Deck 9: International Transfer Pricing

Question 1

What is the primary characteristic of a decentralized organization?

A) Size of divisions
B) Number of divisions
C) Delegation of decision making authority
D) Diversity of foreign operations

Answer 1

C

Question 2

Subsidiary X, located in a country with a 25% corporate income tax rate, and Subsidiary Y, located in a country with a 35% corporate income tax rate are part of a decentralized organization. They have been engaged in trade with one another using a negotiated transfer price of $50 per unit for sales by Subsidiary X to Subsidiary Y. Pipko, the parent company of both Subsidiary X and Subsidiary Y recently set a discretionary transfer price of $80 per unit for the transfers between X and Y. What is advantage of this decision?

A) Net income for Subsidiary X will increase by $30 per unit.
B) Net income for the corporation as a whole will increase by $30 per unit.
C) Net income for the corporation as a whole will increase by $3 per unit.
D) Net income for Subsidiary Y will decrease by $30 per unit.

Answer 2

C

Question 3

According to the study published by Professors Chan and Lo in 2004, which of the following variables is important when market-based methods of determining transfer prices are preferred?

A) Restrictions on profit repatriation
B) Good relationship with local government
C) Minimization of import duties
D) Risk of expropriation and nationalization

Answer 3

B

Question 4

Subsidiary X, located in a country with a 25% corporate income tax rate, and Subsidiary Y, located in a country with a 35% corporate income tax rate are part of a decentralized organization. They have been engaged in trade with one another using a negotiated transfer price of $50 per unit for sales by Subsidiary X to Subsidiary Y. Pipko, the parent company of both Subsidiary X and Subsidiary Y recently set a discretionary transfer price of $80 per unit for the transfers between X and Y. How will subsidiary managers in the decentralized organization view this decision by parent company management?

A) They will embrace it whole-heartedly because corporate profits will increase.
B) The manager of Subsidiary Y will be concerned about the decline in Subsidiary Y's profit and the effect this will have on his/her bonus.
C) They won't mind because the intercompany transaction will still occur.
D) They won't notice because all decisions in the decentralized organization are made by the parent.

Question 5

Cost-plus method is most appropriate when:

A) there are comparable uncontrolled sales and the related buyer merely distributes the goods it purchases.
B) the related buyer acts as a sales subsidiary.
C) the related buyer does not add substantial value to the product.
D) the related buyer does more than simply distribute the goods it purchases.

Question 6

What is goal congruence?

A) Making the goals of individual managers the same as corporate goals
B) Equating managerial goals to corporate goals
C) Aligning managerial goals with corporate goals
D) Giving managers complete autonomy to make decisions

Question 7

In 2016, what portion of total U.S. goods trade was made up of intercompany transactions?

A) 20.1%
B) 82.3%
C) 42.4%
D) 11.0%

Question 8

When a transfer price is set by the management of a parent company rather than by the subsidiary managers, what kind of transfer price is being used?

A) Market-based transfer price
B) Negotiated transfer price
C) Discretionary transfer price
D) Cost-based transfer price

Question 9

What is the primary advantage of a negotiated transfer price?

A) It is objectively determined.
B) It reflects managers' ability to control cost.
C) It is based on arms-length transactions with unrelated parties.
D) It preserves managerial autonomy to make decisions.

Question 10

How can the conflict between cost minimization and performance evaluation be overcome in a decentralized organization?

A) Dual transfer pricing systems
B) Market-based transfer pricing systems
C) Cost-based transfer pricing systems
D) Negotiated transfer pricing systems

Question 11

What is the primary problem with using discretionary transfer prices to minimize costs in a decentralized organization?

A) They don't really minimize tax costs.
B) The appropriate transfer price to minimize costs cannot be determined by the parent company.
C) The benefits of decentralization may be lost.
D) They are extremely difficult to administer.

Question 12

The monetary amount used to record intercompany transactions is called:

A) exchange rate.
B) transfer price.
C) conversion rate.
D) incremental cost.

