Action Item: Require that the parties conducting a sale of goods or services in a cross-border transaction sign a statement in the commercial invoice certifying that no trade mispricing in an attempt to avoid duties or taxes has taken place and that the transaction is priced using the OECD arms-length principle.
Background: In the continuing debate over how to best integrate developing nations into the global economy the issue of foreign direct investment is inevitably mentioned. For a time conventional wisdom stated that by increasing foreign investment a country could significantly improve its living standards. A growing understanding of the resource curse, however, has somewhat dampened the optimism of the role foreign investment plays in development. Ultimately, foreign investment alone will not be a sufficient catalyst for a struggling economy. Tax revenue the host government obtains from the investors is a critical component of the revenues needed to have an impact on development.
A 2004 paper issued by the OECD entitled “Institutional Approaches to Policy Coherence for Development” noted that “Attracting FDI and international trade into developing countries is not the end of the game. There is no guarantee that FDI and international trade will translate into tax revenues for the countries attracting them.”
Approximately 60% of global trade is conducted by multi-national corporations and half that amount is between subsidiaries of a parent company. The OECD paper notes that since “intra-group transactions are not subject to the same market forces as transactions between unrelated parties operating on the free market, there is a huge potential for profit shifting via under or over pricing of intra-group transactions.” In other words, unless sufficient attention is given to transfer pricing issues, it is possible that in practice a developing country will derive little or no revenues from the FDI attracted to its territory.
A similar signature process has already been implemented to verify the legitimacy of the diamond trade. The Kimberley Process Certification Scheme requires signatures to guarantee that shipments of diamonds are not used to fund conflict.
G-20 Jurisdiction: Working Group 1 (Enhancing sound regulation and strengthening transparency) and Working Group 2 (Reinforcing international cooperation and promoting integrity in financial markets).
Executing Authority: Organization for Economic Co-Operation and Development; World Trade Organization
Benefit: Instituting procedures that curtail the practice of trade mispricing will enable governments in poor countries to collect a fair amount of tax revenue from multinational corporations operating in their territories. That revenue can then be utilized to develop the local economy.