Burch Conference, June 2009 Day 2: Behavioral Evidence

Bur

ch C

onfe

renc

e, J

une

2009

Day

2: B

ehav

iora

l Evi

denc

e

Inves

tmen

t Loc

ation

Profi

t Shif

ting

Tax P

ayme

nts an

d Loc

ation

of E

xpen

ses

Debt-

Equit

y Dec

ision

sRe

patria

tions

The

impa

ct o

f tax

atio

n.

!U

ntil 20 y

ears

ago,

our

under

stan

din

g o

f th

e im

pac

t of in

tern

atio

nal

tax

atio

n w

as r

ather

a

muddle

.!

In p

articu

lar,

ser

ious

peo

ple

voic

ed s

erio

us

ques

tions

about

whet

her

inte

rnat

ional

tax

atio

n

had

any

impac

t on inve

stm

ent

and o

ther

asp

ects

of firm

beh

avio

r.!

What

chan

ged

? N

ew d

ata

bec

ame

avai

lable

, but

more

im

port

antly,

peo

ple

beg

an looki

ng a

t th

e dat

a m

ore

rig

oro

usl

y.!

Nobody

now

ask

s w

het

her

tax

atio

n m

atte

rs;

we

now

ask

how

much

tax

atio

n m

atte

rs,

and h

ow

the

effe

cts

vary

with c

ircu

mst

ance

s.

Wha

t we

know

abo

ut th

e im

pact

of

taxa

tion

on F

DI.

!The

bott

om

lin

e: v

irtu

ally

all

the

relia

ble

ev

iden

ce p

oin

ts t

o lar

ge

effe

cts

of

taxa

tion o

n t

he

loca

tion,

volu

me,

and

char

acte

r of fo

reig

n d

irec

t in

vest

men

t (F

DI)

.!

Eve

n g

ranting t

he

pre

mis

e th

at t

axat

ion

has

im

port

ant

effe

cts,

it

is s

till

import

ant

to k

now

the

asso

ciat

ed m

agnitudes

of

beh

avio

ral re

sponse

s, s

ince

thes

e ar

e cr

itic

al t

o a

sses

sing t

he

impac

t of ta

x polic

ies

in p

ract

ice,

and t

o o

ptim

al t

ax

des

ign.

Old

er e

vide

nce.

!Ver

y old

evi

den

ce (

e.g.,

1950s)

com

es fro

m

surv

eys,

in w

hic

h m

anag

ers

indic

ate

that

they

m

ost

ly ignore

tax

atio

n iss

ues

."

Consi

sten

t w

ith F

DI

beh

avio

r in

the

1950s,

when

FD

I w

as c

once

ntr

ated

in h

igh-t

ax c

ountr

ies

in

Euro

pe,

USA,

Can

ada,

etc

."

Moder

n s

urv

eys

show

just

the

opposi

te,

with

man

ager

s co

nsi

sten

tly

ranki

ng t

ax c

onsi

der

atio

ns

as

one

of th

e to

p t

wo o

r th

ree

fact

ors

(al

ong w

ith

cost

s) d

eter

min

ing inve

stm

ent

loca

tion.

!O

lder

quan

tita

tive

evi

den

ce c

om

es f

rom

tim

e se

ries

, sh

ow

s th

at F

DI

is p

osi

tive

ly a

ffec

ted b

y af

ter-

tax

rate

s of

retu

rn.

This

evi

den

ce is,

how

ever

, open

to m

ultip

le inte

rpre

tations.

!Ther

e is

an im

port

ant

issu

e of how

one

thin

ks

about,

and m

easu

res,

the

burd

en o

f ta

xation.

The

early

mod

ern

stud

ies.

!Cro

ss-s

ectional

evi

den

ce (

e.g.,

G

ruber

tan

d M

utt

i, R

ESta

t1991 o

r H

ines

and R

ice,

QJE

1994):

U.S

. firm

s te

nd t

o inve

st in low

tax

fo

reig

n loca

tions.

They

do s

o f

or

two r

easo

ns:

"Kee

p a

hig

her

fra

ctio

n o

f pro

fits

ear

ned

th

ere.

"Can

rea

lloca

te t

axab

le inco

me

among

loca

tions.

!Evi

den

ce f

or

fore

ign t

ax h

aven

s.

Who

and

wha

t are

tax

have

ns?

!Tax

hav

ens

are

low

-tax

loca

tions

that

att

empt

to

attr

act

inve

stm

ent.

!N

ot

a new

phen

om

enon:

the

sam

e co

untr

ies

that

w

ere

maj

or

tax

hav

ens

in 1

980 a

re m

ajor

tax

hav

ens

today

.!

The

maj

or

tax

hav

ens

incl

ude

most

ly s

mal

l co

untr

ies;

only

sev

en h

ad p

opula

tions

exce

edin

g o

ne

mill

ion in 1

982.

