherwise, I do not support the coercion through threat of violence of anyone to restrict their freedom, as long as they are not harming anyone else. And I reject your premise that anyone is being threatened with death or violence if they refuse to tow the line for the government.

  13. Don't have to pay taxes. My income at present is below the no tax threshhold, and either way, all that would come my way is fines, in order to take back the money I was stealing from my fellow citezens by continuing to use public services while refusing to help pay for them and then imprisonment if I refused to pay those. But, then, I thought we were ending this discussion.

  14. That's not entirely true…if you don't want to pay taxes OR be fined, go to jail, be killed etc. there is another option for people like you: Be homeless. Be a fucking bum and live off of the land, the charity of strangers, or *gasp* government-funded welfare! Life is about choice, dude. Welcome to the reality of living in a democratic REPUBLIC my friend. The problem with you "Zeitgeist" lovers is you're no better than the tyrants you rail against, and worse yet…even less productive 🙁

  15. Absolutely right. The private sector is motivated by profit, not morality. It has been painfully demonstrated already that Big Business(or small business, for that matter) cannot be trusted to police themselves. What NateforLiberty is suggesting is the equivalent of letting the fox guard the henhouse. The real answer, I think, lies somewhere in the middle. A strong centralized government system can work with the RIGHT people in charge…which admittedly we don't have right now.

  16. The idea that the system you propose can work is the only myth here. It is nothing short of anarchy, trading one broken form of government for another. Worse yet the transition to this "utopian" society that you seem to envision for us all would likely cause more death and destruction in a short period of time than all the "evil" governments of the world have caused in an entended period of time. Perhaps you would care to argue for the "humanity" or "morality" in this idea.

  17. How about the creation of modern civilization and all the trappings of it that we enjoy? How about the formation of a cohesive, orderly and ethical society based on the rule of law and the will of the people? That work for ya?

  18. Market anarchist? Haha…more like Social Darwinist. At least the gov. PRETENDS to give a damn about those who are less fortunate. Your ideology represents pure self-interest, nothing more.

  19. I advocate non-violence, respect for property rights, and respect for free will.

    How you interpret that as being malicious is your own business. I have no time for trolls. I have blocked you. You need not respond.

  20. Anarchy is the opposite of broken. Well, there wouldn't have to be transition if it was his system in the first place.

  21. Heh…kids are so cute when they try to sound intelligent while regurgitating someone else's ridiculous ideas and try to pass them off as original thought 😀

  22. Reread my post. I said the answer lies somewhere in the middle. The middle. As in moderate. Business shouldn't control government and neither should the gov. "control" business. But it has a duty to responsibly regulate it to ensure that everyone is playing the game fairly. When Big Business starts buying gov. positions and creating laws for itself, that is just as tyrannical as "Big Brother" trying to butt into your personal life and liberties granted you as a lawful citizen.

  23. What I'm proposing is finding real solutions to fix the system of gov. we already have, which, although flawed, is still the best model of gov. in the world today. Sorry, but I don't see the logic in tearing it all down just because of a few rotten apples. If the roof on your house is missing a few shingles, and you decide to burn it to the ground because of that, then you're a fool. The problem is not the system, it's the people who run it and manipulate it selfishly to their advantage.

  24. Anarchy is the opposite of progress. It is pure chaos. A tribal, fractured society(broken?) with no central leadership and a haphazard barter system for an "economy". Jeez dude, what kind of drugs are you on? You're intelligent enough to form complete sentences but you can't follow that this idea simply doesn't work in the modern world we live in? Can't you understand that even if you don't believe in central gov. there are other countries that do and would crush us in a sec. under your system?

  25. Yeah, that was one of the main reasons, but I don't see that that's relevent. My point was that the checks and balances in place in america to prevent a tyranical government from taking over the country have been pretty effective. This doesn't mean the american government is incapable of making mistakes, far from it. Treaty of Versailles was one of those mistakes. I would also like to remind you that the government of the USA was hardly the only one involved in the treaty, all the allies were.

  26. Nice video, just one request, can you change your mouse icon from Hand to Pancil, it will look more natural while looking 🙂

  27. They could provide every service the government provides but they won't, ever.
    And there is a good reason for this, profit motive.
    Take roads for example the company would have to charge money for the service of providing a road, in fact if there were no government all of the roads would be tax roads, there goes your argument for cheaper and better.
    And in the case of taxes there pretty much two choices, Pay them or not, there's no alternative.

  28. Are you saying that your government spends half of it's entire income on the war in the middle east?
    And continuing the common misconception that US presence in the middle east is all about Oil?
    I'm not even sure how you got the idea that The American Government is trying to gain power by fighting it's enemies, by spending money on it's military? something it can do anyway without the loss of life.
    It's not gaining land or money from those countries I fail to see how they're grasping for power.

  29. Yeah I wouldn't say music especially with students at 3 years of age would be particularly complex, I agree music can be abstract and require reflection and introspect, but 3 year old children I doubt seriously the complexity of your occupation.
    There's a good reason economists earn upwards 100K annually because their job is actually complex and a great deal relies on the accuracy of their predictions.

  30. Correct!
    Money itself isn't an end, money is used to purchase things.
    Currencies can be transmuted into anything if you have enough, so it makes sense that Businesses would like to have as much money as they can so they can have more things, profit motive right there.

  31. WWII was started by the Third Reich and it's dictator Adolf Hitler, who felt that they should have won WWI and not be poor (Germany had to pay countries affected by the war a lump sum of money) So he build an army, made miles of roads and War Machines (which did wonders for the German Economy) then they invaded Poland and England Declared war, America didn't join the war for a few years when they were bombed. Countries were under threat of conquest they were merely defending themselves.

