Google Avoids New Taxes with Transfer Pricing

he subsidiary is supposed to pay an "arm's length" price for the rights, or the same amount an unrelated company would. Yet because licensing fees from the Irish subsidiary generate income that is taxed at 35 percent, one of the highest corporate rates in the world, Google has an incentive to set the licensing price as low as possible. The effect is to shift some of its profits overseas in an arrangement known as "transfer pricing."

This, too, is legal. In 2006 the IRS approved Google's transfer pricing arrangements, which began in 2003, according to Google's SEC disclosures.

Transfer pricing arrangements are popular with technology and pharmaceutical companies in particular because they rely on intellectual property, which is easily transportable across borders. Facebook is preparing a structure similar to Google's that will send earnings from Ireland to the Cayman Islands, according to company filings and a person familiar with the arrangement. Microsoft and Forest Laboratories (FRX), maker of the blockbuster antidepressant Lexapro, have used a similar Irish-Bermuda transfer pricing arrangement. Facebook, Forest, and Microsoft declined to comment.

Ethical Questions

Even if the tax avoidance structures are legal, not everyone considers them ethical. Google is "flying a banner of doing no evil, and then they're perpetrating evil under our noses," says Abraham J. Briloff, a professor emeritus of accounting at Baruch College who has examined Google's tax disclosures. "Who is it that paid for the underlying concept on which they built these billions of dollars of revenues? It was paid for by the United States citizenry," Briloff says, referring to the fact that Google's initial technology was based in part on research done at Stanford University and funded by the National Science Foundation. Profit-shifting arrangements such as Google's cost the U.S. government as much as $60 billion in annual revenue, according to Kimberly A. Clausing, an economics...