!Am

eric

an inve

stm

ent

in 1

982 �

and in 1

999 �

was

co

nce

ntr

ated

in t

ax h

aven

s out

of pro

port

ion t

o t

he

econom

ic s

izes

of th

ese

countr

ies.

(S

epar

atel

y,

Am

eric

an firm

s re

port

ed v

ery

hig

h inco

me

leve

ls in

thes

e pla

ces.

)

Who

are

the

maj

or ta

x ha

vens

?A

ndor

raG

rena

daN

auru

!A

ngui

llaH

ong

Kon

g *

Net

herla

nds A

ntill

esA

ntig

ua a

nd B

arbu

daIr

elan

d *

Niu

e !

Aru

ba !

Isle

of M

anPa

nam

aB

aham

asJo

rdan

*Sa

int K

itts a

nd N

evis

Bah

rain

Leba

non

*Sa

int L

ucia

Bar

bado

sLi

beria

Sain

t Vin

cent

and

the

Gre

nadi

nes

Bel

ize

Liec

hten

stei

nSa

moa

!B

erm

uda

Luxe

mbo

urg

*Sa

n M

arin

o !

Brit

ish

Virg

in Is

land

sM

acao

*Se

yche

lles !

Cay

man

Isla

nds

Mal

dive

sSi

ngap

ore

*C

hann

el Is

land

sM

alta

Switz

erla

nd *

Coo

k Is

land

sM

arsh

all I

slan

dsTo

nga

!C

ypru

sM

aurit

ius !

Turk

s and

Cai

cos I

slan

dsD

omin

ica

Mon

aco

Van

uatu

Gib

ralta

rM

onts

erra

tV

irgin

Isla

nds (

U.S

.) !

! Not

incl

uded

in H

ines

-Ric

e ta

x ha

ven

list.

* N

ot in

clud

ed in

OEC

D ta

x ha

ven

list.

Inve

stm

ent l

evel

s as

func

tions

of

loca

l tax

es.

!To w

hat

ext

ent

do c

ountr

ies

with low

er t

ax r

ates

re

ceiv

e gre

ater

am

ounts

of

inbound f

ore

ign

inve

stm

ent

and a

ssoci

ated

em

plo

ymen

t?!

Hin

es a

nd R

ice

(1994)

anal

yze

U.S

. dat

a, f

indin

g

signific

ant

effe

cts:

1%

low

er t

ax r

ates

are

as

soci

ated

with 3

% g

reat

er loca

l use

of

pro

per

ty

pla

nt

and e

quip

men

t an

d 3

% g

reat

er e

mplo

ymen

t (a

s m

easu

red b

y w

ages

).!

Oth

er p

aper

s find s

imila

r pat

tern

s; A

ltsh

ule

ran

d

Gru

ber

tre

port

that

effec

ts incr

ease

ove

r tim

e.!

This

corr

elat

ion d

oes

not

PRO

VE t

hat

tax

es

influen

ce inve

stm

ent

to t

his

ext

ent,

sin

ce o

ther

th

ings

diffe

r bet

wee

n c

ountr

ies,

but

it is

hig

hly

su

gges

tive

, par

ticu

larly

giv

en o

ther

evi

den

ce.

Som

e re

leva

nt m

ultin

atio

nal d

ecis

ions

!D

iscr

ete

choic

es:

"To s

erve

fore

ign m

arke

t th

rough e

xport

or

pro

duct

ion a

bro

ad"

To s

hift

pro

duct

ion a

bro

ad for

cost

rea

sons

"W

hic

h �

and h

ow

man

y -

fore

ign loca

tions

to

choose

"To e

xpan

d b

y ac

quis

itio

n o

r gre

enfiel

din

vest

men

t!

Continuous

choic

es:

"Conditio

nal

on loca

tion,

how

much

to inve

st"

Conditio

nal

on �

real

� ac

tivi

ty,

how

to s

hift

pro

fit

thro

ugh u

se o

f deb

t, t

ransf

er p

rici

ng,

etc

"Choic

e of div

iden

d r

epat

riat

ion

Loca

tion

Cho

ice

!2 s

tatist

ical

appro

aches

use

d s

o f

ar1.

Choose

exa

ctly

one

of a

num

ber

of poss

ible

lo

cations

(Dev

ereu

x &

Griffith,

1998)

!This

does

n�t a

llow

for

com

pan

ies

to b

e pre

sent

in s

ever

al c

ountr

ies

sim

ultan

eousl

y2.

Choose

to loca

te o

r not

loca

te in e

ach p

lace

(B

uet

tner

& R

uf,

2006,

Bar

rios

et a

l, 2

008)

!This

ass

um

es e

ach c

hoic

e in

dep

enden

t of

the

oth

ers

!N

eed t

o m

odel

num

ber

of

loca

tions

chose

n,

and c

onditio

n o

n t

hat

, w

hic

h loca

tions

Dat

a

!Aggre

gat

e ca

pital

sto

ck!