  32. If you were a student of economics you would have been well aware of the concept "Market Failure"
    That is, a free market creating an outcome which is not (pareto)efficient

    Types:
    – information asymmetries
    – non-competitive markets
    – principal–agent problems
    – externalities
    – public goods
    – natural monopoly

  33. incorrect, I'm not sure where this notion that Keynesian Economics is a bad thing came from, however Keynesian Theory works, and if you need proof look at Australia's economy who effectively used Stimulus packages along side with a loose monetary policy which shielded them from the GFC.
    And in context Heynes Theory which is polar opposite was rather popular with European countries especially in Greece and look where that's got them.

  34. Youre right. The EU was one of the first steps in homogenizing the economy, and its pure garbage. As far as I can remember the UK was never at such a degenerate state since the EU tactic was implemented.

  35. I think you are wrong it was till 80's then it became monetarism , the deregulation and all that stuff is what created the crisis which we suffer today !

  36. The last sentence of your post IS what you're proposing. Because it works like this. Big Business control government control people. Take out the government and that sentence is nullified.

  37. But my roof has no shingles! If someone has the power you propose, they WILL manipulate it selfishly for themselves even if they used to be perfectly good people. Have you seen Animal Farm?

  38. Progress is Regression. The third sentence ought to be the world. EXACTLY! Many governments were formed to protect us from other government. But then there must have been a first, one built not to protect but simply for greed, one that no longer exists. If that is possible in the first place, than your government is that way too. That would mean a fundamental mutation in the human psyche that gives up any government in the world and thus creates a perfect utopian society.

  39. If Axis had won WWII, then it would be America's fault that we were all dying. And the other allies mainly used America as a model.

  40. OK. I called it a *model* although I based my statement on anecdotes told by my fellow countrymen who migrated to Sweden about good life there.
    If you consider separately social system and economy, and if you introduce notions such as culture or mentality, then how can you or any1 else form a scientific approach in economic thinking?
    I may take example comparing US and Mexico. Almost the same Constitution and political system, but big difference in wealth or quality of life? Mentality? Culture?

  41. Central Banking, Government regulation, tariffs go on Wikipedia and look up Keynesian theory, Done? Okay.
    In it's essence Keynesian Theory is if you increase Aggregate Demand on the short run unemployment will decrease, and total income and the standards of living will increase. This has been seen worldwide to work when properly administered, which is why economists strongly support Keynesian theory, because it works.

  42. You exemplify the narrow-minded, generalizing and self-proclaiming know-it-all. You wrongly associate Keynsian theory with large public sectors. Keynsian theory refers to increasing government spending as a TEMPORARY remedy to close an output gap (caused by severe fall in aggregate demand) DURING A RECESSION. It does not say that larger government spending is the way to long-term growth. NOTE: I am not defending Keynes here. There are some flaws to his theory.

  43. You accuse EU countries as holding Keynes as an economic god." Yet you gloss over the fact that the austerity that is currently forced upon them is anything but Keynsian. Just because they are socialist countries do not make them Keynsians. How are the housing and dot-com bubbles Keynsian phenomena when they are clearly makings of an out of control private institutions. Re-inflating assets? TARP was enacted to keep banks solvent. It had nothing to do with Keynsian economics. Stop twisting facts

  44. Once again,Kahn Academy is great for math, science and economics but not good for taxation, first of that 35% is taxed at progressive rate, but yes he is correct Apple and Adobe use this tax strategy to avoid tax, youtubers go google the "the double Irish with Dutch sandwich" it will explain to a little more better and give you the Internal Revenue Code in the law book, once again this just constructive criticism to his lecture, I think Kahn academy is the future to giving education to poor

  45. This guy has 3 degrees from M.I.T. and a MBA from Harvard i think he's doing more than just educating the poor. Vote for your own interests middleclass the rich certainly do.

  46. THESE TAX HAVEN NEED TO BE WIPE OF THE MAP WAT THEY DO TO US IS AN ACT OF WAR NO MATTER SEA LV RISE (GLOBL WARMING THIS FUKING PISS ME OFF MIT ROMNEY PAY 13 % I PAY 35

  47. "Given IP". This is really a reductive view. You can't simply "give away" your property. If it's an investment, you'll pay tax on it later, and a parent company can often be liable for the profit of off-shore subsidiaries.

  48. Until of course, companies, get awarded a 5% reprobation under the guise of Job Building, as seen in 2004. Most companies bring the money in, have more layoffs, buy their stock, increasing the price, lifting the price of the options for the executives of MNC. 

  49. When you say 1M pretax, is that brute-revenue or net-revenue? this could be resolved if you charge the corporate tax before expenses, like when you charge taxes to normal people from their salary.

  50. can somebody explain this to me? So if a company tax evade by transfer pricing and end up with a bigger net profit, but this net profit cannot enter back into the country without getting taxed and thus ending up with the same net profit as the company otherwise would have if it didnt do transfer pricing, what is the benefit by doing it then?

  51. i dont see the point in doing all this. easy to just roll this money into something else and cut your taxes legally. buy an apartment in cancun and one in nassau. rent on airbnb. you now have 2 rental properties you need to maintain and visit every year. maintenance allowance if larger then profits in most cases. go to each once a year and the entire visit is tax deductible. all completely legal.

  52. But in the case of publicly-traded companies, like Apple, that do transfer pricing like this, how does the public, that owns the company, gets its fare share of the profit if the profit is being transferred abroad to avoid taxes, given that if this profit gets repatriated and distributed as dividends, it would get taxed!

  53. I don't think there is a repatriation if the company is set up in Delaware or Nevada, or at least its minimized if that's where its set up.

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