ASSIGNMENT

OF

CORPORATE TAXATION

CASE STUDY TAX AVOIDANCE BY MICROSOFT AND HP

SUBMITTED TO PROF. ANEES SIRSUBMITTED BY SHIVLI CHHABRA MBA 3RD SEM

ACKNOWLEDGEMENTMy sincere thanks of gratitude to my sir Prof. Anees sir who gave me this wonderful opportunity to prepare this project .This project enhanced my thinking skill. I would like to say thanks to my parents who take out their valuable time and helped me a lot regarding the topic of this project. This list cannot be completed unless God showers His blessings on me.

BY SHIVLI CHHABRA MBA 3RD SEM

INTRODUCTIONTax avoidance is the legal usage of the tax regime to one's own advantage, to reduce the amount of tax that is payable by means that are within the law. Tax sheltering is very similar, and tax havens are jurisdictions which facilitate reduced taxes. The term tax mitigation is sometimes used; its original use was by tax advisers as an alternative to the pejorative term tax evasion. "Tax aggressive" strategies fall into the grey area between commonplace and well-accepted tax avoidance (such as purchasing municipal bonds in the United States) and evasion. However, the uses of these terms vary. The term avoidance has also been used in the tax regulations of some jurisdictions to distinguish tax avoidance foreseen by the legislators from tax avoidance which exploits loopholes in the law such as like-kind exchanges. A company may choose to avoid taxes by establishing their company or subsidiaries in an offshore jurisdiction (see offshore company and offshore trust). Individuals may also avoid tax by moving their tax residence to a tax haven, such as Monaco, or by becoming a perpetual traveler. They may also reduce their tax by moving to a country with lower tax rates.

CASE STUDYSenate Panel Points to 'Tax Avoidance' by Microsoft and HP By Kurt Mackie 09/21/2012A Senate panel hearing on Thursday discussed how individuals and U.S.-based multinational corporations regularly avoid paying U.S. taxes, with Microsoft and Hewlett-Packard serving as case-study examples.The tax avoidance details were spelled out in a memo by Sen. Carl Levin, subcommittee chairman, and Sen. Tom Coburn, ranking member, as part of a hearing at the U.S. Senate Permanent Subcommittee on Investigations. The hearing and testimony can be viewed at this page.According to one common scheme associated with "transfer pricing," Microsoft and HP regularly transfer intellectual property assets to offshore companies and exploit loopholes in U.S. tax laws to avoid paying U.S. taxes. Profits associated with intellectual property from U.S. operations go to overseas tax havens to avoid paying a U.S. tax rate of 35 percent, which is one of the highest tax rates on the globe, according to a KPMG tax table. This practice isn't new. The memo points to a similar complaint by President Kennedy 50 years ago about the corporate offshoring of dollars. However, it's come to such a state that "today, U.S. multinational corporations have stockpiled $1.7 trillion in earnings offshore," Levin explained, in an announcement.

The offshoring problem is particularly flagrant with U.S.-based IT technology companies. Many of them now report the bulk of their cash revenues as being located abroad. For instance, the following U.S.-based IT companies, having foreign cash balances of more than $5 billion, were described in the memo (based on JP Morgan estimates):CompanyForeign Cash as % of Total Cash

Hewlett-Packard100

Microsoft89

Cisco Systems89

Dell85

Oracle84

Apple67

Qualcomm62

Google48

U.S. Subpart F tax law has a loophole, described as "check the box," that allows corporations to specify that their controlled foreign corporations aren't associated subsidiaries for tax purposes. In such cases, so-called "passive income," such as dividends and royalties, do not get taxed. This tactic has held back millions in U.S. tax revenue."The loss to the U.S. Treasury is enormous," Levin explained in his announcement. "During its current investigation, the Subcommittee has learned that for Fiscal Years 2009, 2010 and 2011, Apple has been able to defer taxes on over $35.4 billion in offshore passive income covered by Subpart F. Google has deferred over $24.2 billion in the same period. For Microsoft, the number is $21 billion."How Microsoft Evades U.S. TaxesMicrosoft uses its foreign subsidiaries to shift revenue generated from U.S. operations, thereby avoiding U.S. taxes. For instance, in 2011, it used this scheme to shift "$8 billion in income offshore," according to Levin. "Yet, over 85% of Microsoft's research and development is conducted in the United States."Microsoft's basing of U.S. product distribution from Puerto Rico has saved the company more than $4.5 billion over three years' time, according to Levin."By routing its activity through Puerto Rico in this way, Microsoft saved over $4.5 billion in taxes on goods sold in the United States during the three years surveyed by the Subcommittee. That's $4 million a day in taxes Microsoft isn't paying," Levin wrote.Microsoft evades U.S. taxes by setting up foreign companies that are located in low-tax-rate countries, which then do business with subsidiaries that aren't liable to pay taxes under U.S. Subpart F "check-the-box" rules. Microsoft began constructing this complex foreign subsidiary arrangement in the 1990s, according to the memo, setting up "regional operating centers" in Ireland, Singapore and Puerto Rico. The Ireland center sells to Europe, the Middle East and Africa. The Singapore center supports sales in Asia. Microsoft's Puerto Rico regional operating center is concerned with retail sales in North and South America. These regional centers then work with other companies, which are set up specifically to exploit a tax loophole. For instance, Microsoft has one entity, based in Bermuda, that works with the Singapore center. It has no employees, according to Levin.Microsoft hasn't exactly been hiding this arrangement. A rough sketch is provided in its 103-page fiscal-year 2012 Form 10-K report, on page 32: "Our effective tax rates for fiscal years 2012 and 2011 were approximately 24% and 18%, respectively. Our effective tax rates were lower than the U.S. federal statutory rate primarily due to earnings taxed at lower rates in foreign jurisdictions resulting from producing and distributing our products and services through our foreign regional operations centers in Ireland, Singapore, and Puerto Rico, which have lower income tax rates." In prepared remarks for the senate panel, William J. Sample, corporate vice president for worldwide tax at Microsoft, confirmed that the location of the regional centers was chosen based on tax considerations."While the primary objective of our regional structure is to improve our competitiveness and efficiency in each of the three regions, we evaluated available tax incentives when deciding where to locate the ROCs," Sample stated. He claimed that Microsoft has made "very limited use" of some exceptions in the U.S. tax laws, including the controlled foreign corporation "look through" rule, which allows companies to discount its subsidiaries for tax purposes, and an exception associated with foreign-controlled companies loaning back money to Microsoft in the United States.