Flow

s of

Fore

ign D

irec

t In

vest

men

t"

Aggre

gat

e an

d b

ilate

ral

!Cap

ital

ow

ned

abro

ad b

y U

S c

om

pan

ies

"BEA,

split

by

countr

y an

d indust

ry!

Firm

lev

el d

ata

"Confiden

tial

dat

a on fore

ign a

ffili

ates

and p

aren

ts

(BEA,

US T

reas

ury

, Bundes

ban

k, O

NS)

"Conso

lidat

ed a

ccounting d

ata

(Com

pust

atan

d

Dat

astr

eam

)"

Unco

nso

lidat

ed a

ccounting d

ata,

with o

wner

ship

in

form

atio

n (

Am

adeu

s an

d O

rbis

)

Agg

rega

te v

Mic

ro D

ata

!M

ost

ly inte

rest

ed in a

ggre

gat

e ef

fect

s"

How

much

cap

ital

is

ther

e is

in c

ountr

y i, a

nd w

ho

ow

ns

it?

"Aggre

gat

e dat

a ca

n e

nco

mpas

s eq

uili

brium

re

sponse

s eg

. H

ow

tax

rat

es a

ffec

t ag

gre

gat

e ca

pital

sto

ck!

Mic

ro d

ata

"Can

addre

ss t

he

separ

ate

dec

isio

ns

that

add u

p t

o

aggre

gat

e ef

fect

s"

In p

rinci

ple

, al

low

s us

to iden

tify

more

pre

cise

ly

role

of diffe

rent

aspec

ts o

f ta

x sy

stem

"

Is m

ore

det

aile

d,

so w

e ca

n c

ontr

ol fo

r m

ore

fa

ctors

"Allo

ws

us

to iden

tify

diffe

rence

s in

beh

avio

ur

bet

wee

n t

ypes

of co

mpan

ies

Agg

rega

te v

Mic

ro D

ata

!M

icro

dat

a"

Is m

uch

more

effec

tive

if w

e ca

n iden

tify

var

iation

in e

ffec

tive

tax

rat

es a

cross

com

pan

ies

!But

usu

ally

inte

rest

ed in n

atio

nal

tax

sys

tem

"Var

iation c

lear

ly d

oes

occ

ur

thro

ugh c

hoic

e of

asse

ts,

deb

t, e

tc �

and r

ate

of pro

fit,

but

thes

e m

ay

all be

corr

elat

ed w

ith t

he

indep

enden

t va

riab

le,

so

endogen

eity

pro

ble

m"

Exa

mple

is

com

monly

use

d �

effe

ctiv

e ta

x ra

te�

ie.

tax

char

ge

as p

roport

ion o

f pre

-tax

pro

fit

Mea

surin

g ta

x (1

)

!D

iscr

ete

choic

es s

hould

dep

end o

n c

om

par

ison

of

post

-tax

pro

fit

of

each

option -

affe

cted

by

an

aver

age

tax

rate

!2 a

ppro

aches

1.

Bac

kwar

d-l

ooki

ng:

ratio o

f ta

x ch

arge

to p

re-t

ax

pro

fit

"D

epen

ds

on p

ast

and c

urr

ent

inve

stm

ent,

pro

fit,

deb

t, e

tc2.

Forw

ard-l

ooki

ng:

for

hyp

oth

etic

al inve

stm

ent

pro

ject

, ra

tio o

f N

PV o

f ta

x to

NPV

of pre

-tax

pro

fit

"N

eces

sarily

a s

implif

icat

ion o

f ac

tual

tax

posi

tion

Mea

surin

g ta

x (2

)

!Continuous

choic

es a

ffec

ted b

y m

argin

al

consi

der

atio

ns

"Affec

ted b

y a

mar

gin

al t

ax r

ate

"In

vest

men

t af

fect

ed b

y an

effec

tive

mar

gin

al t

ax

rate

s, t

akin

g into

acc

ount

allo

wan

ce r

ates

as

wel

l as

st

atuto

ry r

ates

!Can

com

pute

this

for

hyp

oth

etic

al inve

stm

ent

pro

ject

"Lo

cation o

f pro

fit

dep

ends

at t

he

mar

gin

on

diffe

rence

s in

sta

tuto

ry r

ates

Impa

ct o

n in

vest

men

t in

the

U.S

.

!U

.S.

stat

es t

ax c

orp

ora

te inco

me

at r

ates

that

va

ry fro

m 0

% t

o 1

2%

.!

We

can c

om

par

e in

vest

men

ts in U

.S.

stat

es f

rom

co

untr

ies

that

exe

mpt

fore

ign inco

me

from

ta

xation w

ith inve

stm

ents

fro

m c

ountr

ies

that

tax

fo

reig

n inco

me

and p

rovi

de

fore

ign t

ax c

redits.