Question 13

What is the primary difficulty of using market-based transfer prices for intercompany transactions?

A) Markets that are too complex
B) Lack of a well-developed market
C) Lack of objectivity
D) Operating inefficiencies are transferred from one subsidiary to another

Question 14

What is the term used for intercompany transactions from a parent to a subsidiary?

A) Horizontal transfer
B) Downstream transfer
C) International transfer
D) None of the above

Question 15

What is the term used for intercompany transactions from a subsidiary to a parent?

A) Upstream transfer
B) Horizontal transfer
C) International transfer
D) None of the above

Question 16

A multinational corporation may attempt to minimize the taxes it pays in a country with a high effective tax rate by setting a very high transfer price on goods transferred to a subsidiary in a high-tax country. Why is this often not successful?

A) Laws in the foreign country may prohibit such a scheme.
B) The high transfer price would actually increase taxes.
C) Foreign exchange losses will eliminate any tax savings.
D) None of the above

Question 17

Which cost will be minimized by setting a low transfer price?

A) Withholding taxes on a downstream transfer
B) Import duties
C) Currency devaluation of foreign cash flows
D) All of the above

Question 18

How is goal congruence achieved in decentralized organizations?

A) Forcing managers to take on corporate goals as their personal goals
B) Creating incentives for managers to make decisions that are consistent with corporate goals
C) Setting policies that direct managers in the way decisions should be made
D) Eliminating the authority for divisional managers to make operating decisions

Question 19

In a recent survey, what issue did 30% of respondents identify as the most important international tax issue they face?

A) Foreign currency translation of taxable income
B) Double taxation
C) Transfer pricing
D) Withholding taxes

Question 20

While there are many advantages of decentralization, what is the major disadvantage of decentralized organizations?

A) Manageability of multiple divisions in both domestic and international operations
B) Possible conflict between division managers' decisions and goals of the organization
C) Making timely operating decisions
D) All of the above

Question 21

What is an ad valorem import duty?

A) A requirement that a parent buys the output of a foreign subsidiary
B) A tariff charged by a government on the invoice price of goods coming into its country
C) A requirement that a subsidiary acquires its material inputs from a foreign parent
D) A tax charged on intercompany transactions

Question 22

IRS code Section 482 describes appropriate transfer prices as "the prices which would have been agreed upon between unrelated parties engaged in the same or similar transactions under the same or similar conditions in the open market." How does it refer to such prices?

A) Arm's-length prices
B) Market prices
C) International prices
D) Comparable prices

Question 23

In keeping with Internal Revenue Code, Clarence Company transfers goods to Marguerite Corporation, its foreign subsidiary, at the price Marguerite will sell the product to its customers, less the industry's average gross profit margin of 30%. What method of transfer pricing is Clarence using?

A) Cost-plus method
B) Comparable uncontrolled price method
C) Comparable profits method
D) Resale price method

Question 24

Under what condition does the IRS consider the resale price method acceptable as a transfer price?

A) The subsidiary is a foreign controlled corporation.
B) The related party is merely a distributor of finished goods.
C) The divisions are part of a decentralized organization.
D) There is no market price upon which to base the transfer price.

Question 25

Which of the following is true of profit split method?

A) It is based on the assumption that similarly situated taxpayers will tend to earn similar returns over a given period.
B) Under this method, an arm's-length price is determined by referring to an objective measure of profitability earned by uncontrolled taxpayers on comparable, uncontrolled sales.
C) This method assumes that the buyer and seller are one economic unit.
D) This method is normally used in cases involving manufacturing, assembly, or other production of goods that are sold to related parties.

Question 26

The "price" for using intangible property is called:

A) interest.
B) rent.
C) royalty.
D) service charge.

Question 27

Which of the following is a limitation of cost-based transfer pricing?

