Answered: Required: 1. Do you think that the tax minimization scheme described to Debbie Kishimoto is in harmony with the ethical behavior that should be displayed by…

Paterson Company, a US -based company, manufactures and sells electronic components worldwide. Virtually all its manufacturing takes place in the United States. The company has marketing divisions throughout Europe, including France. Debbie Kishimoto, manager of this division, was hired from a competitor 3 years ago. Debbie, recently informed of a price increase in one of the major product lines, requested a meeting with Jeff Philips, marketing vice president. Their conversation follows:

Debbie: "Jeff, I simply don't understand why the price of our main product has increased from $5 to $5.50 per unit. We negotiated an agreement earlier in the year with our manufacturing division in Philadelphia for a price of $5.00 for the entire year. I called the manager of that division. He said that the original price was still acceptable - that the increase was a directive from headquarters. That's why I wanted to meet with you. I need some explanations. When I was hired, I was told that pricing decisions were made by the division. This directive interferes with this decentralized philosophy and will lower my division's profits. Given current market conditions, there is no way we can pass on the cost increase. Profits for my division will drop at least $600,000 if this price is maintained. I think a midyear increase of this magnitude is unfair to my division."

Jeff: "Under normal operating condition, headquarters would not interfere with divisional decisions. But as a company, we are having some problems. What you just told me is exactly why the price of your product has been increased. we want the profits of all our European marketing division to drop."

Debbie: "What do you mean that you want the profits to drop? That does'nt make any sense. Are'nt we in business to make money?"

Jeff: "Debbie, what you lack is corporate perspective. We are in business to make money, and that's why we want European profits to decrease. Our US divisions are not doing well this year. Projections show significant losses. At the same time, projections for European operations show good profitability. By increasing the cost of key products transferred to Europe - to your division, for example - we increase revenues and profits in the United States. By decreasing your profits, we avoid paying taxes in France. With losses on other US operations to offset the corresponding increase in domestic profits, we avoid paying taxes in the United States as well. The net effect is a much-needed increase in our cash flow. Besides, you know how hard it is in some of these European countries to transfer our capital. This is clean way of doing it."

Required:

1. Do you think that the tax minimization scheme described to Debbie Kishimoto is in harmony with the ethical behavior that should be displayed by top corporate executives? Why or why not? What would you do if you were Debbie?

2. Apparently, the tax department of the Paterson Company has been strongly involved in developing the tax minimization scheme. Assume that the accountants responsible for the decisions are CMAs and members of the IMA, subject to the IMA standards of ethical conduct. Review the IMA standards for ethical conduct. Are any of these standards being violated by the accountants in Paterson tax department? If so, identify them. What should these tax accountants do if requested to develop a questionable tax minimization scheme?

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