!The

seco

nd g

roup s

hould

be

less

sen

sitive

to s

tate

ta

x diffe

rence

s, w

her

eas

the

firs

t gro

up s

hould

be

extr

emel

y se

nsi

tive

.!

For

exam

ple

, Fr

ench

inve

stm

ent

should

be

more

at

trac

ted t

o T

exas

, w

her

e th

ere

is n

o s

tate

co

rpora

te t

ax,

than

should

British

inve

stm

ent,

si

nce

the

U.K

. ta

xes

the

Tex

as inco

me.

!The

evid

ence

(H

ines

, �A

lter

ed S

tate

s,�

Am

eric

an

Eco

nom

ic R

evie

w,

1996)

is c

onsi

sten

t w

ith t

his

.

Evi

denc

e in

Hin

es (1

996)

.

!Com

par

ing o

nly

zer

o-t

ax s

tate

s to

the

hig

hes

t-ta

x st

ates

, in

vest

ors

fro

m e

xem

ption c

ountr

ies

tend

to c

once

ntr

ate

thei

r U

.S.

inve

stm

ents

in t

he

zero

-ta

x st

ates

. J

apan

ese

and B

ritish

inve

stors

, on t

he

oth

er h

and,

diffe

r lit

tle

bet

wee

n t

hes

e st

ates

.!

The

regre

ssio

n a

nal

ysis

indic

ates

that

1%

sta

te

tax

rate

diffe

rence

s ar

e as

soci

ated

with 9

-11%

diffe

rence

s bet

wee

n t

he

inve

stm

ent

inte

nsi

ties

of

exem

ption inve

stors

and t

hose

fro

m c

ountr

ies

that

tax

worldw

ide

inco

me.

!The

sim

ple

st e

mpiric

al e

xerc

ise

is s

imply

to look

at n

um

ber

s of

busi

nes

ses

that

fore

ign inve

stors

ow

n in e

ach s

tate

. H

ere

too t

her

e ar

e im

port

ant

tax

effe

cts:

1%

hig

her

tax

es a

re a

ssoci

ated

with

3%

few

er a

ffili

ates

of

exem

ption c

ountr

y in

vest

ors

com

par

ed t

o w

orldw

ide

inve

stors

.

Are

tax

conc

essi

ons

to fo

reig

n in

vest

ors

effe

ctiv

e?

!Pa

per

: H

ines

, �T

ax s

par

ing a

nd d

irec

t in

vest

men

t in

dev

elopin

g c

ountr

ies,

� 2001.

!�T

ax s

par

ing�

is t

he

pra

ctic

e of

gra

nting f

ore

ign

tax

cred

its

for

taxe

s th

at w

ould

hav

e bee

n p

aid

in

the

abse

nce

of

spec

ial co

nce

ssio

ns

to f

ore

ign

inve

stors

. �

Tax

spar

ing�

incr

ease

s th

e im

pac

t of

loca

l ta

x co

nce

ssio

ns

to inve

stors

fro

m c

ountr

ies

that

tax

worldw

ide

inco

mes

.!

Com

par

e Ja

pan

ese

and A

mer

ican

inve

stm

ent.

"Ja

pan

offer

s ta

x sp

arin

g,

the

U.S

. does

not.

"Ja

pan

ese

firm

s ap

pea

r to

rec

eive

tax

conce

ssio

ns

in

countr

ies

with s

par

ing a

gre

emen

ts.

"G

reat

er J

apan

ese

inve

stm

ent

conce

ntr

atio

n r

esults.

"Effec

ts p

ersi

st w

hen

usi

ng U

K t

ax s

par

ing a

s an

in

stru

men

t fo

r Ja

pan

ese

tax

spar

ing.

AVER

AGE

TAX

RATE

0

0.1

0.2

0.3

0.4

0.5

0.6

NO S

PARI

NGSP

ARIN

GJA

PANE

SE T

AX T

REAT

Y PR

OVIS

ION

ARITHEMETIC MEAN OF AGGREGATE AVERAGE TAX

RATES

US JAPA

N

"TAX

SPA

RIN

G"

AND

FD

I

0

0.00

2

0.00

4

0.00

6

0.00

8

0.01

0.01

2

0.01

4

0.01

6

NO

SPA

RIN

GSP

ARIN

G

JAPA

NES

E TA

X TR

EATY

PR

OVI

SIO

N

SHARE OF FDI

US

JAPA

N

Hom

e co

untry

tax

effe

cts

on F

DI.

!Pa

per:

�Inter

natio

nal ta

xatio

n and

mult

inatio

nal fi

rm

locati

on de

cision

s,� O

xford

Cen

tre fo

r Bus

iness

Ta

xatio

n wor

king p

aper

08/25

, Octo

ber 2

008.

!Au

thors:

Salv

ador

Bar

rios (

EC),

Harry

Huiz

inga

(Tilb

urg U

niver

sity),

Luc L

aeve

n(IM

F), a

nd G

aetan

Nico

deme

(EC)

.!

