What is thin capitalization?

Answer 1

My best guess is that they are talking about a business that has little or no capital , no money to back a bad month. The inventory is insufficient for the potential sales..

Answer 2

It is a methodology to find whether the local set up of a foreign based parent company is not funded by extra debt/equity proportion then some standards.

This is to control the repatriation of profit as well as maintain the credit environment of the country well under control.

Mostly companies prefer to have their foreign set ups funded by name sake equity and balance by inter-company loan and they start charing interest on that subsidiary. Now the country in which the subsidiary is located will be actually incuring interest expense and ultimate paying less tax on the profit earned within that country. So the government of that country will try check that debt equity proportion and those companies who fails the thin capitalisation test will have to pay tax on disallowed portion of interest expense.

This is a very very broad way of explaining the concept.

Hope it clarifies the initial fog before entering the jungle of thin cap.

Cheers mate :))