Transfer Pricing is the technique that multinational companies use to ‘move’ their profits around to avoid tax.
For example if a company operates in the UK, and makes annual profits of £100m, then with corporation tax at 20% they should pay £20m tax per year. However if they open a small office in say Luxembourg, and come to an agreement with the government there to only pay 5% tax, then there is an incentive to move their UK profits to Luxembourg. This is done by, for example, getting the Luxembourg subsidiary to buy office supplies (pens, paper etc) and then selling those office supplies to the UK subsidiary for a charge of £100m. Suddenly the UK profits of £100m are wiped out by the cost of office supplies, while the Luxembourg office now has a £100m profit on the sale of those same supplies. Result? The profits have left the UK so there is no tax to pay here, while there is now only 5% tax on the fictitious £100m profit in Luxembourg. So the company saves itself £15m by only paying £5m tax instead of £20m, and more importantly the UK taxpayer is £20m worse off. (In this example Luxembourg is operating as a Tax Haven, offering preferential legislation in order to ‘steal’ other countries’ tax revenue. For more on the dreadful impact Tax Havens have on national economies click here.)
This technique is used so often it’s virtually common practice amongst multinationals, with devastating effects on the tax paying public of countries like Britain. This is the method Starbucks has been using for years to avoid paying tax in the UK, routing all their profits through Holland by claiming they have to make payments for ‘Patents’ and ‘Coffee Grounds’. On their UK turnover of £398m for the last financial year, it is estimated their actual profit was well over £50m, on which they should have paid about £15m tax, still way more than the £10m they’ve since been pressured into coughing up.