Data

(Ama

deus

) on E

urop

ean m

ultina

tiona

ls in

33

Euro

pean

coun

tries,

1999

-200

3.!

Focu

ses o

n the

impa

ct of

home

tax r

egim

es.

The

met

hod

of a

naly

sis.

!Th

e pap

er ta

kes t

he sa

mple

of all

new

foreig

n su

bsidi

aries

estab

lishe

d betw

een 1

999 a

nd 20

03,

and a

sks:

"W

hat fa

ctors

deter

mine

whe

re th

e sub

sidiar

y is

locate

d?"

Wha

t facto

rs de

termi

ne th

e hom

e cou

ntry o

f the p

aren

t of

that s

ubsid

iary.

!Th

e stat

istica

l pro

blems

are i

mmen

se, a

nd th

e pa

per t

akes

only

a sim

ple pa

ss at

them

; no

nethe

less,

the re

sults

are i

ntere

sting

.

Find

ings

.

!1%

high

er lo

cal ta

xes r

educ

e the

prob

abilit

y of a

subs

idiar

y be

ing lo

cated

ther

e by 0

.6% (c

ontro

lling f

or ec

onom

ic an

d po

litica

l con

dition

s, ge

ogra

phic

prox

imity

, othe

r fac

tors).

!Cr

oss-b

orde

r tax

es (d

ivide

nd w

ithho

lding

taxe

s and

home

co

untry

taxe

s on f

oreig

n inc

ome)

have

sign

ifican

t and

sli

ghtly

larg

er ne

gativ

e effe

cts (1

% lo

wer p

roba

bility

for 1

%

highe

r tax

es) t

han l

ocal

effec

tive t

axes

.!

Turn

ing th

e meth

od ar

ound

, the p

aper

cons

iders

who o

wns

an af

filiate

. 1%

high

er ta

xes o

n own

ersh

ip of

an af

filiate

re

duce

s by 3

% th

e like

lihoo

d tha

t a pa

rent

will o

wn it.

Are

tax

effe

cts

unifo

rm?

!The

stat

istica

l an

alys

is t

ypic

ally

im

pose

s th

at a

giv

en

tax

rate

diffe

rence

has

the

sam

e ef

fect

eve

ryw

her

e;

put

diffe

rently,

em

piric

al w

ork

looks

for

aver

age

tax

effe

cts.

!It

is

unlik

ely

to b

e th

e ca

se t

hat

tax

rat

e diffe

rence

s hav

e th

e sa

me

effe

cts

in a

ll ci

rcum

stan

ces.

!D

har

map

ala

and H

ines

(D

ay 4

rea

din

gs)

fin

d t

hat

ta

x ef

fect

s hav

e m

uch

str

onger

effec

ts o

n U

.S.

fore

ign d

irec

t in

vest

men

t am

ong c

ountr

ies

that

sc

ore

wel

l on W

orld B

ank

gove

rnan

ce indic

ators

.

Doubtles

s th

is r

efle

cts

that

inve

stors

may

fee

l th

at

low

tax

rat

es d

o t

hem

little

good in s

om

e par

ts o

f th

e w

orld.

!W

e nee

d m

ore

anal

ysis

of w

hen

and h

ow

tax

rat

es

hav

e diffe

rential

effec

ts o

n inve

stm

ent.

Ratio

of U

S FD

I to

GDP

for 4

Gro

ups o

f Cou

ntrie

s

0 0.1

0.2

0.3

0.4

0.5

0.6

0.7

Poor

ly-Go

vern

ed, L

ow T

ax P

oorly

-Gov

erne

d, Hi

gh T

axW

ell-G

over

ned,

Low

Tax

Well

-Gov

erne

d, Hi

gh T

ax

Ratio

of T

otal F

DI to

To

tal G

DP

Pro

fit s

hifti

ng.

!Ther

e is

consi

der

able

evi

den

ce t

hat

the

loca

tion o

f ta

xable

inco

me

is s

ensi

tive

to n

atio

nal

tax

rat

e diffe

rence

s.!

This

evi

den

ce c

om

es in s

ever

al form

s."

Hig

her

rep

ort

ed p

rofit

rate

s in

low

-tax

loca

tions.

"G

reat

er r

oya

lty

and inte

rest

pay

men

ts t

o r

elat

ed p

arties

(a

nd a

lso t

o u

nre

late

d p

arties

) in

hig

h-t

ax loca

tions.

"Fo

reig

n a

ffili

ates

in low

-tax

loca

tions

run lar

ge

report

ed

trad

e su

rplu

ses

with r

elat

ed p

arties

, co

mpar

ed t

o a

ffili

ates

in

hig

h-t

ax loca

tions.

"D

irec

t ev

iden

ce t

hat

price

s ch

arged

for

rela

ted p

arty

tr

ansa

ctio

ns

seem

to b

e af

fect

ed b

y ta

x ra

te d

iffe

rence

s."