A) Determining which measure of cost to use
B) Lack of incentive for selling division to control cost
C) Inefficiencies in one unit may be transferred to another unit
D) All of the above

Question 28

The comparable uncontrolled transaction (CUT) method is one alternative for determining an arm's-length transfer price for what kind of intercompany transaction?

A) Interest on intercompany loans
B) Sale of tangible property
C) Licenses of intangible property
D) Intercompany services

Question 29

Withholding taxes on dividends paid by a foreign subsidiary to a parent can be reduced by:

A) raising prices paid by the parent for goods it acquires from the subsidiary.
B) raising prices paid by the subsidiary for goods it acquires from the parent.
C) negotiated transfer pricing.
D) reducing prices charged by the parent for good transferred to the subsidiary.

Question 30

Which of the following statements is true about applying the arm's-length standard for transfer pricing?

A) A unique transfer price will be objectively determined using the arm's-length concept.
B) Since a range of transfer prices would conform to the arm's-length concept, taxpayers can minimize taxes by choosing a transfer price at one end of the range.
C) The arm's-length concept is accepted worldwide as the optimal transfer pricing model.
D) Purchasing divisions prefer the arm's-length standard for transfer pricing over alternative methods.

Question 31

Profit indicators that might be considered in applying the comparable profits method include the ratio of:

A) operating income to operating assets.
B) debt to equity.
C) receivables to net sales.
D) operating expenses to net sales.

Question 32

Which of the following is NOT within the power of the Internal Revenue Service (IRS) under Internal Revenue Code (Section 482)?

A) Authority to audit international transfer prices
B) Authority to adjust international transfer prices
C) Authority to adjust a company's tax liability if the transfer price is deemed to be inappropriate
D) Authority to stop intercompany transactions

Question 33

Which of the following is a reason for a parent to use discretionary transfer prices?

A) Improve competitive position of foreign operation
B) Minimize import duties
C) Avoid restrictions on repatriation of profits
D) All of the above

Question 34

What is the time frame in which taxpayers must produce documentation to the IRS, in which it justifies the transfer pricing method that it has selected as being the most reliable measure of arm's-length price?

A) Within 90 days
B) Within 60 days
C) Immediately upon request
D) Within 30 days

Question 35

What power is given to the Internal Revenue Service (IRS) under code section 482?

A) Power to eliminate intercompany transactions
B) Authority to audit international transfer prices
C) Authority to impose tariffs on foreign imports
D) All of the above

Question 36

What is the general rule for international transfer pricing advocated by the Organization for Economic Cooperation and Development (OECD)?

A) Cost-based prices
B) Negotiated prices
C) Arm's-length prices
D) Discretionary prices

Question 37

According to the Internal Revenue Service, the most reliable measure of an arm's-length prices for sales of tangible property in intercompany transactions is:

A) cost-plus method.
B) comparable profits method.
C) comparable uncontrolled price method.
D) resale price method.

Question 38

A cost-plus transfer pricing scheme is allowed by the Internal Revenue Service when:

A) it is easiest for the taxpayer to calculate.
B) the related party is primarily a sales subsidiary.
C) there are no comparable uncontrollable sales and the related buyer is more than just a distributor.
D) the average industry markup is greater than the taxpayer's standard markup.

Question 39

The Internal Revenue Service determined that Covington Ltd. should have been using a transfer price of $400 for the purchase of goods from its U.S. subsidiary but had set the price at $50. What is the rate of penalty that the IRS can impose on the taxpayer?

A) 10% of the amount of taxes underpaid
B) 20% of the amount of taxes underpaid
C) 40% of the amount of taxes underpaid
D) 100% of the amount of taxes underpaid

Question 40

According to Internal Revenue Service (IRS) code Section 482, what is the standard used by the IRS for international transfer pricing?

A) Cost-based prices
B) Discretionary prices
C) Negotiated prices
D) Arm's-length prices

Question 41

Which is NOT a common risk associated with local authorities' scrutiny of a company's transfer prices?

