Unobserved Tax Avoidance and the Tax Elasticity of FDI

Peter Egger, Valeria Merlo and Georg Wamser

No 4921, CESifo Working Paper Series from CESifo

Abstract: This paper investigates the tax responsiveness of multinational firms’ investment decisions in foreign countries, distinguishing firms that are able to avoid taxes (avoiders) from those that are not (non-avoiders). From a theoretical point of view, the tax responsiveness of firms crucially depends on this distinction. Empirically, however, a firm’s ability to avoid profit taxes is inherently unobservable to the researcher. To address this problem, we use a finite mixture modeling approach which allows us to distinguish avoiders from non-avoiders stochastically from a mixture of distributions of the two types of firms. Using panel data on the universe of foreign affiliates of German multinational firms over the years 1999 to 2010, we find that investments of tax avoiders do not respond to host-country profit taxes at all, while those of non-avoiders do. About 11% of the affiliates are estimated to be able to avoid taxes. These investments account for about 58% of the stock of foreign fixed assets held by German multinational firms abroad. A one-percentage-point increase in the statutory corporate profit tax rate of a host country is found to reduce the fixed assets of non-avoiders in that host country by 0.81%.

Keywords: corporate profit taxation; multinational firms; profit shifting; tax avoidance; tax elasticity; finite-mixture model; firm-level data (search for similar items in EconPapers)
JEL-codes: C35 C38 F23 H32 (search for similar items in EconPapers)
Date: 2014
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (33)

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Related works:
Journal Article: Unobserved tax avoidance and the tax elasticity of FDI (2014)
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Persistent link: https://EconPapers.repec.org/RePEc:ces:ceswps:_4921

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