None

of

the

stat

istica

l ev

iden

ce p

rove

s th

at a

nyo

ne

is

viola

ting t

he

law

, th

ough it

is c

onsi

sten

t w

ith m

odel

s of

avoid

ance

that

hav

e th

at f

eatu

re.

Pro

fit ra

tes

and

taxe

s.

!Sev

eral

stu

die

s lo

ok

at p

rofit

rate

s of

fore

ign

affilia

tes

as f

unct

ions

of

loca

l ta

x ra

tes.

!The

conce

pt

is t

hat

, if f

irm

s re

allo

cate

tax

able

in

com

e, t

hen

hig

her

tax

rat

es s

hould

be

asso

ciat

ed w

ith low

er r

eport

ed p

rofit

rate

s.!

The

difficu

lty

is t

hat

you d

o n

ot

know

what

pro

fit

rate

s w

ould

be

in t

he

abse

nce

of m

anip

ula

tion.

But

it is

poss

ible

to o

bse

rve

inputs

such

as

capital

an

d lab

or,

contr

ol fo

r th

ese,

and s

ee t

o w

hat

ex

tent

the

diffe

rence

s th

at r

emai

n a

re c

orr

elat

ed

with t

ax r

ates

.!

Eve

ryone

(e.g

., G

ruber

tan

d M

utt

i, 1

991;

Hin

es

and R

ice,

1994;

Huiz

inga

and L

aeve

n,

2008)

report

s th

at h

igh t

axes

go w

ith low

pro

fit

rate

s.

Hui

zing

a an

d La

even

stud

y.

!A s

imple

model

of ta

x av

oid

ance

thro

ugh

inco

me

shifting.

!D

ata

for

firm

s in

33 E

uro

pea

n c

ountr

ies

in

1999;

they

look

at t

he

det

erm

inan

ts o

f ea

rnin

gs

bef

ore

inte

rest

and t

axes

, co

ntr

olli

ng for

oth

er inputs

.!

They

rep

ort

sig

nific

ant

effe

cts

of ta

xes

on

report

ed p

rofits

, co

nsi

sten

t w

ith (

though

smal

ler

than

) th

e re

sults

of H

ines

and

Ric

e (1

994)

for

U.S

. dat

a.

Mor

e ev

iden

ce o

n pr

ofit

shift

ing.

!Kim

Cla

usi

ng

(2001)

finds

that

10%

low

er a

ffili

ate

tax

rate

s ar

e as

soci

ated

with 4

.4%

gre

ater

tra

de

surp

luse

s w

ith t

he

U.S

. par

ent

com

pan

y;

furt

her

more

, af

filia

tes

in low

-tax

countr

ies

hav

e gre

ater

rep

ort

ed e

xport

s to

rel

ated

aff

iliat

es.

!Cla

usi

ng

(2003)

finds

that

1%

low

er a

ffili

ate

tax

rate

s ar

e as

soci

ated

with 2

% h

igher

price

s fo

r U

.S.

goods

import

s (r

elat

ive

to p

rice

s pai

d t

o

unre

late

d p

arties

for

the

sam

e ca

tegory

of

goods)

an

d 1

.8%

low

er e

xport

price

s.!

Har

ris,

Morc

k, S

lem

rod a

nd Y

eung

report

that

U

.S.

firm

s w

ith t

ax h

aven

affili

ates

hav

e lo

wer

U

.S.

taxe

s/U

.S.

sale

s th

an d

o o

ther

firm

s.

Use

of d

ebt.

!It

can

not

com

e as

a s

urp

rise

that

firm

s use

gre

ater

deb

t in

hig

h-t

ax loca

tions.

!Evi

den

ce o

n f

inan

cing is

report

ed in D

esai

, Fo

ley

and H

ines

, �A

mulit

nat

ional

per

spec

tive

on c

apital

st

ruct

ure

choic

e an

d inte

rnal

cap

ital

mar

kets

,�

Journ

al o

f Fi

nan

ce,

Dec

ember

2004.

!Evi

den

ce for

U.S

. firm

s in

1982-1

994.

!10%

hig

her

loca

l ta

x ra

tes

are

asso

ciat

ed w

ith

2.8

% g

reat

er d

ebt/

asse

t ra

tios

within

the

sam

e firm

s.!

The

elas

tici

ty o

f deb

t/as

sets

is

gre

ater

for

borr

ow

ing f

rom

U.S

. par

ent

com

pan

ies

(0.3

5)

than

borr

ow

ing f

rom

unre

late

d p

arties

(0.1

9).

Mor

e on

deb

t.

!D

esai

, Fo

ley

and H

ines

rep

ort

that

U.S

. firm

s use

par

ent

com

pan

y deb

t to

subst

itute

for

unav

aila

bili

ty o

r co

stlin

ess

of

3rd

par

ty d

ebt

in

man

y co

untr

ies.