A) Potential double taxation
B) Uncertainty as to the group's worldwide tax burden
C) Problems in relationships with local tax authorities
D) Discovery of a tax treaty violation

Question 42

What is an advance pricing agreement?

A) A transfer price that is negotiated between two divisions of a decentralized organization
B) A transfer pricing method accepted by the IRS before an intercompany transaction is completed
C) A contract between a parent company and a foreign subsidiary to complete a transaction at a specified future price
D) A foreign currency firm commitment with payment before delivery of the product

Question 43

Historically, which industry is found most at risk for a transfer pricing adjustment?

A) Consumer packaged goods
B) Pharmaceuticals
C) Petroleum
D) Manufacturing

Question 44

For what reason are the transfer prices of imports more closely monitored worldwide than are exports?

A) Political implications
B) Effect on local job availability
C) Impact on a country's balance of trade
D) All of the above

Question 45

What is the advantage of an advance pricing agreement?

A) IRS (Internal Revenue Service) will not challenge the transfer price after the tax return is filed if the agreement is followed.
B) Worldwide taxes will be minimized.
C) The brief form explaining the transfer price to be used can be completed with minimal effort by the taxpayer but will reduce a tremendous amount of work later.
D) All of the above are advantages of APA.

Question 46

In addition to regulating the transfer prices on tangible property, the Internal Revenue Service also provides guidance on:

A) interest charged on intercompany loans.
B) transfer prices for intangible property.
C) charges for intercompany services.
D) All of the above

Question 47

Correlative relief is a component of the U.S. Model Income Tax Treaty. What is correlative relief?

A) Additional tax imposed by the IRS related to a transfer pricing audit is offset with a foreign tax credit in the same amount.
B) When the IRS adjusts an international transfer price, the tax authority in the foreign country makes a corresponding adjustment.
C) The burden of revising transfer pricing schemes is offset by reduction of the corporate tax rate on foreign source income.
D) IRS and foreign taxing authorities will collaborate in determining the appropriate international transfer price.

Question 48

Which of the following is true about advance pricing agreements?

A) They are only granted for intercompany transactions between a U.S. parent and a foreign subsidiary.
B) They are only granted for intercompany transactions between a foreign parent and a U.S. corporation.
C) In 2003, the IRS approved several thousand advance pricing agreements for U.S. taxpayers.
D) None of the above is true.

Question 49

Of the signals that may cause a taxing authority to audit a company's transfer price, which one is the most important?

A) The nature of the business of the multinational corporation
B) Unexpectedly low profit
C) Profits higher than expected for a specific industry
D) Parent company located in an emerging economy

Question 50

According to a 2010 study by Ernst & Young, what percentage of MNC respondents had experienced a transfer pricing audit somewhere in the world since 2006?

A) More than 10%
B) More than 25%
C) More than 66%
D) More than 90%

Question 51

Worldwide, which type of transfer is most likely to be audited?

A) Rental or lease payment made for use of tangible property
B) Sale of tangible property
C) Intercompany services
D) Exports

Question 52

What is a prime reason that the IRS has found it difficult to obtain information needed to examine the transfer pricing scheme of foreign parents with U.S. subsidiaries?

A) The information is held by the foreign parent, which is beyond the jurisdiction of the U.S. taxing authority.
B) Since transfer pricing is not a significant issue to multinational corporations, little information about it exists.
C) United States does not have tax treaties with the most important countries involved in foreign direct investment in this country.
D) Computer systems have not been adapted to receive the data from companies in foreign countries.

Question 53

Using the comparable profits method of transfer pricing, the transfer price is determined by:

A) referring to an objective measure of profitability earned by uncontrolled taxpayers on comparable, uncontrolled sales.
B) adding a standard profit margin to the operating expenses of the buying division.
C) dividing a reasonable amount of profit between the selling and buying divisions.
D) comparing the normal profits of the selling and buying divisions and basing the price on the highest margin.