Multinationals can actually shift their profits generated from a country to a different country where the tax rate is very low with a slight internal structuring of the firm. Out of several possible routes, some of the most prominent ones are generating internal loans involving borrowing from the firm’s affiliates based in low tax countries and lending to their own internal companies situated in a higher tax country. This helps the country with higher tax to deduct interest payments as a cost hosing reduced profits, and thus reduce their tax liability to the country. The interest income goes to a country with low tax and this it is taxed there which incurs a negligible tax and super-normal profits. This way the country also loses valuable tax revenues which can be invested in their human development. Another prominent way of saving tax income is transfer pricing.
By this way the multinationals also distort their own decisions and probably become keener in avoiding taxes at the management level. In addition, one major issue remains which is of the definition of the ‘tax havens’, and this makes it more difficult in terming and declaring a specific country or a city as a tax haven. Mostly, it is considered that tax havens are countries or territories that offer a favourable tax regime for all kinds of foreign investors. The best definition of tax havens was given by OECD which mentioned the following criteria:
1. Only nominal or no taxes (and either offering or being perceived to be offering a place for non-residents to escape tax liability in their country)
2. Lack of transparency (like bank secrecy and absence of the ownership information of the beneficiary)
3. Unwillingness to share and exchange information with the tax authorities of member countries of OECD.
4. Absence of requisitions for activities be substantial (the business transactions may be booked in the country with minimal economic activity)