!1%

hig

her

loca

l in

tere

st r

ates

due

to leg

al a

nd

capital

mar

ket

conditio

ns

are

asso

ciat

ed w

ith

1.3

% r

educe

d e

xter

nal

borr

ow

ing a

nd 0

.8%

gre

ater

par

ent

lendin

g (

both

as

a fr

action o

f as

sets

).!

Part

of th

e ben

efit o

f a

multin

atio

nal

str

uct

ure

is

the

abili

ty t

o d

eplo

y ca

pital

aro

und t

he

world t

o

ove

rcom

e lo

cal pro

ble

ms.

This

in t

urn

car

ries

tax

im

plic

atio

ns,

though m

ay b

e only

par

tly

tax

motiva

ted t

o s

tart

with.

An

inte

rest

ing

debt

epi

sode

.

!Le

slie

Pap

ke(2

000)

docu

men

ts t

he

U.S

. han

dlin

g

of th

e ta

x tr

eaty

bet

wee

n t

he

U.S

. an

d t

he

Net

her

lands

Antille

s.!

Prio

r to

1984,

the

U.S

. tr

eaty

with t

he

N.A

. pro

vided

zer

o w

ithhold

ing o

n p

ort

folio

inte

rest

, m

akin

g t

he

N.A

. th

e id

eal co

nduit f

or

borr

ow

ing

by

issu

ing b

eare

r bonds

(!)

on t

he

Euro

dolla

r m

arke

t. The

only

oth

er w

ay t

o g

et z

ero

withhold

ing w

as w

ith t

reat

y par

tner

s w

ho

iden

tified

the

lender

s.!

Aft

er 1

984,

the

U.S

. re

pea

led w

ithhold

ing t

axes

on p

ort

folio

inte

rest

for

ever

yone.

!As

a re

sult,

borr

ow

ing t

hro

ugh t

he

N.A

. al

l but

dis

appea

red,

to b

e re

pla

ced b

y direc

t borr

ow

ing.

How

effe

ctiv

e ar

e m

ultin

atio

nal f

irms

at

avoi

ding

taxe

s?

!They

obvi

ousl

y dev

ote

ener

gy

and

reso

urc

es t

o a

void

ing t

axes

.!

But:

corp

ora

tions

around t

he

world

(incl

udin

g in t

he

U.S

.) p

ay q

uite

a bit in

taxe

s.

So it

appea

rs t

hat

ther

e ar

e si

gnific

ant

limits

to t

hei

r ab

ilities

to a

void

.!

Note

that

this

is

consi

sten

t w

ith t

he

inve

stm

ent

evid

ence

: if a

void

ance

wer

e co

stle

ss a

nd p

erfe

ct,

then

ther

e sh

ould

be

no e

ffec

t of ta

xation o

n F

DI.

Rep

atria

tions

.

!The

U.S

. sy

stem

of ta

xing fore

ign inco

me

on r

epat

riat

ion c

reat

es ince

ntive

s to

ch

oose

the

tim

ing o

f re

pat

riat

ions

sele

ctiv

ely

in o

rder

to m

inim

ize

asso

ciat

ed

tax

oblig

atio

ns.

"This

consi

der

atio

n b

ecom

es m

ore

im

port

ant

at

low

er fore

ign t

ax r

ates

."

Note

that

, if r

epat

riat

ion t

axes

are

not

tim

e-va

ryin

g,

then

(per

hap

s co

unte

rintu

itiv

ely)

the

repat

riat

ion t

ax d

oes

not

affe

ct t

he

tim

ing o

f re

pat

riat

ions.

!Am

eric

an firm

s re

pat

riat

e ro

ughly

hal

f of

thei

r fo

reig

n p

rofits

on a

vera

ge

each

yea

r.

Tax

effe

cts.

!H

ow

should

we

thin

k ab

out

avoid

ance

?"

Altsh

ule

rand G

ruber

t(2

003)

argue

that

fir

ms

ought

to b

e ab

le t

o a

void

rep

atri

atio

n t

axes

altoget

her

with f

inan

cial

tr

ansa

ctio

ns.

"N

ote

that

, ev

en if

firm

s su

cces

sfully

avo

ided

all

repat

riat

ion t

axes

, it w

ould

not

follo

w t

hat

the

repat

riat

ion

taxe

s w

ere

not

burd

enso

me

to t

hem

.!

Do A

mer

ican

firm

s del

ay r

epat

riat

ion t

o a

void

the

asso

ciat

ed t

axes

?"

Hin

es a

nd H

ubbar

d (

1990)

and D

esai

, Fo

ley

and H

ines

(2

001)

report

that

fir

ms

are

leas

t lik

ely

to r

epat

riat

e $$

from

low

-tax

fore

ign loca

tions;

DFH

als

o f

ind t

hat

this

ap

pea

rs f

or

fore

ign s

ubsi

dia

ries

but

not

for

fore

ign

bra

nch

es,

consi

sten

t w

ith t

ax ince

ntive

s."

