Earnings Shocks and Tax-Motivated Income-Shifting: Evidence from European Multinationals

By Dhammika Dharmapala, Nadine Riedel. Social Science Research Network, 2012

313 citations recorded by the source corpus.

This paper presents a new approach to estimating the existence and magnitude of tax-motivated income shifting within multinational corporations. Existing studies of income shifting use changes in corporate tax rates as a source of identification. In contrast, this paper exploits exogenous earnings shocks at the parent firm and investigates how these shocks propagate across low-tax and high-tax multinational subsidiaries. This approach is implemented using a large panel of European multinational affiliates over the period 1995-2005. The central result is that parents’ positive earnings shocks are associated with a significantly positive increase in pretax profits at low-tax affiliates, relative to the effect on the pretax profits of high-tax affiliates. The result is robust to controlling for various other differences between low-tax and high-tax affiliates and for country-pair-year fixed effects. Additional tests suggest that the estimated effect is attributable primarily to the strategic use of debt across affiliates. The magnitude of income shifting estimated using this approach is substantial, but somewhat smaller than that found in the previous literature.

Subfields: Accounting, Economics and Econometrics

View Paper: https://www.semanticscholar.org/paper/c9797762b599034f9545d4a5bf4fac4b0c8c5283

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Citations in the corpus

Changes in corporate effective tax rates over the past 25 years (2017, unknown): “Anecdotes in the popular press, as well as evidence in academic research, suggest that multinationals use transfer pricing, intracompany debt, cost-sharing agreements, and other tactics to shift income from high tax jurisdictions to low tax jurisdictions (e.g., Hines and Rice, 1994; Huizinga and Lae”
INTERNATIONAL CORPORATE TAX AVOIDANCE: A REVIEW OF THE CHANNELS, MAGNITUDES, AND BLIND SPOTS (2018, unknown): “Specifically, using a panel data set of multinational affiliates within the EU–25 between 1995 and 2005, Dischinger and Riedel (2011) find that a decrease in the average tax difference to all other affiliates by one percentage point raises the subsidiary’s level of IP by 1.6 percent. Using data on c”
Comparing UK Tax Returns of Foreign Multinationals to Matched Domestic Firms (2019, unknown): “(2010), Dischinger and Riedel (2011), Dharmapala and Riedel (2013), Dischinger et al. (2014), Gumpert et al. (2016) and Dyreng et al. (2017)).”
Multinationals' Profit Response to Tax Differentials: Effect Size and Shifting Channels (2017, unknown): “On the contrary, Dharmapala and Riedel (2012) state that according to their empirical approach profit-shifting effects should be mainly attributed to the strategic use of debt.”
What Do We Know About Base Erosion and Profit Shifting? A Review of the Empirical Literature (2014, methodology): “Dharmapala and Riedel (2013) also propose a new approach to measuring BEPS that departs in significant respects from the Hines-Rice approach.”
Knocking on Tax Haven’s Door: Multinational Firms and Transfer Pricing (2017, background): “Dharmapala and Riedel (2013) discuss the impact of taxes on firm financing.”
The Effect of Tax and Nontax Country Characteristics on the Global Equity Supply Chains of U.S. Multinationals (2015, unknown): “…disproportionately recognize expenses and affiliates in low tax jurisdictions disproportionately recognize income (see Clausing, 2003; Collins and Shackelford, 1997; Dharmapala and Riedel, 2013; Drucker, 2010; Gupta and Mills, 2002; Klassen and Shackelford, 1998; Martin, 2013, among many others).”
Tax Avoidance and Geographic Earnings Disclosure (2013, unknown): “1993; Hines and Rice 1994; Dharmapala and Riedel 2011).(9) Graham, Hanlon, and Shevlin (2010) attempt to understand the consequences of nonrepatriation of foreign earnings by surveying tax executives’ response to the one-time dividends received deduction in the American Jobs Creation Act of 2004.”
The Effect of Financial Constraints on Income Shifting by U.S. Multinationals (2016, background): “…firms actually shift income both in and out, the Collins et al. (1998) approach allows them to contribute only in the direction that dominates.17 15 Dharmapala and Riedel (2013) construct shocks to parent profits by comparing reported profits to expected profits, where expected profits are…”
Does a common set of accounting standards affect tax-motivated income shifting for multinational firms? (2016, background): “, 1993 ; De Simone et al .”