Fighting international tax avoidance

There is broad agreement in theoretical work that taxes on capital income arebound to cease when markets become fully integrated. In particular, high-tax countries should be concerned about tax competition, and empirical evidence onthe working of tax competition should be found most easily by looking atcountries with traditionally high tax rates on capital income. In this respect,Germany is a good candidate for closer examination. Throughout the 1980s, ithad the highest statutory corporate tax rate of all major industrial countries. This makes it worthwhile considering recent German tax legislationand evaluating the extent to which international tax competition was responsible for new tax law amendments. In doing so, the emphasis is on corporate taxation.

(Why) Do we need Corporate Taxation?

Tax rates on corporate income have considerably come down in the process of tax competition and further pressures are evident. Against this background, the paper discusses possible benefits of corporate income taxation that may be at risk. In particular, the paper surveys the empirical evidence for a backstop function of the corporate income tax that allows preserving individual taxes.tax competition, corporate taxation

Profit Shifting in the EU: Evidence from Germany

The paper considers profit shifting behavior using data on German inbound and outbound FDI. It finds an empirical correlation between the home country tax rate of a parent and the net of tax profitability of its German affiliate that is consistent with profit shifting behavior. For profitable affiliates that are directly owned by a foreign investor the evidence suggests that a 10 percentage point increase in the parent's home country tax rate leads to roughly half a percentage point increase in the profitability of the German affiliate. On the outbound side of German FDI, the data provides some evidence that tax rate changes in the host country lead to a stronger change in after-tax profitability for affiliates that are wholly owned, which may reflect the larger flexibility of these firms in carrying out tax minimizing behavior without interference of minority owners.foreign direct investment, profit shifting, tax avoidance, multinational enterprise

Public procurement in the presence of capital taxation

The paper considers governments' public procurement decision as a way of influencing industry structure. In a federation in which capital is mobile and capital taxation is harmonized, a home bias in public procurement can potentially be explained as an effort to increase the capital intensity of local production and to attract taxable capital. As a result, governments may prefer domestic firms to more efficient foreign firms. --procurement,tax competition,federalism

The Taxation of Passive Foreign Investment - Lessons from German Experience

The paper evaluates the working of German CFC rules that restrict the use of foreign subsidiaries located in low-tax countries to shelter passive investment income from home taxation. While passive investments make up a significant fraction of German outbound FDI, we find that German CFC rules are quite effective in restricting investments in low-tax jurisdictions. We find evidence that the German 2001 tax reform, which unilaterally introduced exemption of passive income in medium- and high-tax countries, has led to some shifting of passive assets into countries for which the exemption was previously limited.foreign direct investment, CFC regulation, passive investment

Taxes and the Financial Structure of German Inward FDI

The paper analyses the financial structure of German inward FDI. From a tax perspective, intra-company loans granted by the parent should be all the more strongly preferred over equity the lower the tax rate of the parent and the higher the tax rate of the German affiliate. From our study of a panel of more than 8,000 non-financial affiliates in Germany, we find only small effects of the tax rate of the foreign parent. However, our empirical results show that subsidiaries that on average are profitable react more strongly to changes in the German corporate tax rate than this is the case for less profitable firms. This gives support to the frequent concern that high German taxes are partly responsible for the high levels of intra-company loans. Taxation, however, does not fully explain the high levels of intra-company borrowing. Roughly 60% of the cross-border intra-company loans turn out to be held by firms that are running losses.foreign direct investment, financial structure, taxation, Germany

Optimal Income Taxation with Tax Competition

We introduce tax competition for mobile labor into an optimal-taxation model with two skill levels. We analyze a symmetric subgame-perfect Nash equilibrium of the game between two governments and two taxpayer populations. Tax competition reduces the distortion from the informational asymmetry and increases employment of the less productive individuals. When countries are heterogeneous, this effect is more pronounced in the smaller country.optimal income tax, migration, unemployment, tax competition, Leviathan government

Euro membership and fiscal reaction functions : [Version 10 May 2013]

The paper uses fiscal reaction functions for a panel of euro-area countries to investigate whether euro membership has reduced the responsiveness of countries to shocks in the level of inherited debt compared to the period prior to succession to the euro. While we find some evidence for such a loss in prudence, the results are not robust to changes in the specification, such as an exclusion of Greece from the panel. This suggests that the current debt problems may result to a large extent from preexisting debt levels prior to entry or from a larger need for fiscal prudence in a common currency, while an adverse change in the fiscal reaction functions for most countries does not apply

Taxation and the Financial Structure of German Outbound FDI

The paper analyzes the financial structure of outbound FDI during the period 1996-2002 by drawing on up to 54,022 firm-year observations of 13,758 German-owned subsidiaries. We find that the tax rate in the host country has a sizeable and significantly positive effect on leverage for wholly-owned foreign unlike partially-owned foreign companies. Most of the effect comes from increased intra-company borrowing, while third-party debt is not significantly affected by tax differences. While wholly-owned subsidiaries react more sensitively to tax rate differentials, they are less sensitive to macroeconomic influences like interest rates.foreign direct investment, financial structure, capital structure, taxation

How Weak is the Weakest-Link Principle?On the Measurement of Firm Owners’Control Rights

The paper argues that the weakest link principle, which has been widely used as a measure of ultimate owners’ control rights, has a number of serious problems. A theoretically more satisfactory method of measuring control rights, based on voting power indices, is proposed, and the different measures are compared using a sample of large listed German firms. Thedifferent measures produce very different results. But, whichever measure is used, taking account of pyramid ownership structures has little effect on the values of control and cashflow rights. The results also show that neither first-tier nor ultimate control rights measures are adequate on their own, suggesting that further work on ownership structure and pyramids is required to obtain satisfactory measures of large owners’ control rights.corporate governance, control rights, weakest-link principle.