Sorting into Outsourcing: Are Profits Taxed at a Gorilla's Arm's Length?

Christian Josef Bauer and Dominika Langenmayr

No 3967, CESifo Working Paper Series from CESifo

Abstract: This article analyzes profit taxation according to the arm’s length principle in a model where heterogeneous firms sort into foreign outsourcing. We show that multinational firms are able to shift profits abroad even if they fully comply with the tax code. This is because, in equilibrium, intra-firm transactions occur in firms that are better than the market at input production. Moreover, market input prices include a mark-up that arises from the bargaining between the firm and the independent supplier. Transfer prices set at market values following the arm’s length principle thus systematically exceed multinationals’ marginal costs, leading to a reduction of tax payments for each unit sold. The optimal organization of firms hence provides a new rationale for the empirically observed lower tax burden of multinational corporations.

Keywords: outsourcing; profit taxation; transfer pricing; arm's length principle; multinational firms (search for similar items in EconPapers)
JEL-codes: F23 H25 L22 (search for similar items in EconPapers)
Date: 2012
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Citations: View citations in EconPapers (1)

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Related works:
Journal Article: Sorting into outsourcing: Are profits taxed at a gorilla's arm's length? (2013)
Working Paper: Sorting into outsourcing: Are profits taxed at a gorilla’s arm’s length? (2013)
Working Paper: Sorting into Outsourcing: Are Profits Taxed at a Gorilla's Arm's Lenght? (2011)
Working Paper: Sorting into Outsourcing: Are Pro ts Taxed at a Gorilla's Arm's Length? (2011)
Working Paper: Sorting into Outsourcing: Are Profits Taxed at a Gorilla's Arm's Length? (2011)
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