The

stro

nges

t ev

iden

ce c

om

es f

rom

the

2004 H

IA,

a one-

tim

e 85%

exc

lusi

on o

f div

iden

ds

rece

ived

in 2

005.

Wha

t hap

pene

d in

200

5?

!A s

urg

e in

rep

atriat

ions:

wen

t fr

om

about

$60b/y

ear

to $

362b in 2

005.

!The

Dhar

map

ala,

Fole

y an

d F

orb

es a

sk w

hat

firm

s did

with r

epat

riat

ed funds.

"The

HIA

req

uired

that

the

funds

be

use

d for

per

mitte

d inve

stm

ents

: in

vest

men

t, R

&D

, new

em

plo

ymen

t, c

erta

in a

cquis

itio

ns.

"H

IA funds

could

not

be

use

d for

div

iden

ds,

shar

e buyb

acks

, or

exec

utive

com

pen

sation.

!D

FF f

ind t

hat

rep

atriat

ions

wer

e not

asso

ciat

ed

with g

reat

er inve

stm

ent

or

emplo

ymen

t ex

pen

ses,

but

with p

ayouts

to s

har

ehold

ers:

$1 o

f re

pat

riat

ions

was

ass

oci

ated

with $

0.9

1 o

f sh

are

buyb

acks

and $

0.0

8 o

f div

iden

ds.

How

do

we

know

wha

t firm

s w

ould

ha

ve d

one

in th

e ab

senc

e of

HIA

?

!O

ne

of th

e pro

ble

ms

of in

fere

nce

is

that

firm

s th

at

wan

ted t

o d

o lots

of sh

are

buyb

acks

in 2

005

would

norm

ally

be

expec

ted t

o r

epat

riat

e m

ore

fr

om

thei

r fo

reig

n s

ubs

than

do o

ther

firm

s.!

DFF

use

an inst

rum

enta

l va

riab

les

stra

tegy

in

whic

h t

hey

pre

dic

t th

e lik

elih

ood o

f re

pat

riat

ion in

2005 o

n t

he

bas

is o

f:"

Hold

ing h

igh lev

els

of ca

sh a

bro

ad.

"U

se o

f ta

x hav

en h

old

ing c

om

pan

ies.

!The

resu

lts

appea

r to

be

sensi

tive

to t

he

use

of

thes

e in

stru

men

ts.

Wha

t do

exec

utiv

es s

ay?

!G

raham

, H

anlo

n a

nd S

hev

linsu

rvey

of firm

s w

ith

mem

ber

of th

e Tax

Exe

cutive

Inst

itute

; 744 o

ut

of

2806 r

esponded

(th

is is

a gre

at r

esponse

rat

e),

and a

fter

var

ious

excl

usi

ons

411 f

irm

s.!

They

rep

ort

that

ove

r 60%

of

repat

riat

ed f

unds

cam

e fr

om

ove

rsea

s ca

sh h

old

ings.

!The

two m

ost

com

mon r

eport

ed u

ses

of

the

funds

wer

e fo

r pay

ing d

ow

n d

ebt

and r

epurc

has

ing

shar

es;

the

third m

ost

com

mon u

se w

as f

or

U.S

. in

vest

men

t.!

Ver

y lit

tle

report

ed u

se o

f re

pat

riat

ed f

unds

for

div

iden

ds

or

shar

e buyb

acks

.

How

can

we

reco

ncile

thes

e re

spon

ses

with

the

econ

omet

ric e

vide

nce?

!The

trac

ing im

plic

it in t

he

HIA

does

little

to p

reve

nt

avoid

ance

.!

Gra

ham

, H

anlo

n a

nd S

hev

linas

ked

resp

onden

ts w

het

her

they

use

d �

free

d

up�

cash

to r

epurc

has

e sh

ares

, an

d m

any

report

that

they

did

(th

ough t

hey

rep

ort

oth

er u

ses

too,

incl

udin

g U

.S.

inve

stm

ent.

!N

ote

that

the

table

pre

sents

just

fra

ctio

ns

answ

erin

g �

yes,

� not

amounts

.

Effe

cts

of th

e H

IA o

n fu

ture

act

ions

.

!O

ne

of th

e pote

ntial

cost

s of a

�one

tim

e�

polic

y lik

e th

e H

IA is

that

it

may

dis

coura

ge

repat

riat

ions

as firm

s w

ait

for

the

nex

t one.

!G

raham

Han

lon a

nd S

hev

linfind t

hat

m

any

firm

s re

pat

riat

ing u

nder

the

HIA

to

ok

actions

to a

void

rep

atriat

ing

subse

quen

t fo

reig

n p

rofits

.!

Als

o,

man

y firm

s an

tici

pat

e th

at t

he

HIA

m

ight

be

repea

ted.