Multinational and domestic firms are not treated uniformly for tax purposes. In the abstract, the arm’s length principle appears to ensure that domestic and multinational firms will be treated uniformly for tax purposes, essentially by definition. However, individual standalone competitors in a given market often report markedly different operating results in the same reporting period. By requiring individual members of a multinational group to report gross margins, markups or accounting rates of return that are contained in the interquartile range of third parties’ results (a U.S. regulatory provision that the OECD Guidelines do not endorse), multinational firms are treated more favorably for tax purposes than a subset of their domestic counterparts, and less favorably than others.

Inequity is inherently problematic, and uncertainty is costly, both for tax authorities and individual corporations and from an economy-wide perspective. Explicit costs, from tax authorities’ perspectives, include costs incurred in conducting audits and analyzing transfer pricing issues, and in resolving conflicts over income allocations with their opposite numbers in other tax jurisdictions.

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