Delta Deluxe Incorporated, which produces auto parts in Canada, has a very strong local market for Part No. 85. The variable production cost is $30, and the company can sell its entire supply domestically for $100. The tax rate is 25%.
Alternatively, Delta Deluxe can ship the part to a division that is located in Tennessee, to be used in a product that the Tennessee division will distribute throughout the Southern U.S. Information about the Tennessee product and the division's operating environment follows.
Selling price of final product: $500
Shipping fees to import part no. 85: $25
Labor, overhead, and additional material costs of final product: $250
Import duties levied on part no. 85 (to be paid by the Tennessee division): 15% of transfer price
Tennessee tax rate: 30%
Based on Canadian and U.S. tax laws, the company has established a transfer price for Part No. 85 equal to the European market price. Assume that the Tennessee division can obtain Part No. 85 in the U.S. for $150.
Required:
A. If you were the head of the Tennessee division, would you be better off financially to conduct business with your Canadian division or buy Part No. 85 locally? Why? Show computations.
B. Delta Deluxe's accounting department has figured that the company will make $66.40 for each unit transferred and used in the Tennessee division's product. Rather than proceed with a transfer, would the Company be better off to sell its goods domestically and allow the Tennessee division to acquire Part No. 85 in the U.S.? Show computations for both Canadian and Tennessee operations to support your answer.
C. Generally speaking, when tax rates differ between countries, what income strategy should a company use in setting its transfer prices? If the seller is in a low tax-rate country, what type of price should it set? Why?

Question

Quizplus · Accepted Answer

The Answer of Delta Deluxe Incorporated, which produces auto parts in Canada, has a very strong local market for Part No. 85. The variable production cost is $30, and the company can sell its entire supply domestically for $100. The tax rate is 25%.
Alternatively, Delta Deluxe can ship the part to a division that is located in Tennessee, to be used in a product that the Tennessee division will distribute throughout the Southern U.S. Information about the Tennessee product and the division's operating environment follows.
Selling price of final product: $500
Shipping fees to import part no. 85: $25
Labor, overhead, and additional material costs of final product: $250
Import duties levied on part no. 85 (to be paid by the Tennessee division): 15% of transfer price
Tennessee tax rate: 30%
Based on Canadian and U.S. tax laws, the company has established a transfer price for Part No. 85 equal to the European market price. Assume that the Tennessee division can obtain Part No. 85 in the U.S. for $150.
Required:
A. If you were the head of the Tennessee division, would you be better off financially to conduct business with your Canadian division or buy Part No. 85 locally? Why? Show computations.
B. Delta Deluxe's accounting department has figured that the company will make $66.40 for each unit transferred and used in the Tennessee division's product. Rather than proceed with a transfer, would the Company be better off to sell its goods domestically and allow the Tennessee division to acquire Part No. 85 in the U.S.? Show computations for both Canadian and Tennessee operations to support your answer.
C. Generally speaking, when tax rates differ between countries, what income strategy should a company use in setting its transfer prices? If the seller is in a low tax-rate country, what type of price should it set? Why?

Delta Deluxe Incorporated, Which Produces Auto Parts in Canada, Has