Abstract
The paper focuses on elucidating transfer pricing as a means of tax competition instruments misuse. Tax competition instruments have a key role in creating national tax attractiveness for foreign direct investment. However, in order to protect the local tax base on the basis of abuse of tax competition instruments, a large number of countries apply the principle of sources of income, i.e. taxation of business profits made by a non-resident legal entity exclusively in the country where the business was conducted and revenue generated. But with the process of globalization and the expansion of multinational companies, i.e. related legal entities, the instruments of tax competition have remained a suitable area of legally permitted transfer of profits through the application of transfer pricing. The data presented in the paper indicate that, although the trend of global corporate tax rate (as the dominant instrument of tax competition) has a downward trajectory, there are still fluctuations in rates between countries around the world, including the existing inconsistencies and ambiguities of national tax regulations. Taking this into account, the aim of the paper was to emphasize that transfer prices, through the instruments of tax competition, have threatened the economic, social, and tax stability of individual countries for more than two decades. The paper shows that developed countries have managed, to a certain extent, to gain control over their application by introducing more aggressive tax audits of transfer pricing. However, special attention is paid to developing countries which remain an active source of tax competition instruments abuse through the inadequate application of transfer pricing, due to the lack of adequate regulatory and control mechanisms, financial and human resources, and efforts to attract foreign investment through various instruments of tax competition.
Highlights
Globalization, as an inevitable phenomenon from the end of the 20th century, is a process with a pronounced tendency to develop free trade, including the flow of people, goods, and capital
The introduction of profit taxation in the source country sought to limit the abuse of tax competition instruments, but the process of globalization enabled the enormous growth of multinational companies (MNCs) and, on that basis, a more intensive application of transfer pricing as a new source of their abuse
Developed countries have introduced more aggressive tax audits and legal actions of tax authorities regarding the application of transfer pricing as a means of abusing tax competition instruments in order to protect the local tax base
Summary
Globalization, as an inevitable phenomenon from the end of the 20th century, is a process with a pronounced tendency to develop free trade, including the flow of people, goods, and capital. One of the main carriers of the concept of globalization in the context of increasing international trade are multinational companies (MNCs), i.e. multinational business entities, which have become significant when it comes to indirectly increasing the participation of developing countries in international trade through foreign direct investments For this reason, countries that want to increase foreign direct investments, emphasize the concept of appropriate instruments of tax competition in the field of direct taxes (primarily corporate income tax) when formulating their tax policy, in a way that should attract foreign investors. The intention was to point out that tax evasion has become a reality and a growing phenomenon in most tax systems due to the application of transfer pricing in the misuse of tax instruments of different countries
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