This latter loophole, which exploits a clause in Section 956 of the Internal Revenue Service code on short-term loans, was championed by Hewlett-Packard, according to Levin. Hewlett-Packard uses controlled foreign corporations to loan back money to its U.S.-based entity within 30-day intervals to avoid paying taxes on the income. It's a "de facto repatriation" scheme that taps HP's subsidiaries in Belgium and the Cayman Islands. "Over the years, loans by these two entities have provided billions of dollars to fund general operations for HP in the United States, including payroll and HP share repurchases," the memo explains. It added that this "staggered loan" scheme got a sign-off by HP's auditor, Earnst & Young.Seeking Another Way?Levin's memo pointed to an earlier Congressional report showing that corporations have been paying less and less tax over the years. Companies paid 32.1 percent of all U.S. federal tax revenue in 1952, but they currently just contribute 8.9 percent. Meanwhile, the rate of federal tax contributions by individuals has stayed about the same at 42.2 percent in 1952 and 41.5 percent today.

Microsoft and HP voluntarily cooperated with the senate investigation. It doesn't appear that they are being accused of breaking the law. Republican Senator Coburn put the blame on Congress."Tax avoidance is not illegal," Coburn said, according to a Reuters report. "Congress has created this situation."

Companies that violate the spirit of the law, like Hewlett-Packard and Microsoft, potentially face cash shortages in the United States as a result of these foreign subsidiary tax-routing schemes. So, it's possible that they may want to reform the system, too, but on their own terms. Levin simply said that the Senate panel was convened to "generate some enthusiasm" to fix the system, which has devolved into the regular use of "legal contortions" and "gimmicks" by U.S. corporations.

SUMMARYThis case is about tax avoidance by Microsoft and HP.Microsoft and HP regularly transfer intellectual property assets to offshore companies and exploit loopholes in U.S. tax laws to avoid paying U.S. taxes. Microsoft uses its foreign subsidiaries to shift revenue generated from U.S. operations, thereby avoiding U.S. taxes. , loans by these two entities have provided billions of dollars to fund general operations for HP in the United States, including payroll and HP share repurchase. Microsoft has made "very limited use" of some exceptions in the U.S. tax laws, including the controlled foreign corporation "look through" rule, which allows companies to discount its subsidiaries for tax purposes, and an exception associated with foreign-controlled companies loaning back money to Microsoft in the United States. Hewlett-Packard and Microsoft, potentially face cash shortages in the United States as a result of these foreign subsidiary tax-routing schemes.

QUESTIONS RELATED TO CASE Q-1 What is the common scheme associated with transfer pricing in this case?Ans Microsoft and HP regularly transfer intellectual property assets to offshore companies and exploit loopholes in U.S. tax laws to avoid paying U.S. taxes. Profits associated with intellectual property from U.S. operations go to overseas tax havens to avoid paying a U.S. tax rate of 35 percent, which is one of the highest tax rates on the globe. Q-2 How does Microsoft avoids tax?Ans Microsoft uses its foreign subsidiaries to shift revenue generated from U.S. operations, thereby avoiding U.S. taxes. Microsoft evades U.S. taxes by setting up foreign companies that are located in low-tax-rate countries, which then do business with subsidiaries that aren't liable to pay taxes under U.S.Q-3 What are the exemptions in US tax laws that Microsoft has made very little use ?Ans Microsoft has made "very limited use" of some exceptions in the U.S. tax laws, including the controlled foreign corporation "look through" rule, which allows companies to discount its subsidiaries for tax purposes, and an exception associated with foreign-controlled companies loaning back money to Microsoft in the United States.Q-4 Why does profits associated with intellectual property fdrom US operation go to Overseas tax havens?Ans Profits associated with intellectual property from U.S. operations go to overseas tax havens to avoid paying a U.S. tax rate of 35 percent, which is one of the highest tax rates on the globe, according to a KPMG tax table.

REFERENCESredmondmag.com/articles/.../tax-avoidance-by-microsoft-and-hp.asp.en.wikipedia.org/wiki/Tax_avoidance